Shares of Sonoco Products Co. (SON) rose 1.9% as the company reported record earnings in the third quarter of 2014. Adjusted earnings improved 14.3% year over year to 72 cents per share from 63 cents earned in the year-ago quarter. The bottom line beat the Zacks Consensus Estimate of 68 cents and also came above the upper end of the company’s guided range of 66–70 cents per share.
Earnings in the quarter benefited from the settlement of a lawsuit, which added approximately 3 cents per share after tax, and a lower effective tax rate. Positive price/cost relationship, modest improvements in manufacturing productivity, lower pension expense and higher volumes also facilitated earnings growth. However, earnings were partially impacted by a negative mix of business along with higher labor, maintenance and other operating costs.
The quarterly results excluded an after-tax charge of 3 cents per share related to restructuring, asset impairment and acquisition. Including this, third-quarter 2014 earnings were 69 cents per share, up from 59 cents in the year-ago quarter, which included an after-tax charge of 4 cents per share related to asset impairment and restructuring charges associated with plant closures.
Operational Update
Net sales increased 3% year over year to $1.26 billion in the quarter driven by higher selling prices, volume improvement and sales from acquisitions. However, revenues fell short of the Zacks Consensus Estimate of $1.27 billion.
Cost of sales increased 3.2% year over year to $1.04 billion. Gross profit went up 2% year over year to $228 million, whereas gross margin declined 20 basis points (bps) to 18%, primarily due to changes in mix.
Selling, general and administrative expenses decreased 5.9% year over year to $111 million due to proceeds from legal settlement and lower management incentive costs, partially offset by higher labor and other expenses. Sonoco’s adjusted operating income rose 10.4% to $117 million from $106 million in the year-ago quarter. Operating margin expanded 70 bps year over year to 9.3%.
Segment Performance
The Consumer Packaging segment reported net sales of $480 million, up from $473 million in the prior-year quarter. Benefits from volume growth, particularly in metal closures, blow molded plastic containers and flexible packaging, partially offset by volume declines in North American composite cans and a negative mix of business. Sales also gained from higher selling prices and sales from a prior-year acquisition.
Operating profit grew 1.3% year over year to $49.8 million due to price/cost improvements and lower pension expense, somewhat offset by negative mix of business and higher labor, maintenance and other operating costs.
Net sales at the Paper and Industrial Converted Products segment went up 2.8% year over year to $481 million driven by sales from business acquired during the past twelve months along with higher selling prices.
Operating profit grew 30% year over year to $49 million led by positive price/cost relationship, legal settlement proceeds, modest productivity improvements, positive volume/mix and lower pension expense partly offset by higher labor, maintenance and other operating costs.
Display and Packaging segment’s net sales increased 6% year over year to $178 million from $168 million in the year-earlier quarter. Volume growth in the U.S. display and packaging, packaging fulfillment activity and international packaging services led to the growth.
Operating profit declined 7% year over year to $7.2 million due to higher operating costs and a negative mix of business.
Protective Solution segment’s net sales grew 5% year over year to $125 million due to higher volume in consumer protective packaging, industrial components and temperature-assured products.
Operating profit at the segment declined 7% to $10.3 million from $11 million in the year-ago quarter, primarily due to negative price/cost relationship and higher maintenance, labor, plant start-up costs and other operating costs.
Financial Performance
Sonoco ended the quarter with cash and cash equivalents of $231.6 million, up from $217.6 million as of 2013-end. Cash flow from operations was $158 million in the reported quarter, down from $177 million in the prior-year quarter.
Long-term debt of the company was $946 million, flat as of 2013-end. During the quarter, Sonoco repurchased 439,000 shares for $18 million under a previously announced share buyback plan to repurchase 2 million shares.
On Aug 26, Sonoco entered into an agreement to acquire Weidenhammer Packaging Group to strengthen its packaging business in Europe and further expand its expertise in stable, highly decorated convenience packaging. The acquisition is worth $383 million in cash, subject to a normal adjustment of networking capital. The acquisition is subject to governmental regulatory review and is expected to close in the fourth quarter of 2014.
The transaction is expected to have no material impact on Sonoco's 2014 base earnings and should be accretive to its 2015 base earnings in the range of 9—14 cents per share, including estimated adjustment for purchase accounting and first year synergies. The acquisition is expected to increase Sonoco's consumer-related packaging and services business to around $2.8 billion in annual sales or around 53% of its combined revenue. In addition, the combination is expected to increase Sonoco's net sales in Europe to roughly 21% of total sales.
Guidance
For the full year, Sonoco revised its earnings per share guidance range to $2.46 to $2.51 from $2.43 to $2.53. Free cash flow is anticipated to be around $110 million for 2014.
Sonoco projected fourth-quarter 2014 earnings per share in the range of 59–64 cents. The company continues to benefit from improvement in volume and margins. Sonoco expects molded resin prices to fall in the fourth quarter, which when combined with the recent market price increases will witness improvement relative to price cost.
The company expects normal seasonality, average volume levels in the consumer business and improved productivity, particularly in flexibles to drive growth
Sonoco will benefit from its continuous effort to drive organic sales growth through the development of innovative solutions. The company remains focused on various projects which utilize its unique i6 Innovation Process. Development of customized solutions through the combination of Sonoco’s technical expertise in material science, design, graphics management and supply chain capabilities will also help customers.
Our View
Organic sales growth, geographic expansion and strategic acquisitions remain growth drivers for Sonoco. However, global economic factors continue to be headwinds for the company.
South Carolina-based Sonoco is a global provider of a variety of consumer packaging, industrial products, protective packaging and packaging supply chain services. The company is also the largest producer of paper-based tubes and cores in North America.
At present, Sonoco carries a Zacks Rank #3 (Hold). Some other stocks worth considering in the sector include AO Smith Corp. (AOS), Advanced Emissions Solutions, Inc. (ADES) and Allegion plc Ordinary Shares (ALLE). All these stocks carry a Zacks Rank #2 (Buy).
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