Sonoco Products Co. (SON) reported record third quarter adjusted earnings per share (EPS) of 65 cents, up 30% from 50 cents in the prior-year quarter. EPS was in line with the Zacks Consensus Estimate. The increase in earnings was mainly driven by strong volumes and improved productivity.
The adjusted EPS excluded impairment and restructuring charges of 7 cents per share, relating to an asset impairment charge in the Flexible Packaging unit and 1 cent per share of acquisition related costs. Including these items, the company reported EPS of 57 cents. Including 3 cents pertaining to restructuring or asset impairment charges, the prior year quarter’s EPS stood at 47 cents.
Revenue improved 13% year-over-year to $1.05 billion, also in line with the Zacks Consensus Estimate. The improvement was driven by improved volumes, higher selling prices, open-market sales of corrugating medium previously produced under a cost-plus-fixed-management-fee arrangement and acquisitions. This was, however, partially offset by unfavorable foreign currency translation, primarily as a result of the weaker euro.
Costs and Margins
In dollar terms, cost of sales increased 12% year over year to $852.1 million in the quarter, but declined 29 basis points to 81.1% as a percentage of revenue. Gross profit surged 15% to $198.9 million on an annualized basis, expanding gross margin by 29 basis points to 18.9%. Productivity gains, higher volumes, lower pension expenses and cost-control initiatives fueled the increase.
Selling, general, administrative and engineering expenses increased 5% year over year to $102.5 million, whereas as a percentage of sales it dipped 78 basis points to 9.8%. Sonoco’s operating income spiked 28% year over year to $96.4 million, with operating margin increasing 110 basis points to 9.2%.
Segment Performance
Consumer Packaging: The Consumer Packaging segment delivered revenues of $437 million, up 9% compared with $399 million in the prior-year quarter, attributed to the acquisition of Associated Packaging Technologies Inc. Operating profit grew 5% to $44.8 million driven by the aforesaid acquisition, lower pension costs, higher selling prices and productivity improvements, partially offset by higher labor, freight and other costs.
Tubes and Cores/Paper: The segment posted the year-over-year growth of 19% with revenues increasing to $412 million due to higher selling prices, volume recovery in global industrial converted products and paperboard, increased sales of the corrugating medium, partially offset by unfavorable impact of foreign currency translation. Revenue growth, lower pension costs and productivity improvements led to an operating profit of $37.8 million, up from $21.4 million in the year-ago quarter.
Packaging Services Segment: The Packaging Services segment delivered revenues of $112 million, declining 1% year over year, as higher volumes were offset by the negative impact of foreign currency translation and lower sales prices. Lower selling prices and a negative mix of business, partially offset by productivity improvements, led to a decline in operating profit to $1.9 million from $5.4 million in the year-ago quarter.
All Other Sonoco: The All Other Sonoco segment reported the highest increase in revenues of 26% year over year to $91 million. Sales increased mainly due to volume gains in molded plastics, protective packaging and reels and spools, along with acquisition sales and higher selling prices.
Operating profit was $12.5 million, up from $5.4 million in 2009, driven by volume and productivity gains, partially offset by rising resin, paper and wood costs.
Financial Position
Sonoco had cash and cash equivalents of $168.7 million as of September 26, 2010, down from $185.2 million as of June 27, 2010. The company generated cash flows of $145.2 million from operating activities in the quarter, significantly lower than $176 million in the year-ago quarter. The increased level of business activity, entailing greater utilization of cash to fund working capital requirements, resulted in an increase in outflow.
As of September 26, 2010, debt-to-capitalization ratio was 25.5% compared with 24.8% as of June 27, 2010 and 24.9% as of March 28, 2010. The company had $43 million outstanding under its $500 million commercial paper program as of September 26, 2010. The commercial paper program is fully supported by a bank credit facility provided by a syndicate of banks that is committed until May 2011.
Outlook
Sonoco expects fourth quarter earnings to be in the range of 57 to 61 cents per share. For full year, the company raised its guidance in the range of $2.32 to $2.36 per share from its previous guidance of $2.27 to $2.34 per share. The company’s full year earnings guidance includes an effective tax rate of approximately 30%.
The company believes sales will remain near the levels experienced during the past several quarters, adjusted for seasonality, and will experience a slightly negative price/cost relationship, due to increased cost of old corrugated containers. However, the company remains concerned regarding the volatility of old corrugated containers and plastic resin prices, as well as uncertain global economic conditions.
Our Take
We believe Sonoco is well positioned to deliver solid growth driven by Associated Packaging’s material formulations and rotary thermoforming technology. Moreover, Sonoco’s development of multilayer barrier polypropylene food containers is expected to gain pace following the acquisition.
Robust performance at Sonoco comes from expanded volumes in nearly all of its Industrial and Consumer businesses. The company has also implemented various restructuring initiatives to align its manufacturing capacity and fixed cost structure with current market conditions to reap higher profits. However, volatile plastic resin and old corrugated containers prices will affect its margins in the near term. The company currently has a Zacks #4 Rank (short-term Sell rating) on the stock.
Hartsville, South Carolina-based Sonoco is a global manufacturer of consumer and industrial packaging products. The company has more than 300 operations in 35 countries throughout North and South America, Europe, Australia, and Asia. It operates through four reportable segments: Tubes and Cores/Paper, Consumer Packaging, Packaging Services and All Other Sonoco segment.
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