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| BLL > SEC Filings for BLL > Form 10-K on 25-Feb-2009 | All Recent SEC Filings |
25-Feb-2009
Annual Report
Management's discussion and analysis should be read in conjunction with the consolidated financial statements and accompanying notes. Ball Corporation and its subsidiaries are referred to collectively as "Ball" or "the company" or "we" or "our" in the following discussion and analysis.
BUSINESS OVERVIEW
Ball Corporation is one of the world's leading suppliers of metal and plastic packaging to the beverage, food and household products industries. Our packaging products are produced for a variety of end uses and are manufactured in plants around the world. We also supply aerospace and other technologies and services to governmental and commercial customers.
We sell our packaging products primarily to major beverage, food and household products companies with which we have developed long-term customer relationships. This is evidenced by our high customer retention and our large number of long-term supply contracts. While we have a diversified customer base, we sell a majority of our packaging products to relatively few major companies in North America, Europe, the People's Republic of China (PRC) and Argentina, as do our equity joint ventures in Brazil, the U.S. and the PRC. We also purchase raw materials from relatively few suppliers. Because of our customer and supplier concentration, our business, financial condition and results of operations could be adversely affected by the loss of a major customer or supplier or a change in a supply agreement with a major customer or supplier, although our contracts and long-term relationships help us to mitigate those risks in the majority of circumstances.
In the rigid packaging industry, sales and earnings can be improved by reducing costs, increasing prices, developing new products and expanding volume. Over the past two years, we have closed several packaging facilities in support of our ongoing objective of matching our supply with market demand. We have also identified and implemented plans to improve our return on invested capital through the redeployment of assets within our worldwide beverage can business.
While the North American beverage container manufacturing industry is relatively mature, the European, PRC and Brazilian beverage can markets are growing and are expected to continue to grow in the medium to long-term. While we are able to capitalize on this growth by increasing capacity in some of our European can manufacturing facilities by speeding up certain lines and by expansion, we have put on hold various projects, including the completion of the construction of the Poland plant and new construction in India, due to the current world-wide economic environment. We are proceeding with the recently announced new one-line metal beverage can plant in our Brazil joint venture and are adding further can capacity in the existing Brazilian can plant. These Brazilian expansion efforts will be owned by Ball's unconsolidated 50-percent-owned joint venture, Latapack-Ball Embalagens, Ltda., and the expansion is being funded by cash flows from operations and incurrence of debt by the joint venture.
As part of our packaging strategy, we are focused on developing and marketing new and existing products that meet the needs of our customers and the ultimate consumer. These innovations include new shapes, sizes, opening features and other functional benefits of both metal and plastic packaging. This packaging development activity helps us maintain and expand our supply positions with major beverage, food and household products customers. As part of this focus, we installed a new aluminum bottle line, as well as a 24-ounce beverage can production line in our Monticello, Indiana, facility, both of which became operational during the third quarter of 2008.
Ball's consolidated earnings are exposed to foreign exchange rate fluctuations, and we attempt to mitigate this exposure through the use of derivative financial instruments, as discussed in "Quantitative and Qualitative Disclosures About Market Risk" within Item 7A of this report.
The primary customers for the products and services provided by our aerospace and technologies segment are U.S. government agencies or their prime contractors. It is possible that federal budget reductions and priorities, or changes in agency budgets, could limit future funding and new contract awards or delay or prolong contract performance. We expect that the delay of certain program awards, as well as federal budget considerations under the new administration, will have an unfavorable impact on this segment in 2009, and we are taking steps to adjust our resources accordingly.
We recognize sales under long-term contracts in the aerospace and technologies segment using the cost-to-cost, percentage of completion method of accounting. Our present contract mix consists of approximately two-thirds percent cost-type contracts, which are billed at our costs plus an agreed upon and/or earned profit component, while the remainder are fixed-price contracts. We include time and material contracts in the fixed-price category because such contracts typically provide for the sale of engineering labor at fixed hourly rates. Failure to be awarded certain key contracts could further adversely affect segment performance during 2009 compared to 2008.
Throughout the period of contract performance, we regularly reevaluate and, if necessary, revise our estimates of BATC's total contract revenue, total contract cost and progress toward completion. Because of contract payment schedules, limitations on funding and other contract terms, our sales and accounts receivable for this segment include amounts that have been earned but not yet billed.
Management uses various measures to evaluate company performance. The primary financial metric we use is economic value added (tax-effected operating earnings, as defined by the company, less a charge for net operating assets employed). Our goal is to increase economic value added on an annual basis. Other financial metrics we use are earnings before interest and taxes (EBIT); earnings before interest, taxes, depreciation and amortization (EBITDA); diluted earnings per share; operating cash flow and free cash flow (generally defined by the company as cash flow from operating activities less capital expenditures). These financial measures may be adjusted at times for items that affect comparability between periods. Nonfinancial measures in the packaging segments include production efficiency and spoilage rates; quality control figures; environmental, health and safety statistics and production and sales volumes. Additional measures used to evaluate performance in the aerospace and technologies segment include contract revenue realization, award and incentive fees realized, proposal win rates and backlog (including awarded, contracted and funded backlog).
We recognize that attracting, developing and retaining highly talented employees are essential to the success of Ball and, because of this, we strive to pay employees competitively and encourage their ownership of the company's common stock as part of a diversified portfolio. For most management employees, a meaningful portion of compensation is at risk as an incentive, dependent upon economic value-added operating performance. For more senior positions, more compensation is at risk through economic value-added performance and various stock compensation plans. Through our employee stock purchase plan and 401(k) plan, which matches employee contributions with Ball common stock, employees, regardless of organizational level, have opportunities to own Ball stock.
CONSOLIDATED SALES AND EARNINGS
The company has five reportable segments organized along a combination of product lines, after aggregating operating segments that have similar economic characteristics: (1) metal beverage packaging, Americas and Asia; (2) metal beverage packaging, Europe; (3) metal food and household products packaging, Americas; (4) plastic packaging, Americas; and (5) aerospace and technologies. We also have investments in companies in the U.S., the PRC and Brazil, which are accounted for using the equity method of accounting and, accordingly, those results are not included in segment sales or earnings.
Due to first quarter 2008 management reporting changes, Ball's operations in the PRC with 2008 net sales of $289.6 million are now aggregated and included in the metal beverage packaging, Americas and Asia, segment (previously included within the company's European operations). Also, effective January 1, 2007, a plastic pail product line with 2007 net sales of $52.1 million was transferred from the metal food and household products packaging, Americas, segment to the plastic packaging, Americas, segment. Prior periods have been retrospectively adjusted to the current presentation.
Metal Beverage Packaging, Americas and Asia
The metal beverage packaging, Americas and Asia, segment consists of operations located in the U.S., Canada, Puerto Rico (through fiscal year 2008) and the PRC, which manufacture metal container products used in beverage packaging as well as non-beverage plastic containers manufactured and sold mainly in the PRC.
This segment accounted for 40 percent of consolidated net sales in 2008 (41 percent in 2007, including the impact from the $85.6 million legal settlement with Miller discussed below, and 42 percent in 2006). Excluding the effect of the legal settlement, sales were 4 percent lower in 2008 than in 2007, primarily as a result of 2008 decreases in North American sales volumes of approximately 5 percent. The decrease in North American sales volumes was due primarily to lower unit volume sales to carbonated soft drink customers, consistent with the industry, and lost beer sales volumes on discontinuance of a contract that did not provide sufficient profitability. This decrease was somewhat offset by sales volume increases in the PRC of 14 percent during 2008. Sales were 10 percent higher in 2007 than in 2006 (7 percent higher including the effect from the legal settlement) with flat volumes being offset by higher sales prices, which were primarily due to rising aluminum prices and the pass through of various cost increases to customers. Based on publicly available information, we estimate that our shipments of metal beverage containers were approximately 30 percent of total U.S. and Canadian shipments and 22 percent of total PRC shipments in 2008. We continue to focus efforts on the growing custom beverage can business, which includes cans of different shapes, diameters and fill volumes, and cans with added functional attributes for new products and product line extensions.
During the second quarter of 2007, Miller asserted various claims against a wholly owned subsidiary of the company, primarily related to the pricing of the aluminum component of the containers supplied by the subsidiary, and on October 4, 2007, the dispute was settled in mediation. Miller received $85.6 million ($51.8 million after tax) on settlement of the dispute, and Ball retained all of Miller's beverage can and end supply through 2015. Miller received a one-time payment of $70.3 million ($42.5 million after tax) in January 2008 (recorded on the December 31, 2007, consolidated balance sheet in other current liabilities) with the remainder of the settlement to be recovered over the life of the supply contract, which extends through 2015. On July 1, 2008, Miller's business was combined with the U.S. business of Coors Brewing Company, which we also supply, to form MillerCoors, LLC.
Segment earnings in 2008 were $243.5 million ($284.1 million excluding business consolidation costs discussed in more detail below) compared to $240.8 million ($326.4 million excluding the legal settlement) in 2007 and $285.8 million in 2006. Excluding the $40.6 million in business consolidation charges in 2008 and $85.6 million settlement in 2007, earnings in 2008 were lower than in 2007 by 13 percent, primarily due to raw material inventory gains of $52 million realized in 2007, which did not recur in 2008. Earnings in 2008 were also negatively impacted by lower North American sales volumes, which were partially offset by the higher sales volumes in the PRC. Positive cost impacts from a new end technology project commenced in 2006 and other cost optimization measures partially offset the prior year non-recurring inventory gain and the unfavorable net sales volume decreases. The higher segment earnings in 2007, before the legal settlement, compared to 2006 were due to raw material inventory gains in 2007 that exceeded 2006 by approximately $30 million. Also contributing were approximately $9 million of lower manufacturing costs related to the new end technology project and improved production efficiencies. These gains were offset by increased repair and maintenance costs and higher labor and other conversion costs, a portion of which could not be passed through to our customers.
On April 23, 2008, Ball announced that by the end of 2008 it would close a metal beverage packaging plant in Kent, Washington, and in 2008 recorded pretax charges of $7.1 million ($4.3 million after tax), including the sale of the plant facility in the fourth quarter. The closure of the Kent facility is expected to result in net fixed costs savings of approximately $10 million in 2009. Also in the second quarter of 2008, a gain of $7.2 million ($4.4 million after tax) was recorded for the recovery of previously expensed pension, employee severance and other benefit closure obligation costs no longer required. This reflects a decision made in the second quarter to continue to operate existing end-making equipment and not install a new beverage can end module that would have been part of our multi-year project.
On October 30, 2008, Ball announced the closure of two North American metal beverage can plants. A plant in Kansas City, Missouri, which primarily manufactures specialty beverage cans, will be closed by the end of the first quarter 2009, with manufacturing volumes absorbed by other North American beverage can plants. A plant in Puerto Rico, which manufactured 12-ounce beverage cans, was closed at the end of 2008. A pretax charge of
approximately $40.7 million ($25.2 million after tax) was recorded in the fourth quarter of 2008 with an additional $5 million ($3 million after tax) expected in 2009. Cost reductions associated with these plant closings are expected to be up to $30 million in 2009 and be $7 million cash positive upon final disposition of the assets.
Metal Beverage Packaging, Europe
The metal beverage packaging, Europe, segment includes metal beverage packaging products manufactured in Europe. Ball Packaging Europe, which represents an estimated 29 percent of total European metal beverage container manufacturing capacity, has manufacturing plants located in Germany, the United Kingdom, France, the Netherlands, Poland and Serbia, and is the second largest metal beverage container business in Europe.
This segment accounted for 25 percent of consolidated net sales in 2008 (22 percent in 2007 and 20 percent in 2006). Segment sales in 2008 as compared to 2007 were 13 percent higher due largely to approximately 8 percent higher sales volume, consistent with overall market growth; higher sales prices and foreign currency sales gains of 8 percent on the strength of the euro. These positive impacts were offset by certain small unfavorable cost changes, including product mix changes towards smaller containers. Segment sales in 2007 were 26 percent higher than in 2006, due primarily to over 9 percent higher sales volume, higher sales prices and foreign currency sales gains of 9 percent on the strength of the euro. Higher segment volumes in both periods were aided by the growth in Europe of specialty can volumes, including the successful introduction of the Ball sleek can into Italy. The slow return of the metal beverage can to the German market, following the mandatory deposit legislation previously reported on, is being offset by stronger demand outside Germany.
Segment earnings were $230.9 million in 2008, $228.9 million in 2007 and $252.3 million ($176.8 million excluding a $75.5 million property insurance gain) in 2006. Earnings in 2008 were positively impacted by an increase in net margins of $55 million due to the combined impact of the increased sales volumes and price recovery initiatives, which exceeded the negative impact from product mix, as well as approximately $20 million related to a stronger euro. These improvements were partially offset by $36 million of higher other costs including a negative foreign exchange impact from the conversion of the British pound to the euro and $35.1 million for business interruption recoveries in 2007 that were not repeated in 2008 (for further details see below). Earnings in 2007 compared to 2006, excluding the $75.5 million property insurance gain received in 2006 due to a fire at the company's Hassloch, Germany, metal beverage can plant (further details are provided below), were positively impacted by an increase in net margins of $76 million due to the combined impact of increased sales volumes and price recovery initiatives, $16 million from cost control programs and $13 million related to a stronger euro. These improvements were partially offset by $26 million of other higher costs and $15.9 million of lower business interruption insurance recognition in 2007.
On April 1, 2006, a fire in the metal beverage can plant in Hassloch, Germany, damaged a significant portion of the building and machinery and equipment. The property insurance proceeds recorded for the combined years ended December 31, 2007 and 2006, which were based on replacement cost, were €86.3 million ($109.9 million). A €26.7 million ($33.8 million) fixed asset write down was recorded to reflect the estimated impairment of the assets damaged as a result of the fire. As a result, a pretax gain of €59.6 million ($75.5 million) was recorded in the 2006 consolidated statement of earnings to reflect the difference between the net book value of the impaired assets and the property insurance proceeds. An additional €27.2 million ($35.1 million) and €40 million ($51 million) were recorded in cost of sales in 2007 and 2006, respectively, for insurance recoveries related to business interruption costs, as well as €11.3 million ($14.3 million) in 2006 to offset clean-up costs.
Metal Food and Household Products Packaging, Americas
The metal food and household products packaging, Americas, segment consists of operations located in the U.S., Canada and Argentina. The company acquired U.S. Can Corporation (U.S. Can) on March 27, 2006, and with that acquisition, added to its metal food can business the production and sale of aerosol cans, paint cans, plastic pails and decorative specialty cans. Effective January 1, 2007, responsibility for the plastic pail product line, with 2007 net sales of $52.1 million, was transferred to the plastic packaging, Americas, segment. Accordingly, 2006 segment amounts have been retrospectively adjusted to reflect the transfer.
This segment accounted for 16 percent of consolidated net sales in 2008 (16 percent in 2007 and 17 percent in 2006). Segment sales in 2008 increased 3 percent as compared to 2007 mostly due to higher selling prices offset by an approximate 3 percent decrease in sales volumes primarily as a result of decisions by management to discontinue low margin business, which led to the announced closure of our Commerce, California, and Tallapoosa, Georgia, facilities in 2007. We estimate our 2008 shipments account for approximately 19 percent and 50 percent of total annual U.S. and Canadian steel food container and steel aerosol container shipments, respectively. Segment sales in 2007 increased 4 percent as compared to 2006 due to an approximate 10 percent increase in sales for the inclusion of a full year's sales from the acquisition of U.S. Can, partially offset by a 3 percent decline in sales from lost business, as well as customer operating issues in food cans, including a fire in a customer's factory, and unfavorable weather conditions in the Midwest.
Segment earnings were $69.7 million ($68.1 million excluding a $1.6 million gain from business consolidation activities) in 2008, compared to a loss of $8 million (earnings of $36.2 million excluding business consolidation costs of $44.2 million) in 2007 and earnings of $2.4 million ($37.9 million excluding business consolidation costs of $35.5 million) in 2006. Excluding the business consolidation activities for each period, earnings in 2008 exceeded 2007 by approximately 88 percent primarily related to improved pricing, better manufacturing performance and the settlement of a claim in the amount of almost $7 million offset by the negative impact of 3 percent lower sales volumes in 2008. The 4 percent lower earnings in 2007 compared to 2006, excluding the business consolidation charges, were primarily related to increased steel and coating material costs, partially offset by improved manufacturing performance in 2007 and higher cost of sales in the second quarter of 2006 related to $6.1 million of purchase accounting adjustments for inventory valuations associated with the acquired U.S. Can finished goods inventory. While pricing pressures continue on all of our raw materials, other direct materials and freight and utility costs, we continue to seek price increases in the market place.
In October 2007, Ball announced plans to close aerosol manufacturing plants in Tallapoosa, Georgia, and Commerce, California, and announced its intent to exit the custom and decorative tinplate can business located in Baltimore, Maryland. A pretax charge of $44.2 million ($26.8 million after tax) was recorded in the fourth quarter of 2007 primarily related to these closures. Ball incurred additional net pretax charges of $3.5 million primarily related to lease cancellation costs for the closure of the Commerce facility during 2008. Additionally, during the fourth quarter of 2008, it was determined, based on market conditions that we would remain in the custom and decorative tinplate can business, which resulted in the reversal of $5.4 million in business consolidation charges previously recorded. We closed the Tallapoosa facility early in the first quarter of 2009 and do not anticipate further charges related to this closure. When completed in 2009, the actions are expected to yield annualized pretax cost savings in excess of $15 million and improve the aerosol plant utilization rate to more than 85 percent from about 70 percent. The cash costs of these actions are expected to be offset by proceeds on asset dispositions and tax recoveries.
In the fourth quarter of 2006, as part of the realignment of the metal food and household products packaging, Americas, segment, a charge of $35.5 million ($28.7 million after tax) was recorded primarily related to the closure of a plant in Burlington, Ontario, for employee termination and pension costs, plant decommissioning costs and fixed asset impairment charges. The Burlington plant was sold during the third quarter of 2008 completing the restructuring plan, except for pension costs, which resulted in an additional $0.3 million in business consolidation charges.
As reported in our second quarter Form 10-Q, during the third quarter our aerosol business experienced a tinplate supply issue due to a major supplier's failure to deliver committed metal. While this matter affected a limited, seasonal part of this segment's product mix, it caused a supply disruption with some of our customers that resulted in lost sales and profitability for Ball during the year. We have made every effort to fulfill our customers' requests and minimize the impact on our customer base. We are now receiving the necessary tinplate to produce products for our customers, and future raw material supply arrangements are scheduled.
Plastic Packaging, Americas
The plastic packaging, Americas, segment consists of operations located in the U.S. and Canada (through most of the third quarter of 2008), which manufacture PET and polypropylene plastic container products used mainly in beverage and food packaging, as well as high density polyethylene and polypropylene containers for industrial and household product applications. On March 28, 2006, Ball acquired certain North American plastic bottle container
assets from Alcan Packaging (Alcan), including two plastic container manufacturing plants in the U.S. and one in Canada, as well as certain manufacturing equipment and other assets from other Alcan facilities. Effective January 1, 2007, the plastic packaging, Americas, segment assumed responsibility for plastic pail assets acquired as part of the U.S. Can acquisition. Accordingly, 2006 segment amounts have been retrospectively adjusted to reflect the transfer. Manufacturing operations ceased in Canada during the third quarter of 2008 with the closure of the Brampton, Ontario, plant.
This segment accounted for 9 percent of consolidated net sales in 2008 (10 percent in both 2007 and 2006). Segment sales in 2008 decreased 2 percent, or approximately $17 million, as compared to 2007 due to a decrease of approximately 9 percent in sales volume offset by higher raw material cost increases passed through to customers during 2008. The volume loss included decreases in carbonated soft drink and water bottle sales due, in part, to lower convenience store sales by our customers, which were partially offset by higher sales in specialty business markets (e.g., custom hot-fill, alcohol, food and juice drinks). Reduced preform sales also contributed to the 2008 sales decrease due, in part, to the bankruptcy filing of a preform customer. Segment sales in 2007 increased 8 percent as compared to 2006 primarily due to an increase in sales of 7 percent related to the March 2006 acquisition of Alcan and the inclusion of the acquired U.S. Can plastic pail business, as well as an increase of 3 percent for higher sales volumes related to the legacy business.
Segment earnings were $7.5 million in 2008, $25.9 million in 2007 and $28.3 million in 2006. Excluding the business consolidation charges of $8.3 million in 2008 (further details are provided below) and $0.4 million in 2007, earnings in 2008 were lower than in 2007 by approximately 40 percent primarily due to the previously mentioned volume losses and a $1.8 million charge due to a customer bankruptcy filing during the second quarter of 2008. Earnings in 2007 were lower than in 2006 primarily due to lower sales margins related to approximately $5 million of customer pricing concessions and $2 million of higher labor and overhead costs. The earnings inhibitors were partially offset by approximately $2 million from volume growth in specialty PET sales combined with the incremental margin impact of sales in the first quarter of 2007 related to the acquired Alcan and U.S. Can plants. In view of the low PET margins, we continue to focus our efforts on price and margin recovery initiatives, as well as PET development efforts in the custom hot-fill, beer, wine, flavored alcoholic beverage and specialty container markets. In the polypropylene plastic container arena, development efforts are primarily focused on custom packaging markets.
We estimate our 2008 shipments of PET plastic bottles to be approximately 10 percent of total U.S. and Canadian PET container shipments. In addition the plastic packaging, Americas, segment shipped approximately 750 million polypropylene food and specialty containers during 2008.
On June 26, 2008, Ball announced the closure of a plastic packaging manufacturing plant in Brampton, Ontario, which ceased operations in the third quarter of 2008. A pretax charge of $8.3 million ($7.8 million after tax) was recorded during 2008 for employee termination and other benefit costs, lease cancellation costs and fixed asset impairment. The Brampton operations have been . . .
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