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| UVV > SEC Filings for UVV > Form 10-K on 29-May-2009 | All Recent SEC Filings |
29-May-2009
Annual Report
The following discussion and analysis of financial condition and results of operations is provided to enhance the understanding of, and should be read in conjunction with, Part I, Item 1, "Business" and Item 8, " Financial Statements and Supplementary Data." For information on risks and uncertainties related to our business that may make past performance not indicative of future results, or cause actual results to differ materially from any forward-looking statements, see "General," and Part I, Item 1A, "Risk Factors."
We are the world's leading independent leaf tobacco merchant and processor. We derive most of our revenues from sales of processed tobacco to manufacturers of tobacco products throughout the world and from fees and commissions for specific services. We sold our lumber and building products operations and agri-products operations during fiscal years 2007 and 2008 and report them as discontinued operations in this Form 10-K.
Early in fiscal year 2007, leaf tobacco markets were in oversupply. The oversupply was primarily concentrated in flue-cured leaf grown in Brazil, where subnormal tobacco quality in prior years, combined with a stronger currency, made that growth less attractive to manufacturers. At the same time, a 16% increase in burley crops, primarily in Malawi and Brazil, resulted in an oversupply of that type of tobacco as well. Crop sizes moderated and by the end of fiscal year 2007, markets were in better balance. In fiscal year 2008, available burley leaf moved to all time lows because of weather reduced crops in Mozambique and Malawi, and inventories of flue-cured tobacco available for sale were trending down as well. Fiscal year 2009 saw dramatic increases in burley crops in Africa, which significantly reduced the burley shortage.
During the last three years, we have taken a number of major steps to better align our operations with markets and improve our financial strength. In fiscal year 2007, we ended our direct involvement in the production of flue-cured tobacco in Africa. We took several restructuring and impairment charges related to reducing our crop sizes and discontinuing our growing projects. We also concentrated on selling uncommitted inventory and improving operating margins. With the sale of most of our non-tobacco operations and the completion of certain tobacco capital projects, heavy demands for capital diminished. We reduced our debt levels and improved our cash flow significantly.
In fiscal year 2008, tight market supply and increased costs due to higher farmer leaf production costs and the weaker U.S. dollar created additional challenges. We continued to pare our operations to match market supply, streamlining our operations in Canada, Malawi, and Zambia during the year, and we reduced our uncommitted inventory levels.
In fiscal year 2009, green tobacco costs were very high during most of the purchasing season, and farmer costs for fertilizer and other input materials for crops that will be marketed in fiscal year 2010 were high as well. Green tobacco prices increased in U.S. dollar terms as the dollar weakened against most currencies early in the year, and those prices also increased in local currency terms to protect supply against competition from commodity crops, which were in great demand. By the end of the year, economic conditions had changed the environment and reduced the pressure on costs for the coming year. The U.S. dollar had strengthened as well, also reducing the pressure on costs.
Looking ahead, we have several observations and initiatives. In our major
origins, we project somewhat smaller crops to be marketed in Brazil in fiscal
year 2010, which should keep flue-cured markets in relative balance. However,
filler grades of burley now face oversupply after the fiscal year 2008
shortages. The crops that were marketed in fiscal year 2009 did much to
alleviate those shortages, and the current crops are extremely large, especially
in Malawi, where production exceeds demand. It is likely that there will be a
considerable amount of excess filler style burley tobacco in fiscal year 2010.
The global economic situation continues to be unpredictable with volatility
continuing in oil prices, currency rates, and capital availability. In light of
that volatility, we will continue to manage our financial resources
conservatively. We also recognize the need to continually improve our
operations. We plan to work to create new efficiencies, including the
consolidation of our U.S. dark tobacco processing in Pennsylvania and the
upgrade of our facility there. We will continue to work with our farmers and our
customers toward security of supply for our customers and stability of markets
for our farmers. Our management team is agile and focused firmly on our business
- the business of providing our customers with quality leaf tobacco that meets
their needs.
As noted above, we previously had operations in lumber and building products and in agri-products. We sold the lumber and building products businesses, along with a portion of the agri-products operations during fiscal year 2007, and we sold the remaining agri-products operations during fiscal year 2008. The lumber and building products operations and agri-products operations are reported as discontinued operations for all periods in the consolidated financial statements, Management's Discussion and Analysis of Financial Condition and Results of Operations, and other sections of this Form 10-K.
Fiscal Year Ended March 31, 2009, Compared to the Fiscal Year Ended March 31, 2008
Diluted earnings per share were $4.32, up nearly 17% from last year's $3.70 per diluted share, reflecting volume increases and improved margins in most regions, along with share repurchases. The benefits of those factors were partially offset by significant foreign currency-related losses. Net income for fiscal year 2009 was $131.7 million, compared to $119.2 million last year. Performance for the prior fiscal year was reduced by restructuring charges of $12.9 million ($0.25 per diluted share after taxes) from employee separation costs related to rationalizing operations in or associated with Africa and Canada, as well as pension curtailment charges related to benefit plan design. Revenues for the latest fiscal year were $2.6 billion, which represented a 19% increase compared to last year. The increase in revenues was primarily caused by increased leaf prices, as higher costs related to both farmer prices and the then weak U.S. dollar were included in product pricing. Volumes shipped also increased, as African burley crops recovered from the weather reduced levels of fiscal year 2008. In addition, trading volumes improved in North America and Asia.
The leaf cost increases seen in most regions during fiscal year 2009 were related to increased farmer pricing earlier in the year when crops were purchased and reflected competition from commodity crops and higher prices for fertilizer and other agronomic input materials. Those cost increases contributed to higher customer pricing. We also experienced significant remeasurement losses related to the rapid strengthening of the U.S. dollar compared to most currencies in tobacco sourcing markets, especially in Brazil. At certain points in our crop financing cycle we have larger net monetary asset exposures, and most of the currency rate changes took place during that time. For fiscal year 2009, currency related losses totaled $50 million, while fiscal year 2008 included currency related gains of $30 million. The $80 million unfavorable year-to-year currency-related charge, most of which was in Brazil, is reflected in selling, general, and administrative expenses and caused the large increase in that line item.
Interest income for the year decreased by $14.9 million to $2.3 million on lower average balances invested, combined with significantly lower interest rates. Interest expense declined by $6.3 million to $35.6 million due to the full year impact of debt reduction completed in fiscal year 2008.
The consolidated effective income tax rate for the twelve months ended March 31, 2009, was approximately 33%. The rate was lower than the 35% U.S. marginal corporate tax rate primarily because we reversed our remaining valuation allowance on foreign tax credit carryforwards when the outlook for utilizing those credits changed.
Flue-cured and Burley Leaf Tobacco Operations
For the fiscal year ended March 31, 2009, segment operating income for the flue-cured and burley operations was up 6% compared to last year, to nearly $190 million, which is the highest level this group has reported in the last five years. The increase was primarily related to improved volumes and margins. Revenues for those operations increased by over $440 million to $2.3 billion. The North American segment reported operating income of $48 million, up nearly 40% from the prior year. The increase was caused primarily by increased sales volumes from both core operations and sales of old crop tobacco as well as improved margins. Those two factors caused a 24% increase in revenues. Cost of sales for this segment increased with increased sales volumes. Selling, general, and administrative costs increased due to higher provisions for losses on farmer advances. Revenues for the Other Regions segment also grew by 24% to $1.8 billion. The increase was entirely related to higher prices as volumes shipped decreased in several regions due to customer demand during last year's shortages that caused increased shipments from inventories. However, operating income fell by 2%, as significant improvements in African operations were offset by the effects of the currency losses, primarily in South America. After experiencing extremely short burley crops in fiscal year 2008, African operations improved as volumes grew, and customer pricing increased, covering the effects of higher farm prices. Those two factors caused margins to return to more normal levels. Comparative performance in Africa also benefited from reduced provisions and write downs related to farmer receivables, as well as last year's $8 million one-time charge in Malawi. Although South American volumes were down, performance was relatively flat before recognition of about $40 million in exchange and remeasurement losses related to the rapid
strengthening of the U.S. dollar. Those losses, compared to gains in fiscal year 2008, were responsible for a $60 million decline in South American earnings. Results for Europe improved on higher volumes, due to shipment timing and to increased demand for tobacco sheet. Results for Asia were slightly lower, reflecting reduced availability of trading volumes. In the Other Regions segment, cost of sales was significantly higher this year reflecting higher cost leaf and the weaker U.S. dollar during the purchasing season. That cost was offset by revenue increases. Selling, general, and administrative expenses were also much higher as the segment absorbed $50 million in currency related costs compared to $26 million in gains last year. There were no other significant changes in that expense category.
Other Tobacco Operations
In the Other Tobacco Operations segment, fiscal year 2009 operating income was $42 million, an increase of 5% over last year on an 11% reduction in revenues. Earnings improved on higher volumes from early shipments of dark tobacco in anticipation of the enactment of U.S. excise tax increases, some price increases related to higher costs, and higher volumes in the oriental tobacco joint venture. Those factors also benefited revenues but were offset by last year's winding down of some just-in-time customer service business that was absorbed by the various regional operations. Overall shipments in the segment were down as the reduction in volumes from the just-in-time customer service business more than offset increases in dark tobacco volumes. As we also saw in the Other Regions segment, cost of sales increased because of higher leaf costs, and selling general and administrative costs increased because of unfavorable currency related costs, which increased this expense by $5 million compared to last year.
Fiscal Year Ended March 31, 2008, Compared to the Fiscal Year Ended March 31, 2007
For the fiscal year ended March 31, 2008, results from continuing operations showed a marked improvement over the fiscal year ended March 31, 2007, reflecting better results in most reportable segments, reduced net interest cost, and a lower effective tax rate. Income from continuing operations was $119.3 million, or $3.71 per diluted share, including the effect of $12.9 million ($0.25 per diluted share) in restructuring costs recognized throughout fiscal year 2008. Those charges included employee separation costs related to rationalizing operations in or related to Africa and Canada, as well as pension curtailment losses on certain defined benefit plans. For fiscal year 2007, we reported income from continuing operations of $80.4 million, or $2.52 per diluted share, including restructuring and impairment charges of $31 million ($0.93 per diluted share) primarily related to the value of farming operations in Africa that we managed and other long-lived assets. Revenues for fiscal year 2008 increased by 7%, to $2.1 billion. Net income for fiscal year 2008, which includes results from discontinued operations, was $119.2 million, or $3.70 per diluted share, compared to $44.4 million, or $1.13 per diluted share, for fiscal year 2007.
Selling, general, and administrative expense for fiscal year 2008 fell by about $24 million compared to fiscal year 2007. This expense is included in segment income and has been discussed in the context of each segment. The specific factors that caused the decrease in this line item are higher currency remeasurement and transaction gains, which are related primarily to the process of purchasing tobacco, the gain on the sale of surplus timberland, the reduction of the Brazilian provision against VAT tax recovery, and lower provisions for farmer receivables, offset by the accrual for statutory termination benefits in Malawi, increased incentive compensation accruals, and higher stock-based compensation.
Interest income for fiscal year 2008 increased by $6.3 million to $17 million on larger average balances invested, which more than offset the effect of falling interest rates. Interest expense fell by nearly $12 million to $42 million due to the full year impact of debt reduction completed in fiscal year 2007 and lower interest rates.
The consolidated effective income tax rate for continuing operations for the fiscal year ended March 31, 2008, was approximately 35%, which is equivalent to the U.S. marginal corporate tax rate. This rate was lower than historical rates for several reasons. Due to a prolonged period of strengthening of the local currency and sales of old crop inventories, the effective tax rate of our Brazilian operation was very low in fiscal year 2008. In addition, we have higher levels of income in the United States. Fiscal year 2007's rate was much higher than the statutory rate at 45%. The higher rate was primarily due to an increase in the valuation allowance related to deferred tax assets from undistributed earnings and foreign tax credit carryforwards and to high state income taxes due to improved earnings in the United States.
The loss from discontinued operations in fiscal year 2008 was inconsequential. For the fiscal year ended March 31, 2007, the loss from discontinued operations was $36 million, or $1.39 per diluted share. Results from discontinued operations reflect the operating results and estimated effects of selling the Company's non-tobacco businesses, the largest part of which occurred in the second fiscal quarter of fiscal year 2007. The Company's financial statements now report the results and financial position of those businesses as discontinued operations for all periods.
Flue-cured and Burley Leaf Tobacco Operations
Flue-cured and burley operations earned $178 million, up $6 million from fiscal year 2007. Results of the North America segment declined by $6 million, reflecting the absence of fiscal year 2007's sales of old crop burley and gains on asset sales. The effect of those one-time items was partially offset by higher volumes and margins from normal operations in fiscal year 2008. North America revenues decreased by $13 million, or 4%, primarily due to fiscal year 2007's U.S. old crop burley sales. Normal operating volumes in the United States increased over the fiscal year ended March 31, 2007. The operating income of the Other Regions segment increased by $12 million, primarily due to increased volumes shipped from Europe and Asia, as well as the recognition of previously deferred income on volumes supplied to our Special Services group. However, in Africa, smaller crops in Malawi and Mozambique not only reduced volumes, but also increased purchasing and processing unit costs in that region, outweighing the benefits of lower charges for farmer bad debts and inventory valuation in fiscal year 2008. We also recorded about $8 million in charges to accrue an obligation established by Malawi court rulings that require employers to provide statutory severance benefits in addition to company-sponsored pension benefits in employment termination situations. Finally, South America results continued to be strong as currency transaction and remeasurement gains reduced the impact of the higher green tobacco and operating costs caused by the weak U.S. dollar. During fiscal year 2008, a gain on the sale of surplus timberland of approximately $6 million and a benefit from the reduction of the valuation allowance against recoverable Brazilian VAT taxes of approximately $8 million provided positive comparisons in the region. However, $8 million in additional bad debt provisions against farmer receivables in fiscal year 2008 and the absence of fiscal year 2007's $8.5 million benefit from the resolution of a revenue tax case more than offset those items. Total provisions for farmer bad debts for Africa and South America in fiscal year 2007 were $32 million and inventory valuation adjustments were $13 million. Fiscal year 2008 amounts were $22 million and $3 million, respectively. Revenues of the Other Regions segment for fiscal year 2008 increased by 7%, primarily due to higher sales prices in South America and Europe, where we experienced increased farmer prices and strong local currencies, and higher volumes in Europe and Asia. Cost of sales increased on higher volumes and higher costs related to the weak U.S. dollar. Selling, general, and administrative expenses of this segment fell because the gains on currency and asset sales were recorded there, as were provisions for loss on farmer receivables.
Other Tobacco Operations
The Other Tobacco Operations segment also showed substantial improvement in fiscal year 2008. This improvement was due to the acceleration of shipments by the Special Services group to wind down most of its business that was being absorbed by regional operations. The comparison of dark tobacco operations for fiscal year 2008 was affected by higher volumes in fiscal year 2007 due to shipment timing and very strong Indonesian wrapper sales. Results for our oriental tobacco joint venture declined for fiscal year 2008, primarily due to significant currency remeasurement losses related to assets denominated in Turkish lira and U.S. dollars. The venture's functional currency is the euro, and both currencies weakened against the euro in fiscal year 2008. Revenues for this segment increased by $59 million in fiscal year 2008.
Accounting Pronouncements
Effective March 31, 2009, we adopted the measurement timing provisions of
Financial Accounting Standards Board ("FASB") Statement of Financial Accounting
Standards No. 158, "Employers' Accounting for Defined Benefit Pension and Other
Postretirement Plans - an amendment of FASB Statements No. 87, 88, 106, and
132(R)" ("SFAS 158"). These provisions require that the funded status of defined
benefit plans be measured as of the balance sheet date, thereby eliminating the
option allowed under the prior guidance, and previously used by us, to measure
funded status at a date up to three months before the balance sheet date. To
adopt the measurement timing provisions, we measured our pension and other
postretirement benefit plans at March 31, 2009, and recorded a direct adjustment
to reduce retained earnings by $1.5 million ($2.3 million before income taxes),
reflecting the expense attributable to the intervening three-month transition
period. As required by the guidance, changes in the fair value of plan assets
and benefit obligations for the full fifteen-month period between the fiscal
year 2008 and 2009 measurement dates were recognized in other comprehensive
income for fiscal year 2009.
Also effective March 31, 2009, we adopted FASB Statement of Financial Accounting Standards No. 161, "Disclosures about Derivative Instruments and Hedging Activities" ("SFAS 161"). SFAS 161 amends FASB Statement of Financial Accounting Standards No. 133, "Accounting for Derivative Instruments and Hedging Activities" and several other accounting pronouncements to require enhanced disclosures about derivatives and hedging activities that are aimed at improving the transparency and understanding of those activities for financial statement users. It requires additional disclosures explaining the objectives and strategies for using derivative instruments, how those instruments and the related hedged items are accounted for, and how they affect our financial position, results of operations, and cash flows. The disclosures required by SFAS 161 are provided in Note 10 to the consolidated financial statements in Item 8.
Effective April 1, 2008, we adopted FASB Statement of Financial Accounting Standards No. 157, "Fair Value Measurements" ("SFAS 157") as it applies to financial assets and financial liabilities. SFAS 157 defines fair value, establishes a framework for measuring fair value under generally accepted accounting principles, and expands disclosures about fair value measurements. As originally issued, SFAS 157 also applied to nonfinancial assets and nonfinancial liabilities; however, the FASB subsequently issued additional guidance that delayed the effective date for those items until fiscal years beginning after November 15, 2008, except where they are currently required to be recognized or disclosed at fair value in the financial statements on at least an annual basis. We do not have any nonfinancial assets or nonfinancial liabilities that are required to be recognized or disclosed at fair value on at least an annual basis. The FASB also issued subsequent guidance to exclude fair value measurements related to leases from the scope of SFAS 157, except where they relate to leases assumed in a business combination. The adoption of SFAS 157 with respect to our financial assets and liabilities did not have a material effect on our operating results or financial position. Disclosures about fair value measurements are provided in Note 11 to the consolidated financial statements in Item 8. We will adopt SFAS 157 for our nonfinancial assets and liabilities, which primarily includes assessments of goodwill and long-lived-assets for potential impairment, effective April 1, 2009. The application of SFAS 157 to those assets and liabilities is not expected to have a material effect on our financial statements.
Effective April 1, 2008, we also adopted FASB Statement of Financial Accounting Standards No. 159, "The Fair Value Option for Financial Assets and Financial Liabilities - Including an amendment of FASB Statement No. 115" ("SFAS 159"). SFAS 159 gives companies the option to report certain financial instruments and other items at fair value on an item-by-item basis (the fair value option) with changes in fair value reported in earnings. We did not elect the fair value option for any financial assets or liabilities that were not already being measured and reported at fair value; therefore, the adoption of SFAS 159 had no impact on our financial statements.
We adopted FASB Interpretation 48, "Accounting for Uncertainty in Income Taxes" ("FIN 48"), effective April 1, 2007. FIN 48 clarifies the accounting for uncertainty in income taxes recognized in the financial statements in accordance with FASB Statement No. 109, "Accounting for Income Taxes." It requires that positions taken or expected to be taken in tax returns meet a "more-likely-than-not" threshold based solely on their technical merit in order to be recognized in the financial statements. It also provides guidance on measuring the amount of a tax position that meets the "more-likely-than-not" criterion. As a result of adopting FIN 48, we recognized a net increase of approximately $10.9 million in our liability related to uncertain tax positions, which was accounted for as a decrease in the April 1, 2007, balance of retained earnings. Additional disclosures related to the adoption and application of FIN 48 are provided in Note 6 to the consolidated financial statements in Item 8.
In addition to the above accounting pronouncements adopted through March 31, 2009, the following pronouncements have been issued and will become effective in fiscal year 2010.
• FASB Statement of Financial Accounting Standards No. 141R, "Business Combinations" ("SFAS 141R"), which requires that companies record assets acquired, liabilities assumed, and noncontrolling interests in business combinations at fair value, separately from goodwill, as of the acquisition date. This approach differs from the cost allocation approach provided under previous accounting guidance and can result in recognition of a gain at acquisition date if the cost to acquire a business is less than the net fair value of the assets acquired, liabilities assumed, and noncontrolling interests. SFAS 141R also provides new guidance on recording assets and liabilities that arise from contingencies in a business combination, and it requires that transaction costs associated with business combinations be charged to expense instead of being recorded as part of the cost of the acquired business. It is effective for fiscal years beginning after December 15, 2008, which means that we will apply the guidance to any business combinations occurring on or after April 1, 2009.
• FASB Statement of Financial Accounting Standards No. 160, "Noncontrolling Interests in Consolidated Financial Statements - an amendment of ARB No. 51" ("SFAS 160"). SFAS 160 requires that noncontrolling interests in subsidiaries that are included in a company's consolidated financial statements, commonly referred to as "minority interests," be reported as a component of shareholders' equity in the balance sheet. It also requires that a company's consolidated net income and comprehensive income include the amounts attributable to both the company's interest and the noncontrolling interest in the subsidiary, identified separately in the financial statements. Finally, the new guidance requires certain disclosures about noncontrolling interests in the consolidated financial statements. SFAS 160 is effective for fiscal years beginning after December 15, 2008. We have various subsidiaries with noncontrolling interests and will begin applying the new guidance in fiscal year 2010. Adoption of SFAS 160 is not expected to have a material impact on our financial statements.
Overview
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