Owens-Illinois 10-Q 2008
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
For Quarter Ended September 30, 2008
(Exact name of registrant as specified in its charter)
(Registrants telephone number, including area code)
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 a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definitions of large accelerated filer, accelerated filer and smaller reporting company in Rule 12b-2 of the Exchange Act.
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Act).
Yes o No x
Indicate the number of shares outstanding of each of the issuers classes of common stock, as of the latest practicable date.
Owens-Illinois, Inc. $.01 par value common stock 167,005,976 shares at September 30, 2008.
Part I FINANCIAL INFORMATION
Item 1. Financial Statements.
The Condensed Consolidated Financial Statements presented herein are unaudited but, in the opinion of management, reflect all adjustments necessary to present fairly such information for the periods and at the dates indicated. All adjustments are of a normal recurring nature. Because the following unaudited condensed consolidated financial statements have been prepared in accordance with Article 10 of Regulation S-X, they do not contain all information and footnotes normally contained in annual consolidated financial statements; accordingly, they should be read in conjunction with the Consolidated Financial Statements and notes thereto appearing in the Registrants Annual Report on Form 10-K for the year ended December 31, 2007.
On July 31, 2007, the Company completed the sale of its plastics packaging business to Rexam PLC. As required by Statement of Financial Accounting Standards (FAS) No. 144, Accounting for the Impairment or Disposal of Long-Lived Assets, the Company has presented the results of operations for the plastics packaging business in the Condensed Consolidated Results of Operations for the three and nine month periods ended September 30, 2007 as discontinued operations.
The format of the Companys 2007 condensed consolidated income statement has been reclassified to conform to the presentation used in the current period.
CONDENSED CONSOLIDATED RESULTS OF OPERATIONS
(Dollars in millions, except per share amounts)
CONDENSED CONSOLIDATED RESULTS OF OPERATIONS
(Dollars in millions, except per share amounts)
See accompanying notes.
CONDENSED CONSOLIDATED BALANCE SHEETS
(Dollars in millions, except per share amounts)
See accompanying notes.
CONDENSED CONSOLIDATED CASH FLOWS
(Dollars in millions)
See accompanying notes.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Tabular data dollars in millions,
1. Earnings Per Share
The following table sets forth the computation of basic and diluted earnings per share:
The convertible preferred stock was included in the computation of diluted earnings per share for the three months ended September 30, 2007 on an if converted basis since the result was dilutive. For purposes of this computation, the preferred stock dividends were not subtracted from the numerator. Options to purchase 422,331 and 411,902 weighted average shares of common stock that were outstanding during the three months ended September 30, 2008 and 2007, respectively, were not included in the computation of diluted earnings per share because the options exercise price was greater than the average market price of the common shares.
The following table sets forth the computation of basic and diluted earnings per share:
The convertible preferred stock was included in the computation of diluted earnings per share for the nine months ended September 30, 2008 and 2007 on an if converted basis for the period prior to actual conversion since the result was dilutive. For purposes of this computation, the preferred stock dividends were not subtracted from the numerator. Options to purchase 186,495 and 1,150,230 weighted average shares of common stock that were outstanding during the nine months ended September 30, 2008 and 2007, respectively, were not included in the computation of diluted earnings per share because the options exercise price was greater than the average market price of the common shares.
The following table summarizes the long-term debt of the Company:
On June 14, 2006, the Companys subsidiary borrowers entered into the Secured Credit Agreement (the Agreement). At September 30, 2008, the Agreement included a $900.0 million revolving credit facility, a 225.0 million Australian dollar term loan, and a 110.8 million Canadian dollar term loan, each of which has a final maturity date of June 15, 2012. It also included a $191.5 million term loan and a 191.5 million term loan, each of which has a final maturity date of June 14, 2013.
As a result of the pending bankruptcy of Lehman Brothers Holdings Inc. and several of its subsidiaries, the Company believes that the maximum amount available under the revolving credit facility was reduced by $32.3 million. After further deducting amounts attributable to letters of credit and overdraft facilities that are supported by the revolving credit facility, at September 30, 2008 the Companys subsidiary borrowers had unused credit of $745.3 million available under the Agreement.
The weighted average interest rate on borrowings outstanding under the Agreement at September 30, 2008 was 6.10%.
During the second quarter of 2008, the Company used cash from operations and borrowings under the Agreement to retire $250 million principal amount of 7.35% Senior Notes which matured in May 2008.
During October 2006, the Company entered into a 300 million European accounts receivable securitization program. The program extends through October 2011, subject to annual
renewal of backup credit lines. In addition, the Company participates in a receivables financing program in the Asia Pacific region with a revolving funding committment of 100 million Australian dollars and 25 million New Zealand dollars that extends through January 2009 and November 2008, respectively.
Information related to the Companys accounts receivable securitization program is as follows:
3. Supplemental Cash Flow Information
4. Comprehensive Income
The components of comprehensive income (loss) are: (a) net earnings; (b) change in fair value of certain derivative instruments; (c) pension and other postretirement benefit adjustments; and (d) foreign currency translation adjustments. Total comprehensive income is as follows:
For the three months ended September 30, 2008 and 2007, foreign currency translation adjustments includes a gain of approximately $32.7 million and a loss of approximately $16.4 million, respectively, related to a hedge of the Companys net investment in a non-U.S. subsidiary.
For the nine months ended September 30, 2008 and 2007, foreign currency translation adjustments includes a gain of approximately $8.3 million and a loss of approximately $22.4 million, respectively, related to a hedge of the Companys net investment in a non-U.S. subsidiary.
Major classes of inventory are as follows:
The Company is one of a number of defendants in a substantial number of lawsuits filed in numerous state and federal courts by persons alleging bodily injury (including death) as a result of exposure to dust from asbestos fibers. From 1948 to 1958, one of the Companys former business units commercially produced and sold approximately $40 million of a high-temperature, calcium-silicate based pipe and block insulation material containing asbestos. The Company exited the pipe and block insulation business in April 1958. The traditional asbestos personal injury lawsuits and claims relating to such production and sale of asbestos material typically allege various theories of liability, including negligence, gross negligence and strict liability and seek compensatory and in some cases, punitive damages in various amounts (herein referred to as asbestos claims).
As of September 30, 2008, the Company has determined that it is a named defendant in asbestos lawsuits and claims involving approximately 13,000 plaintiffs and claimants. Based on an analysis of the lawsuits pending as of December 31, 2007, approximately 89% of plaintiffs either do not specify the monetary damages sought, or in the case of court filings, claim an amount sufficient to invoke the jurisdictional minimum of the trial court. Approximately 9% of plaintiffs specifically plead damages of $15 million or less, and 1% of plaintiffs specifically plead damages greater than $15 million but less than $100 million. Fewer than 1% of plaintiffs specifically plead damages $100 million or greater but less than $123 million.
As indicated by the foregoing summary, current pleading practice permits considerable variation in the assertion of monetary damages. The Companys experience resolving hundreds of thousands of asbestos claims and lawsuits over an extended period demonstrates that the monetary relief which may be alleged in a complaint bears little relevance to a claims merits or disposition value. Rather, the amount potentially recoverable is determined by such factors as the plaintiffs severity of disease, the product identification evidence against specific defendants,
the defenses available to those defendants, the specific jurisdiction in which the claim is made, and the plaintiffs history of smoking or exposure to other possible disease-causative factors.
In addition to the pending claims set forth above, the Company has claims-handling agreements in place with many plaintiffs counsel throughout the country. These agreements require evaluation and negotiation regarding whether particular claimants qualify under the criteria established by such agreements. The criteria for such claims include verification of a compensable illness and a reasonable probability of exposure to a product manufactured by the Companys former business unit during its manufacturing period ending in 1958. Some plaintiffs counsel have historically withheld claims under these agreements for later presentation while focusing their attention on active litigation in the tort system. The Company believes that as of September 30, 2008 there are approximately 1,100 claims against other defendants which are likely to be asserted some time in the future against the Company. These claims are not included in the pending lawsuits and claims totals set forth above.
The Company is also a defendant in other asbestos-related lawsuits or claims involving maritime workers, medical monitoring claimants, co-defendants and property damage claimants. Based upon its past experience, the Company believes that these categories of lawsuits and claims will not involve any material liability and they are not included in the above description of pending matters or in the following description of disposed matters.
Since receiving its first asbestos claim, the Company as of September 30, 2008, has disposed of the asbestos claims of approximately 364,000 plaintiffs and claimants at an average indemnity payment per claim of approximately $7,200. Certain of these dispositions have included deferred amounts payable over a number of years. Deferred amounts payable totaled approximately $29.2 million at September 30, 2008 ($34.0 million at December 31, 2007) and are included in the foregoing average indemnity payment per claim. The Companys indemnity payments for these claims have varied on a per claim basis, and are expected to continue to vary considerably over time. As discussed above, a part of the Companys objective is to achieve, where possible, resolution of asbestos claims pursuant to claims-handling agreements. Failure of claimants to meet certain medical and product exposure criteria in the Companys administrative claims handling agreements has generally reduced the number of marginal or suspect claims that would otherwise have been received. This may have the effect of increasing the Companys per-claim average indemnity payment over time.
The Company believes that its ultimate asbestos-related liability (i.e., its indemnity payments or other claim disposition costs plus related legal fees) cannot be estimated with certainty. Beginning with the initial liability of $975 million established in 1993, the Company has accrued a total of approximately $3.22 billion through 2007, before insurance recoveries, for its asbestos-related liability. The Companys ability reasonably to estimate its liability has been significantly affected by the volatility of asbestos-related litigation in the United States, the expanding list of non-traditional defendants that have been sued in this litigation and found liable for substantial damage awards, the use of mass litigation screenings to generate new lawsuits, the large number of claims asserted or filed by parties who claim prior exposure to asbestos materials but have no present physical impairment as a result of such exposure, and the significant number of co-defendants that have filed for bankruptcy.
The Company has continued to monitor trends which may affect its ultimate liability and has continued to analyze the developments and variables affecting or likely to affect the resolution of pending and future asbestos claims against the Company. The material components of the Companys accrued liability are based on amounts estimated by the Company in connection
with its annual comprehensive review and consist of the following: (i) the reasonably probable contingent liability for asbestos claims already asserted against the Company; (ii) the contingent liability for preexisting but unasserted asbestos claims for prior periods arising under its administrative claims-handling agreements with various plaintiffs counsel; (iii) the contingent liability for asbestos claims not yet asserted against the Company, but which the Company believes it is reasonably probable will be asserted in the next several years, to the degree that an estimation as to future claims is possible, and (iv) the legal defense costs likely to be incurred in connection with the foregoing types of claims.
The significant assumptions underlying the material components of the Companys accrual concern:
a) the extent to which settlements are limited to claimants who were exposed to the Companys asbestos-containing insulation prior to its exit from that business in 1958;
b) the extent to which claims are resolved under the Companys administrative claims handling agreements or on terms comparable to those set forth in those agreements;
c) the extent to which the Companys accelerated settlements in 2007 and 2008 impact the number and type of future claims and lawsuits;
d) the extent of decrease or increase in the inventory of pending serious disease cases;
e) the extent to which the Company is able to defend itself successfully at trial;
f) the extent to which courts and legislatures eliminate, reduce or permit the diversion of financial resources for unimpaired claimants and so-called forum shopping;
g) the extent to which additional defendants with substantial resources and assets are required to participate significantly in the resolution of future asbestos lawsuits and claims;
h) the number and timing of co-defendant bankruptcies; and
i) the extent to which the resolution of co-defendant bankruptcies direct resources to resolve claims that are also presented to the Company.
As noted above, the Company conducts a comprehensive review of its asbestos-related liabilities and costs annually in connection with finalizing and reporting its annual results of operations, unless significant changes in trends or new developments warrant an earlier review. If the results of an annual comprehensive review indicate that the existing amount of the accrued liability is insufficient to cover its estimated future asbestos-related costs, then the Company will record an appropriate charge to increase the accrued liability. The Company believes that an estimation of the reasonably probable amount of the contingent liability for claims not yet asserted against the Company is not possible beyond a period of several years. Therefore, while the results of future annual comprehensive reviews cannot be determined, the Company expects the addition of one year to the estimation period will result in an annual charge.
Other litigation is pending against the Company, in many cases involving ordinary and routine claims incidental to the business of the Company and in others presenting allegations that are non-routine and involve compensatory, punitive or treble damage claims as well as other types
of relief. In accordance with FAS No. 5, the Company records a liability for such matters when it is both probable that the liability has been incurred and the amount of the liability can be reasonably estimated. Recorded amounts are reviewed and adjusted to reflect changes in the factors upon which the estimates are based including additional information, negotiations, settlements, and other events.
The ultimate legal and financial liability of the Company with respect to the lawsuits and proceedings referred to above, in addition to other pending litigation, cannot be estimated with certainty. The Companys reported results of operations for 2007 were materially affected by the $115.0 million fourth quarter charge for asbestos-related costs and asbestos-related payments continue to be substantial. Any future additional charge would likewise materially affect the Companys results of operations for the period in which it is recorded. Also, the continued use of significant amounts of cash for asbestos-related costs has affected and will continue to affect the Companys cost of borrowing and its ability to pursue global or domestic acquisitions. However, the Company believes that its operating cash flows and other sources of liquidity will be sufficient to pay its obligations for asbestos-related costs and to fund its working capital and capital expenditure requirements on a short-term and long-term basis.
7. Segment Information
The Companys former Plastics Packaging segment has been reclassified to discontinued operations for 2007 as a result of the July 31, 2007 sale of that business. Following the sale, the Company redefined its reportable segments and divided the former Glass Containers segment into four geographic segments: (1) Europe; (2) North America; (3) South America; (4) Asia Pacific. These four segments are aligned with the Companys internal approach to managing, reporting, and evaluating performance of its global glass operations. In connection with this change, certain assets and activities not directly related to one of the regions or to glass manufacturing are reported with Retained Corporate Costs and Other. These include licensing, equipment manufacturing, global engineering, and non-glass equity investments. Amounts for 2007 in the following tables are presented on the redefined basis.
The Companys measure of profit for its reportable segments is Segment Operating Profit, which consists of consolidated earnings from continuing operations before interest income, interest expense, provision for income taxes and minority share owners interests in earnings of subsidiaries and excludes amounts related to certain items that management considers not representative of ongoing operations. The Companys management uses Segment Operating Profit, in combination with gross profit percentage and selected cash flow information, to evaluate performance and to allocate resources.
Segment Operating Profit for reportable segments includes an allocation of some corporate expenses based on both a percentage of sales and direct billings based on the costs of specific services provided. Beginning in 2008, the Company revised its method of allocating corporate expenses. The Company decreased slightly the percentage allocation based on sales and significantly expanded the number of functions included in the allocation based on cost of services. It is not practicable to quantify the net effect of these changes on periods prior to 2008. However, the effect for the three and nine months ended September 30, 2008 was to reduce the amount of retained corporate costs by approximately $9.0 million and $29.0 million, respectively. The information below is presented on a continuing operations basis, and therefore, the 2007 amounts exclude amounts related to the discontinued operations. See Note 14 for more information.
Financial information for the three month periods ended September 30, 2008 and 2007 regarding the Companys reportable segments is as follows:
Financial information for the nine month periods ended September 30, 2008 and 2007 regarding the Companys reportable segments is as follows:
Financial information regarding the Companys total assets is as follows:
8. Other Costs and Expenses
During the third quarter of 2008, the Company recorded charges totaling $90.6 million ($79.7 million after tax), for restructuring and related asset impairment, principally in North America. The total of all such charges for the nine months ended September 30, 2008 was $111.7 million ($93.6 million after tax and minority shareowners interests). The charges reflect the additional decisions reached in the Companys ongoing strategic review of its global manufacturing footprint. See Note 10 for additional information.
During the third quarter of 2007, the Company recorded a charge of $61.9 million ($55.0 million after tax), for restructuring and asset impairment in South America and Europe. The charge reflects the initial conclusions of the Companys ongoing strategic review of its global manufacturing footprint. See Note 10 for additional information.
9. Derivative Instruments
At September 30, 2008, the Company had the following derivative instruments related to its various hedging programs:
Interest Rate Swaps Designated as Fair Value Hedges
In the fourth quarter of 2003 and the first quarter of 2004, the Company entered into a series of interest rate swap agreements with a current total notional amount of $700 million that mature from 2010 through 2013. The swaps were executed in order to: (i) convert a portion of the senior notes and senior debentures fixed-rate debt into floating-rate debt; (ii) maintain a capital structure containing appropriate amounts of fixed and floating-rate debt; and (iii) reduce net interest payments and expense in the near-term.
The Companys fixed-to-variable interest rate swaps are accounted for as fair value hedges. Because the relevant terms of the swap agreements match the corresponding terms of the notes, there is no hedge ineffectiveness. Accordingly, the Company recorded the net of the fair market values of the swaps as a long-term asset (liability) along with a corresponding net increase (decrease) in the carrying value of the hedged debt.
Under the swaps, the Company receives fixed rate interest amounts (equal to interest on the corresponding hedged note) and pays interest at a six-month U.S. LIBOR rate (set in arrears) plus a margin spread (see table below). The interest rate differential on each swap is recognized as an adjustment of interest expense during each six-month period over the term of the agreement.
The following selected information relates to fair value swaps at September 30, 2008:
The Company enters into commodity futures contracts related to forecasted natural gas requirements, the objectives of which are to limit the effects of fluctuations in the future market price paid for natural gas and the related volatility in cash flows. The Company continually evaluates the natural gas market with respect to its forecasted usage requirements over the next twelve to eighteen months and periodically enters into commodity futures contracts in order to hedge a portion of its usage requirements over that period. At September 30, 2008, the Company had entered into commodity futures contracts for approximately 60% (approximately 3,510,000 MM BTUs) of its estimated North American usage requirements for the remaining three months of 2008 and approximately 47% (approximately 9,720,000 MM BTUs) for the full year 2009.
The Company accounts for the above futures contracts on the balance sheet at fair value. The effective portion of changes in the fair value of a derivative that is designated as, and meets the required criteria for, a cash flow hedge is recorded in the Accumulated Other Comprehensive Income component of share owners equity (OCI) and reclassified into earnings in the same
period or periods during which the underlying hedged item affects earnings. Any material portion of the change in the fair value of a derivative designated as a cash flow hedge that is deemed to be ineffective is recognized in current earnings.
The above futures contracts are accounted for as cash flow hedges at September 30, 2008.
At September 30, 2008, an unrecognized loss of $20.7 million (pretax and after tax), related to the North American commodity futures contracts, was included in OCI, which will be reclassified into earnings over the next fifteen months. The ineffectiveness related to these natural gas hedges for the three and nine months ended September 30, 2008 was not material.
The Companys subsidiaries may enter into short-term forward exchange or option agreements to purchase foreign currencies at set rates in the future. These agreements are used to limit exposure to fluctuations in foreign currency exchange rates for significant planned purchases of fixed assets or commodities that are denominated in currencies other than the subsidiaries functional currency. Subsidiaries may also use forward exchange agreements to offset the foreign currency risk for receivables and payables not denominated in, or indexed to, their functional currencies. The Company records these short-term forward exchange agreements on the balance sheet at fair value and changes in the fair value are recognized in current earnings.
Balance Sheet Classification
The Company records the fair values of derivative financial instruments on the balance sheet as follows: (1) receivables if the instrument has a positive fair value and maturity within one year, (2) deposits, receivables, and other assets if the instrument has a positive fair value and maturity after one year, (3) accounts payable and other current liabilities if the instrument has a negative fair value and maturity within one year, and (4) other liabilities if the instrument has a negative fair value and maturity after one year.
10. Restructuring Accruals
During the third and fourth quarters of 2007, the Company recorded charges totaling $100.3 million ($84.1 million after tax), for restructuring and asset impairment in all segments. The Company recorded additional charges totaling $111.7 million ($93.6 million after tax and minority share owners interests) during the first three quarters of 2008 for restructuring and asset impairment. The 2008 charges consisted primarily of $88.0 million for the closure of two Canadian plants with additional charges across all segments as well as in Retained Corporate Costs and Other. The combined 2007 and 2008 charges, amounting to $212.0 million, reflect the decisions reached through September 30, 2008 in the Companys ongoing strategic review of its global manufacturing footprint commenced in mid-2007. Amounts recorded by the Company do not include any gains that may be realized upon the ultimate sale or disposition of closed facilities.
In the South American Segments 50%-owned Caribbean affiliate, declining productivity and cash flows resulted in impairment of the Companys equity investment, establishment of valuation allowances against advances to the affiliate, and accrual of certain contingent
obligations for total charges of $45.0 million recorded in 2007 with an additional $0.9 million recorded in the first quarter of 2008.
The Company has decided to curtail and realign selected production capacity and other activities across all segments as well as in Retained Costs and Other. Because the future undiscounted cash flows of the related asset groups were not sufficient to recover their carrying amounts, the assets were considered impaired. As a result the assets were written down to the extent their carrying amounts exceeded fair value. The curtailment of plant capacity and realignment of selected operations will result in elimination of approximately 1,500 jobs and a corresponding reduction in the Companys workforce. The Company accrued certain employee separation costs, plant clean up, and other exit costs. In total, impairments, accrued costs, and other valuation adjustments amounted to $55.3 million in the third and fourth quarters of 2007 with an additional $110.8 million recorded in the first three quarters of 2008. Probable cash expenditures are expected to total approximately $109.7 million. The Company expects that the majority of these costs will be paid out by the end of 2009.
Selected information related to the restructuring accrual is as follows:
During the second quarter of 2005, the Company concluded its evaluation of acquired capacity in connection with the acquisition of BSN Glasspack S.A. and announced the permanent closing of its Düsseldorf, Germany glass container factory, and the shutdown of a furnace at its Reims, France glass container facility, both in 2005. These actions were part of the European integration strategy to optimally align the manufacturing capacities with the market and improve operational efficiencies. As a result, the Company recorded an accrual of 47.1 million through an adjustment to goodwill.
These actions resulted in the elimination of approximately 400 jobs and a corresponding reduction in the Companys workforce. The Company anticipates that it will pay a total of approximately 110.9 million in cash related to severance, benefits, plant clean-up, and other plant closing costs related to restructuring accruals.
The European restructuring accrual recorded in the second quarter of 2005 was in addition to the initial estimated accrual of 63.8 million recorded in 2004. Selected information related to the restructuring accrual is as follows:
The components of the net periodic pension (income) cost for the three months ended September 30, 2008 and 2007 were as follows:
The components of the net periodic pension (income) cost for the nine months ended September 30, 2008 and 2007 were as follows:
12. Postretirement Benefits Other Than Pensions
The components of the net postretirement benefit cost for the three months ended September 30, 2008 and 2007 were as follows:
The components of the net postretirement benefit cost for the nine months ended September 30, 2008 and 2007 were as follows: