UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

(Mark One)
x			QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the Quarterly Period Ended June 30, 2004
or
o			TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from              to            

Commission file number 1-15399

PACKAGING CORPORATION OF AMERICA
(Exact Name of Registrant as Specified in its Charter)

 

(847) 482-3000
(Registrant’s telephone number, including area code)

Not Applicable
(Former name, former address and former fiscal year, if changed since last report)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x   No o

Indicate by check mark whether the registrant is an accelerated filer (as defined in Rule 12b-2 of the Exchange Act). Yes x   No o

As of August 2, 2004, the Registrant had outstanding 106,792,751 shares of common stock, par value $0.01 per share.

 

PART I
FINANCIAL INFORMATION

Item 1. Financial Statements.

Packaging Corporation of America
Condensed Consolidated Balance Sheets

		June 30, 2004			December 31,  2003
(In thousands, except share  and per share amounts)		(unaudited)
Assets
Current assets:
Cash and cash equivalents		$	91,181			$	172,022
Accounts and notes receivable, net of allowance for doubtful accounts of $4,824 and $5,303 as of June 30, 2004 and December 31, 2003, respectively		206,892				191,405
Inventories		166,247				166,312
Prepaid expenses and other current assets		16,265				7,635
Deferred income taxes		24,083				29,703
Total current assets		504,668				567,077
Property, plant and equipment, net		1,371,557				1,372,823
Goodwill and other intangible assets, net of accumulated amortization of $2,407 and $2,079 as of June 30, 2004 and December 31, 2003, respectively		19,793				5,495
Other long-term assets		39,143				39,731
Total assets		$	1,935,161			$	1,985,126
Liabilities and shareholders’ equity
Current liabilities:
Short-term debt and current maturities of long-term debt		$	109,099			$	112,763
Accounts payable		114,239				126,924
Accrued interest		12,572				13,511
Accrued liabilities		72,181				89,779
Total current liabilities		308,091				342,977
Long-term liabilities:
Long-term debt		585,569				585,198
Deferred income taxes		226,363				230,949
Other liabilities		33,568				28,522
Total long-term liabilities		845,500				844,669
Shareholders’ equity:
Common stock (par value $.01 per share, 300,000,000 shares authorized, 106,444,088 shares and 105,651,123 shares issued as of June 30, 2004 and December 31, 2003, respectively)		1,064				1,056
Additional paid in capital		485,371				473,097
Retained earnings		273,805				298,869
Accumulated other comprehensive income:
Unrealized gain on derivatives, net		24,030				25,584
Cumulative foreign currency translation adjustment		28				23
Total accumulated other comprehensive income		24,058				25,607
Unearned compensation on restricted stock		(2,728		)		(1,149		)
Total shareholders’ equity		781,570				797,480
Total liabilities and shareholders’ equity		$1,935,161				$	1,985,126

 

See notes to condensed consolidated financial statements.

2

 

Packaging Corporation of America
Condensed Consolidated Statements of Operations
(unaudited)

		Three Months Ended June 30,
(In thousands, except per share amounts)		2004			2003
Net sales		$	467,393		$	436,470
Cost of sales		(394,569		)	(357,979		)
Gross profit		72,824			78,491
Selling and administrative expenses		(32,428		)	(31,285		)
Corporate overhead		(10,484		)	(10,787		)
Other income (expense), net		256			(3,104		)
Income before interest and taxes		30,168			33,315
Interest expense, net		(7,544		)	(15,716		)
Income before taxes		22,624			17,599
Provision for income taxes		(8,998		)	(6,925		)
Net income		$	13,626		$	10,674
Weighted average common shares outstanding:
Basic		106,157			104,419
Diluted		107,454			106,221
Net income per common share:
Basic		$	0.13		$	0.10
Diluted		$	0.13		$	0.10
Dividends declared per common share		$	0.15		$	—

 

See notes to condensed consolidated financial statements.

3

Packaging Corporation of America
Condensed Consolidated Statements of Operations
(unaudited)

		Six Months Ended June 30,
(In thousands, except per share amounts)		2004			2003
Net sales		$	898,660		$	859,738
Cost of sales		(785,620		)	(709,082		)
Gross profit		113,040			150,656
Selling and administrative expenses		(64,686		)	(63,118		)
Corporate overhead		(20,767		)	(20,966		)
Other expense, net		(1,030		)	(5,775		)
Income before interest and taxes		26,557			60,797
Interest expense, net		(14,947		)	(31,484		)
Income before taxes		11,610			29,313
Provision for income taxes		(4,820		)	(11,512		)
Net income		$	6,790		$	17,801
Weighted average common shares outstanding:
Basic		106,001			104,499
Diluted		107,333			106,323
Net income per common share:
Basic		$	0.06		$	0.17
Diluted		$	0.06		$	0.17
Dividends declared per common share		$	0.30		$	—

 

See notes to condensed consolidated financial statements.

4

 

Packaging Corporation of America
Condensed Consolidated Statements of Cash Flow
(unaudited)

		Six Months Ended June 30,
(In thousands)		2004			2003
Cash Flows from Operating Activities:
Net income		$	6,790		$	17,801
Adjustments to reconcile net income to net cash provided by operating activities:
Depreciation, depletion and amortization		78,243			76,816
Amortization of financing costs		341			1,705
Loss on extinguishment of debt		174			—
Deferred income tax provision		1,034			17,451
Loss on disposals of property, plant and equipment		435			1,450
Pension and postretirement benefits		5,355			3,859
Other, net		(2,706		)	(522		)
Tax benefit associated with employee stock option exercises		3,763			2,714
Changes in components of working capital:
(Increase) decrease in current assets—
Accounts receivable		(13,425		)	(17,239		)
Inventories		4,029			(3,683		)
Prepaid expenses and other		(8,484		)	(16,628		)
Increase (decrease) in current liabilities—
Accounts payable		(15,619		)	5,596
Accrued liabilities		(19,703		)	(13,278		)
Net cash provided by operating activities		40,227			76,042
Cash Flows from Investing Activities:
Additions to property, plant and equipment		(55,398		)	(51,354		)
Acquisition of business		(38,302		)	(3,564		)
Additions to long term assets		(1,713		)	(2,528		)
Proceeds from disposals of property, plant and equipment		3,262			110
Net cash used for investing activities		(92,151		)	(57,336		)
Cash Flows from Financing Activities:
Payments on long-term debt		(3,882		)	(4,024		)
Dividends paid		(31,749		)	—
Repurchases of common stock		—			(17,517		)
Issuance of common stock upon exercise of stock options		6,714			2,981
Net cash used for financing activities		(28,917		)	(18,560		)
Net increase (decrease) in cash and cash equivalents		(80,841		)	146
Cash and cash equivalents, beginning of period		172,022			131,305
Cash and cash equivalents, end of period		$	91,181		$	131,451

 

See notes to condensed consolidated financial statements.

5

Packaging Corporation of America
Notes to Condensed Consolidated Financial Statements
(unaudited)
June 30, 2004

1.   Basis of Presentation

The consolidated financial statements as of June 30, 2004 and 2003 of Packaging Corporation of America (“PCA” or the “Company”) are unaudited but include all adjustments (consisting only of normal recurring adjustments) that management considers necessary for a fair presentation of such financial statements. These financial statements have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and with Article 10 of SEC Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States for complete financial statements. Operating results during the period ended June 30, 2004 are not necessarily indicative of the results that may be expected for the period ending December 31, 2004. These consolidated financial statements should be read in conjunction with PCA’s Annual Report on Form 10-K for the year ended December 31, 2003.

2.   Summary of Accounting Policies

Basis of Consolidation

The accompanying condensed consolidated financial statements of PCA include all wholly-owned subsidiaries. All intercompany transactions have been eliminated. The Company has one joint venture that is accounted for under the equity method.

Use of Estimates

The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts in the financial statements and the accompanying notes. Actual results could differ from those estimates.

Revenue Recognition

The Company recognizes revenue as title to the products is transferred to customers. Shipping and handling billings to a customer in a sales transaction are included in revenue. Shipping and handling costs are included in cost of sales. The Company offers volume rebates to some of its customers. The total cost of these programs is estimated and accrued as a reduction to revenue at the time of the respective sale.

Segment Information

PCA is primarily engaged in one line of business: the manufacture and sale of packaging materials, boxes and containers for industrial and consumer markets. No single customer accounts for more than 10% of total revenues. PCA’s manufacturing operations are located within the United States.

6

---

Packaging Corporation of America
Notes to Condensed Consolidated Financial Statements (Continued)
(unaudited)
June 30, 2004

2.   Summary of Accounting Policies (Continued)

Comprehensive Income

Comprehensive income is as follows:

		Three months ended  June 30,
(In thousands)		2004			2003
Net income		$	13,626		$	10,674
Other comprehensive income (loss), net of tax:
Amortization of Treasury lock		776			—
Unrealized gain on derivatives, net of tax		—			9,885
Foreign currency translation adjustment		—			(4		)
Comprehensive income		$	14,402		$	20,555

 

		Six months ended  June 30,
(In thousands)		2004			2003
Net income		$	6,790		$	17,801
Other comprehensive income (loss), net of tax:
Amortization of Treasury lock		1,554			—
Unrealized gain on derivatives, net of tax		—			10,281
Foreign currency translation adjustment		(5		)	(3		)
Comprehensive income		$	8,339		$	28,079

 

Reclassifications

Prior year’s financial statements have been reclassified where appropriate to conform with the current year presentation.

Stock-Based Compensation

PCA entered into management equity agreements in June 1999 with 125 of its management-level employees. These agreements provided for the grant of options to purchase up to an aggregate of 6,576,460 shares of PCA’s common stock at $4.55 per share, the same price per share at which PCA Holdings LLC purchased common stock in the April 12, 1999 transactions. The agreements called for these options to vest ratably over a five-year period, or, upon completion of an initial public offering, vest fully with contractual restrictions on transfer for a period of up to 18 months following completion of the offering. The options vested with the initial public offering in January 2000, and the restriction period ended in August 2001.

In October 1999, the Company adopted a long-term equity incentive plan, which provides for grants of stock options, stock appreciation rights (SARs), restricted stock and performance awards to directors, officers and employees of PCA, as well as others who engage in services for PCA. Option awards granted to officers and employees vest ratably over a four-year period, whereas option awards granted to directors

7

---

Packaging Corporation of America
Notes to Condensed Consolidated Financial Statements (Continued)
(unaudited)
June 30, 2004

2.   Summary of Accounting Policies (Continued)

vest immediately. Under the plan, which will terminate on June 1, 2009, up to 4,400,000 shares of common stock are available for issuance under the long-term equity incentive plan.

During 2003, the Company began granting shares of restricted stock to certain of its employees and directors. Restricted share awards granted to officers and employees vest over a three to four year period, whereas restricted share awards granted to directors vest over a six-month period. The Company recognizes compensation expense associated with these shares ratably over their vesting periods. A summary of the Company’s restricted share activity follows:

(in thousands)		Shares				Fair Value at  Date of Grant
Balance, December 31, 2003			73,500				$	1,354
Granted			4,500				97
Balance, March 31, 2004			78,000				1,451
Granted			71,500				1,709
Balance, June 30, 2004			149,500				$	3,160

 

As permitted by SFAS No. 123, “Accounting for Stock-Based Compensation” and amended by SFAS No. 148, “Accounting for Stock-Based Compensation—Transition and Disclosure,” the Company has elected to account for its stock option plan under Accounting Principles Board (“APB”) Opinion No. 25, “Accounting for Stock Issued to Employees,” and adopt the disclosure only provisions of SFAS No. 123 and SFAS No. 148. Under APB No. 25, no compensation costs are recognized because the number of options is fixed and the option exercise price is equal to the fair market price of the common stock on the date of the grant. Under SFAS No. 123, stock options are valued at the grant date using the Black-Scholes valuation model and compensation costs are recognized ratably over the vesting period. Had stock options

8

---

Packaging Corporation of America
Notes to Condensed Consolidated Financial Statements (Continued)
(unaudited)
June 30, 2004

2.   Summary of Accounting Policies (Continued)

been accounted for using the fair value method as recommended by SFAS No. 123, compensation expense would have had the following pro forma effect on our net income and earnings per share for the periods presented:

		Three months ended June 30,
(In thousands, except per share amounts)		2004			2003
Net income—as reported		$	13,626		$	10,674
Add: Amortization of unearned compensation on restricted stock, net of tax		54			—
Less: Stock-based compensation expense determined using fair value method, net of tax		(739		)	(665		)
Net income—pro forma		$	12,941		$	10,009
Basic earnings per common share—as reported		$	0.13		$	0.10
Diluted earnings per common share—as reported		$	0.13		$	0.10
Basic earnings per common share—pro forma		$	0.12		$	0.10
Diluted earnings per common share—pro forma		$	0.12		$	0.09

 

		Six months ended June 30,
(In thousands, except per share amounts)		2004			2003
Net income—as reported		$	6,790		$	17,801
Add: Amortization of unearned compensation on restricted stock, net of tax		137			—
Less: Stock-based compensation expense determined using fair value method, net of tax		(1,651		)	(1,406		)
Net income—pro forma		$	5,276		$	16,395
Basic earnings per common share—as reported		$	0.06		$	0.17
Diluted earnings per common share—as reported		$	0.06		$	0.17
Basic earnings per common share—pro forma		$	0.05		$	0.16
Diluted earnings per common share—pro forma		$	0.05		$	0.15

 

The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options which have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions including the expected stock price volatility. Because the Company’s employee stock options have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in management’s opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its employee stock options.

9

---

Packaging Corporation of America
Notes to Condensed Consolidated Financial Statements (Continued)
(unaudited)
June 30, 2004

3.   Earnings Per Share

The following table sets forth the computation of basic and diluted income per common share for the periods presented.

		Three Months Ended June 30,
(In thousands, except  per share data)		2004			2003
Numerator:
Net income		$	13,626		$	10,674
Denominator:
Basic common shares outstanding		106,157			104,419
Effect of dilutive securities:
Restricted stock		34			—
Stock options		1,263			1,802
Dilutive common shares outstanding		107,454			106,221
Basic income per common share		$	0.13		$	0.10
Diluted income per common share		$	0.13		$	0.10

 

		Six Months Ended June 30,
(In thousands, except per share data)		2004			2003
Numerator:
Net income		$	6,790		$	17,801
Denominator:
Basic common shares outstanding		106,001			104,499
Effect of dilutive securities:
Restricted stock		31			—
Stock options		1,301			1,824
Dilutive common shares outstanding		107,333			106,323
Basic income per common share		$	0.06		$	0.17
Diluted income per common share		$	0.06		$	0.17

 

10

---

Packaging Corporation of America
Notes to Condensed Consolidated Financial Statements (Continued)
(unaudited)
June 30, 2004

4.   Inventories

The components of inventories are as follows:

		June 30, 2004			December 31, 2003
(In thousands)					(audited)
Raw materials		$	77,103			$	75,801
Work in progress		5,804				4,895
Finished goods		56,788				54,260
Supplies and materials		63,680				63,922
Inventories at FIFO cost		203,375				198,878
Excess of FIFO over LIFO cost		(37,128		)		(32,566		)
Inventories		$	166,247			$	166,312

 

An actual valuation of inventory under the LIFO method can be made only at the end of each year based on the inventory levels and costs at that time. Accordingly, interim LIFO calculations must necessarily be based on management’s estimates of expected year-end inventory levels and costs. Because these are subject to many forces beyond management’s control, interim results are subject to the final year-end LIFO inventory valuation.

5.   Goodwill and Other Intangible Assets

Goodwill

Changes in the carrying amount of goodwill for the period ended June 30, 2004 are as follows:

(In thousands)
Balance as of December 31, 2003			$	2,286
Acquisition of Acorn Corrugated Box Co.			14,474
Other			(98		)
Total			$	16,662

 

For additional information regarding the acquisition of Acorn Corrugated Box Co., see Note 9.

11

---

Packaging Corporation of America
Notes to Condensed Consolidated Financial Statements (Continued)
(unaudited)
June 30, 2004

5.   Goodwill and Other Intangible Assets (Continued)

Other Intangible Assets

The components of other intangible assets are as follows:

		As of June 30, 2004										As of December 31, 2003
(In thousands)		Gross Carrying Amount					Accumulated Amortization					Gross Carrying Amount					Accumulated Amortization
Intangible assets subject to amortization:
Covenants not to compete			$	1,766				$	1,146				$	1,391				$	887
Customer lists			1,560					1,261					1,560					1,192
			3,326					2,407					2,951					2,079
Intangible assets not subject to amortization:
Intangible pension asset			2,212					—					2,337					—
Total other intangible assets			$	5,538				$	2,407				$	5,288				$	2,079

 

6.   Letters of Credit

A summary of the Company’s letters of credit is set forth in the following table:

		June 30, 2004			December 31, 2003
(In thousands)					(audited)
Workers’ compensation		$	18,573			$	13,775
Environmental		1,113				1,272
Management equity loans		600				600
Total		$	20,286			$	15,647

 

The letter of credit related to the management equity loans guaranteed bank financing to enable certain members of PCA’s management to purchase equity under the management equity agreements discussed in Note 8, Shareholders’ Equity from PCA’s 2003 Annual Report on Form 10-K. The letter of credit expires in August of 2004.

The remaining letters of credit guarantee payment by PCA of workers’ compensation and various environmental obligations, including landfills and solid waste programs.

12

---

Packaging Corporation of America
Notes to Condensed Consolidated Financial Statements (Continued)
(unaudited)
June 30, 2004

7.   Debt

A summary of debt is set forth in the following table:

		June, 30 2004			Dec. 31, 2003
(In thousands)					(audited)
Senior credit facility—
Term Loan, effective interest rate of 2.88% and 2.44% as of June 30, 2004 and December 31, 2003, respectively, due in varying annual installments beginning July 21, 2006 through 2008		$	39,000		$	39,000
Receivables credit facility, effective interest rate of 1.79% and 1.51% as of June 30, 2004 and December 31, 2003, respectively, due October 10, 2006		109,000			109,000
Senior notes, net of discount, interest at 4.375% payable semi-annually, due August 1, 2008		149,452			149,384
Senior notes, net of discount, interest at 5.750% payable semi-annually, due August 1, 2013		396,915			396,743
Senior subordinated notes, interest at 9.625%		—			3,617
Other		301			217
Total		694,668			697,961
Less: current portion		109,099			112,763
Total long-term debt		$	585,569		$	585,198

 

On March 1, 2004, PCA delivered an irrevocable notice to the trustee to redeem the 95¤8% senior subordinated notes on April 1, 2004.  PCA delivered funds totaling $3.8 million, including $0.2 million for early redemption fees, to the trustee on March 31, 2004 for the redemption.  On April 1, 2004, the trustee redeemed the senior subordinated notes.

8.   Employee Benefit Plans and Other Postretirement Benefits

Effective May 1, 2004, PCA adopted a successor pension plan for salaried PCA employees previously covered by Pactiv’s pension plan.  PCA’s salaried pension plan is similar in design, but not identical to, the pension plan provided by Pactiv.  Prior participation service credited under the Pactiv plan will be recognized under PCA’s plan.  Upon retirement, a participant’s total benefit will include both what was earned under the Pactiv plan through April 30, 2004, and what the participant has earned under the successor PCA plan. Benefits earned under the PCA plan are reduced by retirement benefits earned under the Pactiv plan through April 30, 2004.  All assets and liabilities associated with benefits earned through April 30, 2004 for salaried employees and retirees were retained by the Pactiv plan.

13

---

Packaging Corporation of America
Notes to Condensed Consolidated Financial Statements (Continued)
(unaudited)
June 30, 2004

8.   Employee Benefit Plans and Other Postretirement Benefits (Continued)

For the three months and six months ended June 30, 2004 and 2003, net pension costs were comprised of the following:

		Three Months Ended						Six Months Ended
		June 30,						June 30,
(In thousands)		2004			2003			2004			2003
Components of Net Periodic Benefit Cost
Service cost for benefits earned during the year		$	2,695		$	1,288		$	4,178		$	2,576
Interest cost on accumulated benefit obligation		434			119			625			238
Expected return on assets		(1		)	—			(2		)	—
Net amortization of unrecognized amounts		461			104			565			208
Net periodic benefit cost		$	3,589		$	1,511		$	5,366		$	3,022

 

The Company makes pension plan contributions to the extent such contributions are mandatory, actuarially determined and tax deductible. The Company expects to contribute $9.3 million to the pension plans in 2004.

For the three months and six months ended June 30, 2004 and 2003, net postretirement costs were comprised of the following:

		Three Months Ended				Six Months Ended
		June 30,				June 30,
(In thousands)		2004		2003		2004		2003
Components of Net Periodic Benefit Cost
Service cost for benefits earned during the year		$209		$170		$418		$340
Interest cost on accumulated benefit obligation		122		97		244		194
Net amortization of unrecognized amounts		(52	)	(65	)	(104	)	(130	)
Net periodic benefit cost		$279		$202		$558		$404

 

In December 2003, the Medicare Prescription Drug, Improvement and Modernization Act of 2003, (the “Act”) was enacted. The Act introduced a prescription drug benefit under Medicare Part D as well as a federal subsidy to sponsors of retiree health care benefit plans that provide a benefit that is at least actuarially equivalent to Medicare Part D. Because of the employer cost caps that PCA has adopted for its retiree medical plan for salaried employees, the Act is not expected to have any impact on PCA’s future net postretirement benefit costs.

9.   Acquisition

On December 12, 2003, Packaging Corporation of Illinois, a wholly owned subsidiary of PCA, was formed to acquire the assets of Acorn Corrugated Box Co. (“Acorn”) for approximately $38.3 million. The acquisition of Acorn expands PCA’s capabilities in high quality graphics packaging and displays and increases PCA’s presence in the Chicago market. The transaction was completed on February 10, 2004. The purchase price allocation is preliminary as the Company is awaiting appraisals (primarily fixed assets and intangible assets) to finalize this allocation. Sales and total assets of the acquisition were not material.

14

---

Packaging Corporation of America
Notes to Condensed Consolidated Financial Statements (Continued)
(unaudited)
June 30, 2004

9.   Acquisition (Continued)

Operating results of the acquisition subsequent to February 10, 2004 are included in the Company’s 2004 operating results.

10.   Sale of Investment

On June 30, 2004, PCA sold a portion of its interest in Southern Timber Venture, LLC for $2.0 million and recognized a pre-tax gain of $2.0 million.

15

 

Item 2.   Management’s Discussion and Analysis of Financial Condition and Results of Operations.

Overview

Packaging Corporation of America, or PCA, is the sixth largest producer of containerboard and corrugated products in the United States, based on production capacity. Approximately 80% of the containerboard tons produced at our mills is consumed in our corrugated products manufacturing plants. The remaining 20% is sold to domestic customers or the export market. Besides containerboard, we produce a wide variety of products ranging from basic corrugated shipping containers to specialized packaging such as wax-coated boxes for the agriculture industry. We also have multi-color printing capabilities to make high-impact graphics boxes and displays that offer our customers more attractive packaging. Our operating facilities and customers are located primarily in the United States.

Results of Operations

Three Months Ended June 30, 2004 Compared to Three Months Ended June 30, 2003

The historical results of operations of PCA for the three months ended June 30, 2004 and 2003, are set forth below:

		For the Three Months  Ended June 30,
(In thousands)		2004			2003			Change
Net sales		$	467,393		$	436,470		$	30,923
Operating income		$	30,168		$	33,315		$	(3,147	)
Interest expense		(7,544		)	(15,716		)	8,172
Income before taxes		22,624			17,599			5,025
Provision for income taxes		(8,998		)	(6,925		)	(2,073		)
Net income		$	13,626		$	10,674		$	2,952

 

Net Sales

Net sales increased by $30.9 million, or 7.1%, for the three months ended June 30, 2004 from the comparable period in 2003. The increase was the result of increased sales volumes of corrugated products which was partially offset by lower pricing.

Total corrugated products volume sold for the three months ended June 30, 2004 increased 9.6% to 7.7 billion square feet. On a comparable shipments-per-workday basis, corrugated products volume was also up 9.6% from the second quarter of 2003. The percentage increase in volume on a total and shipments-per-workday basis is the same since the second quarter of both 2003 and 2004 contained 63 workdays. Shipments-per-workday is calculated by dividing our total corrugated products volume during the quarter by the number of workdays within the quarter. Containerboard volume to external domestic and export customers was unchanged for the three months ended June 30, 2004 from the three months ended June 30, 2003. Containerboard mill production for the three months ended June 30, 2004 was 578,000 tons compared to 558,000 tons in the same period in 2003.

Income Before Interest and Taxes (Operating Income)

Operating income decreased by $3.1 million, or 9.4%, for the three months ended June 30, 2004 compared to the three months ended June 30, 2003. The decrease was primarily attributable to lower sales prices and higher transportation expenses ($16.9 million) and increases in costs of recycled fiber ($1.7 million). These income reduction items were partially offset by increased sales volume of $14.4 million.

Gross profit decreased $5.7 million, or 7.2%, for the three months ended June 30, 2004 from the comparable period in 2003. Gross profit as a percentage of sales declined from 18.0% of sales in the

16

---

 

second quarter of 2003 to 15.6% of sales in the current quarter due primarily to the decreased sales prices and increased operating costs described previously.

Selling and administrative expenses increased $1.1 million, or 3.7%, for the three months ended June 30, 2004 compared to the same period in 2003. The increase was primarily the result of higher broker commissions ($0.2 million), higher travel and entertainment expenses ($0.2 million), and higher warehousing costs ($0.2 million) due to increased customer requirements.

Other income for the three months ended June 30, 2004 was $0.3 million, an increase of $3.4 million or 108.2%, compared to other expense of $3.1 million for the three months ended June 30, 2003.  During the second quarter of 2004, PCA recorded a $2.0 million pre-tax gain from the sale of a small portion of its investment in Southern Timber Venture, LLC.  PCA also recorded a $0.7 million reduction in legal reserves, and losses on disposals of fixed assets were $0.5 million lower than last year’s comparable period.

Corporate overhead decreased by $0.3 million, or 2.8%, for the three months ended June 30, 2004 from the comparable period in 2003.

Interest Expense and Income Taxes

Interest expense decreased by $8.2 million, or 52.0%, for the three months ended June 30, 2004 from the three months ended June 30, 2003, primarily as a result of the Company’s July 2003 debt refinancing, and lower debt levels.

PCA’s effective tax rate was 39.8% for the three months ended June 30, 2004 and 39.3% for the comparable period in 2003. The effective tax rate varies from the U.S. federal statutory tax rate of 35% principally due to the impact of state and local income taxes and a deduction for extraterritorial income exclusion.

Six Months Ended June 30, 2004 Compared to Six Months Ended June 30, 2003

The historical results of operations of PCA for the six months ended June 30, 2004 amd 2003, are set forth below:

		For the Six Months  Ended June 30,
(In thousands)		2004			2003			Change
Net sales		$	898,660		$	859,738		$	38,922
Operating income		$	26,557		$	60,797		$	(34,240	)
Interest expense		(14,947		)	(31,484		)	16,537
Income before taxes		11,610			29,313			(17,703		)
Provision for income taxes		(4,820		)	(11,512		)	6,692
Net income		$	6,790		$	17,801		$	(11,011	)

 

Net Sales

Net sales increased by $38.9 million, or 4.5%, for the six months ended June 30, 2004 from the comparable period in 2003. The increase was the result of increased sales volumes of corrugated products and containerboard to external third parties which was partially offset by lower pricing.

Total corrugated products volume sold for the six months ended June 30, 2004 increased 8.1% to 14.9 billion square feet. On a comparable shipments-per-workday basis, corrugated products volume was also up 8.1% from the comparable period in 2003. The percentage increase in volume on a total and shipments-per-workday basis is the same since the first half of both 2003 and 2004 contained 126 workdays. Containerboard volume to external domestic and export customers increased 8.5% for the six months

17

---

 

ended June 30, 2004 from the comparable period in 2003.  Containerboard mill production for the six months ended June 30, 2004 was 1,124,000 tons compared to 1,088,000 tons in the same period in 2003.

Income Before Interest and Taxes (Operating Income)

Operating income decreased by $34.2 million, or 56.3%, for the six months ended June 30, 2004 compared to the six months ended June 30, 2003. The decrease was primarily attributable to lower sales prices and higher transportation expenses ($45.9 million) and increases in costs of recycled fiber ($4.3 million), energy ($2.6 million), and wood fiber ($2.2 million). These income reduction items were partially offset by increased sales volume of $20.9 million.

Gross profit decreased $37.6 million, or 25.0%, for the six months ended June 30, 2004 from the comparable period in 2003. Gross profit as a percentage of sales declined from 17.5% of sales in the first six months of 2003 to 12.6% of sales in the first six months of 2004 due primarily to the decreased sales prices and increased operating costs described previously.

Selling and administrative expenses increased $1.6 million, or 2.5%, for the six months ended June 30, 2004 compared to the same period in 2003. The increase was primarily the result of higher warehousing costs ($0.4 million) due to increased customer requirements, higher travel and entertainment expenses ($0.4 million), and increased broker commissions ($0.3 million).

Other expense for the six months ended June 30, 2004 was $1.0 million compared to $5.8 million for the six months ended June 30, 2003, a decrease of $4.8 million or 82.2%.  During the second quarter of 2004, PCA recorded a $2.0 million pre-tax gain from the sale of a small portion of its investment in Southern Timber Venture, LLC.  PCA also recorded a $0.7 million reduction in legal reserves and a $0.5 million credit related to prior years’ property insurance coverage during the first six months of 2004. In addition, the loss on disposal of fixed assets was $1.0 million lower in the first six months of 2004 compared to the first half of 2003.

Corporate overhead decreased by $0.2 million, or 1.0%, for the six months ended June 30, 2004 from the comparable period in 2003.

Interest Expense and Income Taxes

Interest expense decreased by $16.5 million, or 52.5%, for the six months ended June 30, 2004 from the six months ended June 30, 2003, primarily as a result of the Company’s July 2003 debt refinancing, and lower debt levels.

PCA’s effective tax rate was 41.5% for the six months ended June 30, 2004 and 39.3% for the comparable period in 2003. The effective tax rate varies from the U.S. federal statutory tax rate of 35% principally due to the impact of state and local income taxes and a deduction for extraterritorial income exclusion.

Liquidity and Capital Resources

The following table presents a summary of our cash flows for the periods presented:

		For the Six Months  Ended June 30,
(In thousands)		2004			2003			Change
Net cash provided by (used for):
Operating activities		$	40,227		$	76,042		$	(35,815	)
Investing activities		(92,151		)	(57,336		)	(34,815		)
Financing activities		(28,917		)	(18,560		)	(10,357		)
Net increase (decrease) in cash		$	(80,841	)	$	146		$	(80,987	)

 

18

---

 

 

Operating Activities

Cash flow provided by operating activities for the six months ended June 30, 2004 was $40.2 million, a decrease of $35.8 million, or 47.1%, from the comparable period in 2003. The decrease was the result of lower net income as previously described and decreased deferred income taxes as a result of recording a deferred tax asset related to the 2004 net operating loss, as well as higher working capital requirements of $8.0 million. The higher working capital requirements were driven by a $13.0 million payment to Pactiv in January 2004 for a fourth quarter 2003 negotiated settlement of pension benefits and workers’ compensation liabilities dating back to April 12, 1999, the date Tenneco Packaging (now known as Pactiv) sold us to PCA Holdings LLC. This payment was accrued in the fourth quarter of 2003. The higher working capital levels were also driven by unfavorable changes in accounts payable and accrued liabilities, partially offset by lower balances of accounts receivable in 2004 related to the lower pricing previously described and lower inventory levels in 2004 related to strong first and second quarter 2004 sales volumes.

Investing Activities

Net cash used for investing activities for the six months ended June 30, 2004 increased $34.8 million, or 60.7%, to $92.2 million, compared to the six months ended June 30, 2003. The increase was related to more cash used to acquire businesses of $34.7 million, primarily driven by the acquisition of Acorn Corrugated Box Co. in February 2004, and higher general additions to property, plant and equipment of $4.0 million, partially offset by higher proceeds from disposals of $3.2 million during the first half of 2004 compared to the same period in 2003. See Note 9 to our condensed consolidated financial statements included elsewhere in this report for additional information regarding the acquisition of Acorn Corrugated Box Co.

Financing Activities

Net cash used for financing activities totaled $28.9 million for the six months ended June 30, 2004, an increase of $10.4 million, or 55.8%, from the comparable period in 2003. The increase was primarily attributable to dividend payments on PCA’s common stock of $31.7 million in January and April of 2004. This was partially offset by stock repurchases of $17.5 million during the first half of 2003 and higher proceeds received from stock option exercises of $3.7 million in the first half of 2004 compared to the same period in 2003.

PCA’s primary sources of liquidity are net cash provided by operating activities, borrowings under PCA’s senior revolving credit facility, and additional borrowings under PCA’s receivables credit facility. As of June 30, 2004, PCA had $141.0 million in unused borrowing capacity under its existing credit agreements. PCA’s primary uses of cash are for capital expenditures, debt service and common stock dividends, which it expects to be able to fund from these sources.

19

---

 

The following table provides the outstanding balances and the weighted average interest rates as of June 30, 2004 for each of PCA’s outstanding term loan, the revolving credit facility, the receivables credit facility, and the five- and ten-year senior notes:

Borrowing Arrangement				Balance at June 30, 2004					Weighted Average Interest Rate				Projected Annual Cash Interest Payments
				(in thousands)
Term Loan					$	39,000				2.875	%			$	1,121
Senior Revolving Credit Facility:
Revolver—Eurodollar					—					N/A				N/A
Revolver—Base Rate					—					N/A				N/A
Receivables Credit Facility					109,000					1.785				1,946
43¤8% Five-Year Notes					150,000					4.375				6,563
53¤4% Ten-Year Notes					400,000					5.750				23,000
Total					$	698,000				4.677	%			$	32,630

 

The above table excludes unamortized debt discount of $3.6 million at June 30, 2004. It also excludes the impact from the annual cash interest payments of the settlement of the Treasury locks related to the five- and ten-year notes of $27.0 million in July 2003.

The borrowings under the senior revolving credit facility are available to fund PCA’s working capital requirements, capital expenditures and other general corporate purposes. The term loan must be repaid in quarterly installments from July 2006 through 2008. The senior revolving credit facility will terminate in July 2008. The receivables credit facility will terminate in October 2006.

The instruments governing PCA’s indebtedness contain financial and other covenants that limit, among other things, the ability of PCA and its subsidiaries to:

·                    enter into sale and leaseback transactions,

·                    incur liens,

·                    enter into certain transactions with affiliates, or

·                    merge or consolidate with any other person or sell or otherwise dispose of all or substantially all of the assets of PCA.

These limitations could limit our corporate and operating activities.

In addition, we must maintain minimum net worth, maximum leverage and minimum EBITDA to interest ratios under the senior credit facility. A failure to comply with the restrictions contained in the senior credit facility could lead to an event of default, which could result in an acceleration of such indebtedness. Such an acceleration would also constitute an event of default under the notes indenture and the receivables credit facility.

PCA currently expects to incur capital expenditures of approximately $110.0 million in 2004. These expenditures will be used primarily for maintenance capital, cost reduction, business growth and environmental compliance. As of June 30, 2004, PCA had spent $55.4 million for capital expenditures and had committed to spend an additional $48.5 million in 2004 and beyond.

PCA believes that net cash generated from operating activities and available cash-on-hand will be adequate to meet its anticipated debt service requirements, capital expenditures, common stock dividend payments and working capital needs for the next 12 months, and that net cash generated from operating activities and amounts available under the senior revolving credit facility and additional borrowings under its receivables credit facility will be adequate to meet its anticipated debt service requirements, capital

20

---

 

expenditures, common stock dividend payments and working capital needs for the foreseeable future. PCA’s future operating performance and its ability to service or refinance the notes and to extend or refinance the credit facilities will be subject to future economic conditions and to financial, business and other factors, many of which are beyond PCA’s control.

Market Risk and Risk Management Policies

PCA is exposed to the impact of interest rate changes and changes in the market value of its financial instruments. PCA periodically enters into derivatives in order to minimize these risks, but not for trading purposes. As of June 30, 2004, PCA did not have any derivatives.

Environmental Matters

We are subject to, and must comply with, a variety of federal, state and local environmental laws, particularly those relating to air and water quality, waste disposal and the cleanup of contaminated soil and groundwater. The most significant of these laws affecting us are:

·                    Resource Conservation and Recovery Act (RCRA);

·                    Clean Water Act (CWA);

·                    Clean Air Act (CAA);

·                    The Emergency Planning and Community Right-to-Know-Act (EPCRA);

·                    Toxic Substance Control Act (TSCA); and

·                    Safe Drinking Water Act (SDWA).

We believe that we are currently in material compliance with these and all applicable environmental rules and regulations. Because environmental regulations are constantly evolving, we have incurred, and will continue to incur, costs to maintain compliance with these and other environmental laws. In particular, the United States Environmental Protection Agency finalized the Cluster Rules that govern pulp and paper mill operations, including those at the Counce, Filer City, Valdosta and Tomahawk mills. Over the next several years, the Cluster Rules will affect our allowable discharges of air and water pollutants, and require us to spend money to ensure compliance with those new rules.

Impact of Inflation

PCA does not believe that inflation has had a material impact on its financial position or results of operations during the second quarters of 2004 and 2003.

Critical Accounting Policies and Estimates

Management’s discussion and analysis of our financial condition and results of operations are based upon our consolidated financial statements, which have been prepared in accordance with accounting principles generally accepted in the United States of America. The preparation of these financial statements requires us to make estimates and judgments that affect the reported amounts of assets, liabilities, revenues and expenses, and related disclosures of contingent assets and liabilities. On an ongoing basis, we evaluate our estimates, including those related to bad debts, inventories, intangible assets, pensions and other post-retirement benefits, income taxes, and contingencies and litigation. We base our estimates on historical experience and on various other assumptions that are believed to be reasonable under the circumstances, the results of which form the basis for making judgments about the carrying values of assets and liabilities that are not readily apparent from other sources. Actual results may differ from these estimates under different assumptions or conditions.

21

---

 

PCA has included in its Annual Report on Form 10-K for the year ended December 31, 2003 a discussion of its critical accounting policies which we believe affect our more significant judgments and estimates used in the preparation of our consolidated financial statements. PCA has not made any changes in any of these critical accounting policies during the first and second quarters of 2004.

Forward-Looking Statements

Some of the statements in this Quarterly Report on Form 10-Q, and in particular, statements found in Management’s Discussion and Analysis of Financial Condition and Results of Operations, that are not historical in nature may constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements are often identified by the words “will,” “should,” “anticipate,” “believe,” “expect,” “intend,” “estimate,” “hope,” or similar expressions. These statements reflect management’s current views with respect to future events and are subject to risks and uncertainties. There are important factors that could cause actual results to differ materially from those in forward-looking statements, many of which are beyond our control. These factors, risks and uncertainties include the following:

·                    the impact of general economic conditions;

·                    containerboard and corrugated products general industry conditions, including competition, product demand and product pricing;

·                    fluctuations in wood fiber and recycled fiber costs;

·                    fluctuations in purchased energy costs; and

·                    legislative or regulatory requirements, particularly concerning environmental matters.

Our actual results, performance or achievement could differ materially from those expressed in, or implied by, these forward-looking statements, and accordingly, we can give no assurances that any of the events anticipated by the forward-looking statements will transpire or occur, or if any of them do so, what impact they will have on our results of operations or financial condition. In view of these uncertainties, investors are cautioned not to place undue reliance on these forward-looking statements. We expressly disclaim any obligation to publicly revise any forward-looking statements that have been made to reflect the occurrence of events after the date hereof. For a discussion of other factors that may affect our business, see the “Risk Factors” exhibit included in our 2002 Annual Report on Form 10-K.

Available Information

The Company’s internet website address is www.packagingcorp.com. Our annual reports on Form 10-K, quarterly reports on Form 10-Q, current reports on Form 8-K, and amendments to those reports filed or furnished pursuant to section 13(a) or 15(d) of the Exchange Act are available free of charge through our website as soon as reasonably practicable after they are electronically filed with, or furnished to, the Securities and Exchange Commission.

Item 3.   Quantitative and Qualitative Disclosures about Market Risk.

For a discussion of market risks related to PCA, see Part I, Item 2, “Management’s Discussion and Analysis of Financial Condition and Results of Operations—Market Risk and Risk Management Policies” in this Quarterly Report on Form 10-Q.

Item 4.   Controls and Procedures.

PCA’s management, under the supervision and with the participation of the Chief Executive Officer and Chief Financial Officer, evaluated the effectiveness of the design and operation of PCA’s disclosure

22

---

 

controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934, as amended). The evaluation of PCA’s disclosure controls and procedures included a review of the controls’ objectives and design, PCA’s implementation of the controls and the effect of the controls on the information generated for use in this quarterly report on Form 10-Q.

During the quarter ended June 30, 2004, there were no changes in internal controls over financial reporting that have materially affected, or are reasonably likely to materially affect, PCA’s internal control over financial reporting.

Based upon their evaluation as of June 30, 2004, PCA’s Chief Executive Officer and Chief Financial Officer have concluded that PCA’s disclosure controls and procedures are effective to ensure that material information relating to PCA is made known to management, including the Chief Executive Officer and Chief Financial Officer, particularly during the periods when PCA’s periodic reports are being prepared.

23

 

PART II
OTHER INFORMATION

Item 1.   Legal Proceedings.

On May 14, 1999, PCA was named as a defendant in two Consolidated Class Action Complaints which alleged a civil violation of Section 1 of the Sherman Act. The suits, then captioned Winoff Industries, Inc. v. Stone Container Corporation, MDL No. 1261 (E.D. Pa.) and General Refractories Co. v. Gaylord Container Corporation, MDL No. 1261 (E.D. Pa.), name PCA as a defendant based solely on the allegation that PCA is successor to the interests of Tenneco Packaging Inc. and Tenneco Inc., both of which were also named as defendants in the suits, along with nine other linerboard and corrugated sheet manufacturers. The complaints allege that the defendants, during the period October 1, 1993 through November 30, 1995, conspired to limit the supply of linerboard, and that the purpose and effect of the alleged conspiracy was to artificially increase prices of corrugated containers and corrugated sheets, respectively. On November 3, 2003, Pactiv (formerly known as Tenneco Packaging), Tenneco and PCA entered into an agreement to settle the class action lawsuits. The settlement agreement provides for a full release of all claims against PCA as a result of the class action lawsuits and was approved by the Court in an opinion issued on April 21, 2004. Approximately 160 plaintiffs opted out of the class and together filed about ten direct action complaints in various federal courts across the country. All of the opt-out complaints make allegations against the defendants, including PCA, substantially similar to those made in the class actions. The settlement agreement does not cover these direct action cases. These actions have almost all been consolidated as In re Linerboard, MDL 1261 (E.D. Pa.) for pretrial purposes. Fact discovery is proceeding and is currently set to close September 30, 2004. As of the date of this filing, we believe it is not reasonably possible that the outcome of this litigation will have a material adverse effect on our financial position or results of operations.

PCA is also party to various legal actions arising in the ordinary course of our business. These legal actions cover a broad variety of claims spanning our entire business. As of the date of this filing, we believe it is not reasonably possible that the resolution of these legal actions will, individually or in the aggregate, have a material adverse effect on our financial condition or results of operations.

Item 2.   Changes in Securities, Use of Proceeds and Issuer Purchases of Equity Securities.

None.

Item 3.   Defaults Upon Senior Securities.

None.

24

 

Item 4.   Submission of Matters to a Vote of Security Holders.

We held an annual meeting of our shareholders on May 4, 2004 to vote on the following:

(a)  To elect seven nominees to serve on our Board of Directors, each of whom then served as a director of PCA, to serve for an annual term that will expire at the 2005 annual meeting of shareholders and until their successors are elected and qualified. Our stockholders voted to elect all seven nominees. Votes for and votes withheld, by nominee, were as follows:

Nominee				For		Withheld
Paul T. Stecko				95,351,415		4,645,365
Henry F. Frigon.				98,388,474		1,608,306
Louis A. Holland				95,895,346		4,101,434
Justin S. Huscher				95,548,646		4,448,134
Samuel M. Mencoff				76,723,393		23,273,387
Thomas S. Souleles				77,714,739		22,282,041
Rayford K. Williamson				98,367,868		1,628,912

 

(b)    To ratify the Board’s appointment of Ernst & Young LLP as independent auditors for the fiscal year ending December 31, 2004. Our stockholders voted on this matter with 99,162,403 votes for and 808,731 votes against. There were 25,646 abstentions.

Item 5.   Other Information.

None.

Item 6.   Exhibits and Reports on Form 8-K.

a)   Exhibits

31.1		Certification of Chief Executive Officer, As Adopted  Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
31.2		Certification of Chief Financial Officer, As Adopted  Pursuant to Section 302 of the Sarbanes-Oxley Act of 2002
32.1		Certification of Chief Executive Officer Pursuant to 18 U.S.C. §1350, As Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
32.2		Certification of Chief Financial Officer Pursuant to 18 U.S.C. §1350, As Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

 

b)   Reports on Form 8-K

On April 19, 2004, PCA filed a current report on Form 8-K, announcing first quarter 2004 financial results.

On April 20, 2004, PCA filed an amended current report on Form 8-K/A, announcing first quarter 2004 financial results.

On May 14, 2004, PCA filed a current report on Form 8-K, announcing the declaration of a quarterly cash dividend.

On May 19, 2004, PCA filed a current report on Form 8-K, reporting on its strong corrugated products volume during April and the first nine workdays of May.

 

25