Document
UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
________________________________________
FORM 10-Q
––––––––––––––––––––––––––––––––––––––––
QUARTERLY REPORT UNDER SECTION 13 or 15(d) OF
THE SECURITIES EXCHANGE ACT OF 1934
For Quarter Ended September 30, 2017
Commission File Number 1-1687
____________________________________________________________
PPG INDUSTRIES, INC.
(Exact name of registrant as specified in its charter)
––––––––––––––––––––––––––––––––––––––––––––––––––––––––––––
|
| | |
Pennsylvania | | 25-0730780 |
(State or other jurisdiction of incorporation or organization) | | (I.R.S. Employer Identification No.) |
| | |
One PPG Place, Pittsburgh, Pennsylvania | | 15272 |
(Address of principal executive offices) | | (Zip Code) |
(412) 434-3131
(Registrant’s 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, and (2) has been subject to such filing requirements for the past 90 days. Yes ý No ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ý No ¨
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 the definitions of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
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| | | |
Large accelerated filer | ý | Accelerated filer | o |
Non-accelerated filer | o (Do not check if a smaller reporting company) | Smaller reporting company | o |
| | Emerging growth company | o |
If an emerging growth company, indicate by check mark if the Registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act. ¨
Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No ý
As of September 30, 2017, 254,475,927 shares of the Registrant’s common stock, par value $1.66-2/3 per share, were outstanding.
PPG INDUSTRIES, INC. AND SUBSIDIARIES
INDEX
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Item 1. | | |
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Item 2. | | |
Item 3. | | |
Item 4. | | |
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Item 1. | | |
Item 1A. | | |
Item 2. | | |
Item 6. | | |
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PART I. FINANCIAL INFORMATION
Item 1. Financial Statements
PPG INDUSTRIES, INC. AND SUBSIDIARIES
Condensed Consolidated Statement of Income (Unaudited)
($ in millions, except per share amounts)
|
| | | | | | | | | | | | | | | |
| Three Months Ended September 30 | | Nine Months Ended September 30 |
| 2017 | | 2016 | | 2017 | | 2016 |
Net sales | $ | 3,776 |
| | $ | 3,660 |
| | $ | 11,068 |
| | $ | 10,853 |
|
Cost of sales, exclusive of depreciation and amortization | 2,100 |
| | 1,978 |
| | 6,087 |
| | 5,783 |
|
Selling, general and administrative | 905 |
| | 893 |
| | 2,658 |
| | 2,720 |
|
Depreciation | 85 |
| | 82 |
| | 245 |
| | 240 |
|
Amortization | 32 |
| | 31 |
| | 95 |
| | 91 |
|
Research and development, net | 114 |
| | 115 |
| | 337 |
| | 344 |
|
Interest expense | 27 |
| | 34 |
| | 78 |
| | 96 |
|
Interest income | (5 | ) | | (6 | ) | | (13 | ) | | (20 | ) |
Pension settlement charge | — |
| | 968 |
| | 22 |
| | 968 |
|
Asbestos settlement, net | — |
| | — |
| | — |
| | 5 |
|
Other charges | 13 |
| | 12 |
| | 39 |
| | 58 |
|
Other income | (16 | ) | | (21 | ) | | (112 | ) | | (80 | ) |
Income (loss) from continuing operations before income taxes | $ | 521 |
| | $ | (426 | ) | | $ | 1,632 |
| | $ | 648 |
|
Income tax expense (benefit) | 123 |
| | (220 | ) | | 392 |
| | 174 |
|
Income (loss) from continuing operations | $ | 398 |
| | $ | (206 | ) | | $ | 1,240 |
| | $ | 474 |
|
Income from discontinued operations, net of tax | 217 |
| | 27 |
| | 220 |
| | 77 |
|
Net income (loss) attributable to the controlling and noncontrolling interests | $ | 615 |
| | $ | (179 | ) | | $ | 1,460 |
| | $ | 551 |
|
Less: Net income attributable to noncontrolling interests | (6 | ) | | (5 | ) | | (16 | ) | | (18 | ) |
Net income (loss) (attributable to PPG) | $ | 609 |
| | $ | (184 | ) | | $ | 1,444 |
| | $ | 533 |
|
Amounts attributable to PPG: | | | | | | | |
Income (loss) from continuing operations, net of tax | $ | 392 |
| | $ | (211 | ) | | $ | 1,224 |
| | $ | 456 |
|
Income from discontinued operations, net of tax | 217 |
| | 27 |
| | 220 |
| | 77 |
|
Net income (loss) (attributable to PPG) | $ | 609 |
| | $ | (184 | ) | | $ | 1,444 |
| | $ | 533 |
|
| | | | | | | |
Earnings per common share: | | | | | | | |
Income (loss) from continuing operations, net of tax | $ | 1.53 |
| | $ | (0.79 | ) | | $ | 4.76 |
| | $ | 1.71 |
|
Income from discontinued operations, net of tax | 0.85 |
| | 0.10 |
| | 0.86 |
| | 0.29 |
|
Net income (loss) (attributable to PPG) | $ | 2.38 |
| | $ | (0.69 | ) | | $ | 5.62 |
| | $ | 2.00 |
|
Earnings per common share – assuming dilution: | | | | | | | |
Income (loss) from continuing operations, net of tax | $ | 1.52 |
| | $ | (0.79 | ) | | $ | 4.73 |
| | $ | 1.69 |
|
Income from discontinued operations, net of tax | 0.84 |
| | 0.10 |
| | 0.85 |
| | 0.29 |
|
Net income (loss) (attributable to PPG) | $ | 2.36 |
| | $ | (0.69 | ) | | $ | 5.58 |
| | $ | 1.98 |
|
| | | | | | | |
Dividends per common share | $ | 0.45 |
| | $ | 0.40 |
| | $ | 1.25 |
| | $ | 1.16 |
|
The accompanying notes to the condensed consolidated financial statements are an integral part of this condensed consolidated statement.
PPG INDUSTRIES, INC. AND SUBSIDIARIES
Condensed Consolidated Statement of Comprehensive Income (Unaudited)
($ in millions)
|
| | | | | | | | | | | | | | | |
| Three Months Ended September 30 | | Nine Months Ended September 30 |
| 2017 | | 2016 | | 2017 | | 2016 |
Net income (loss) attributable to the controlling and noncontrolling interests | $ | 615 |
| | $ | (179 | ) | | $ | 1,460 |
| | $ | 551 |
|
Other comprehensive income, net of tax: | | | | | | | |
Defined benefit pension and other postretirement benefits | (29 | ) | | 348 |
| | (63 | ) | | 391 |
|
Unrealized foreign currency translation adjustments | 26 |
| | (147 | ) | | 387 |
| | (231 | ) |
Derivative financial instruments | 1 |
| | 8 |
| | (16 | ) | | — |
|
Other comprehensive income, net of tax | $ | (2 | ) | | $ | 209 |
| | 308 |
| | 160 |
|
Total comprehensive income | $ | 613 |
| | $ | 30 |
| | $ | 1,768 |
| | $ | 711 |
|
Less: amounts attributable to noncontrolling interests: | | | | | | | |
Net income | (6 | ) | | (5 | ) | | (16 | ) | | (18 | ) |
Unrealized foreign currency translation adjustments | (2 | ) | | (1 | ) | | (15 | ) | | 1 |
|
Comprehensive income attributable to PPG | $ | 605 |
| | $ | 24 |
| | $ | 1,737 |
| | $ | 694 |
|
The accompanying notes to the condensed consolidated financial statements are an integral part of this condensed consolidated statement.
PPG INDUSTRIES, INC. AND SUBSIDIARIES
Condensed Consolidated Balance Sheet (Unaudited)
($ in millions)
|
| | | | | | | |
| September 30, 2017 | | December 31, 2016 |
Assets | | | |
Current assets: | | | |
Cash and cash equivalents | $ | 2,287 |
| | $ | 1,820 |
|
Short-term investments | 41 |
| | 43 |
|
Receivables (less allowance for doubtful accounts of $25 and $36) | 3,155 |
| | 2,654 |
|
Inventories | 1,805 |
| | 1,514 |
|
Assets held for sale | — |
| | 223 |
|
Other | 350 |
| | 320 |
|
Total current assets | $ | 7,638 |
| | $ | 6,574 |
|
Property, plant and equipment (net of accumulated depreciation of $3,737 and $3,398) | 2,730 |
| | 2,608 |
|
Goodwill | 3,881 |
| | 3,572 |
|
Identifiable intangible assets, net | 2,099 |
| | 1,983 |
|
Deferred income taxes | 421 |
| | 184 |
|
Investments | 261 |
| | 179 |
|
Other assets | 585 |
| | 669 |
|
Total | $ | 17,615 |
| | $ | 15,769 |
|
Liabilities and Shareholders’ Equity | | | |
Current liabilities: | | | |
Accounts payable and accrued liabilities | $ | 3,895 |
| | $ | 3,460 |
|
Restructuring reserves | 107 |
| | 100 |
|
Short-term debt and current portion of long-term debt | 616 |
| | 629 |
|
Liabilities held for sale | — |
| | 64 |
|
Total current liabilities | $ | 4,618 |
| | $ | 4,253 |
|
Long-term debt | 4,089 |
| | 3,787 |
|
Accrued pensions | 758 |
| | 740 |
|
Other postretirement benefits | 767 |
| | 724 |
|
Deferred income taxes | 445 |
| | 417 |
|
Other liabilities | 928 |
| | 935 |
|
Total liabilities | $ | 11,605 |
| | $ | 10,856 |
|
Commitments and contingent liabilities (Note 15) | | |
|
Shareholders’ equity: | | | |
Common stock | 969 |
| | 969 |
|
Additional paid-in capital | 745 |
| | 701 |
|
Retained earnings | 17,106 |
| | 15,984 |
|
Treasury stock, at cost | (10,855 | ) | | (10,472 | ) |
Accumulated other comprehensive loss | (2,063 | ) | | (2,356 | ) |
Total PPG shareholders’ equity | $ | 5,902 |
| | $ | 4,826 |
|
Noncontrolling interests | 108 |
| | 87 |
|
Total shareholders’ equity | $ | 6,010 |
| | $ | 4,913 |
|
Total | $ | 17,615 |
| | $ | 15,769 |
|
The accompanying notes to the condensed consolidated financial statements are an integral part of this condensed consolidated statement.
PPG INDUSTRIES, INC. AND SUBSIDIARIES
Condensed Consolidated Statement of Cash Flows (Unaudited)
($ in millions)
|
| | | | | | | |
| Nine Months Ended September 30 |
| 2017 | | 2016 |
Operating activities: | | | |
Net income attributable to controlling and noncontrolling interests | $ | 1,460 |
| | $ | 551 |
|
Less: Income from discontinued operations | (220 | ) | | (77 | ) |
Income from continuing operations | $ | 1,240 |
| | $ | 474 |
|
Adjustments to reconcile net income to cash from operations: | | | |
Depreciation and amortization | 340 |
| | 331 |
|
Pension expense | 51 |
| | 58 |
|
Pension settlement | 22 |
| | 968 |
|
Stock-based compensation expense | 33 |
| | 37 |
|
Gain from the sale of a business | (25 | ) | | — |
|
Gain from the sale of an equity affiliate | — |
| | (20 | ) |
Equity affiliate earnings, net of distributions received | — |
| | (5 | ) |
Deferred income tax benefit | (55 | ) | | (58 | ) |
Cash contributions to pension plans | (43 | ) | | (74 | ) |
Cash used for restructuring actions | (31 | ) | | (42 | ) |
Cash paid for asbestos settlement funding | — |
| | (813 | ) |
Change in certain asset and liability accounts: | | | |
Receivables | (350 | ) | | (256 | ) |
Inventories | (200 | ) | | (43 | ) |
Other current assets | (40 | ) | | (14 | ) |
Accounts payable and accrued liabilities | 223 |
| | 161 |
|
Taxes and interest payable | (112 | ) | | (93 | ) |
Noncurrent assets and liabilities, net | (103 | ) | | 43 |
|
Other | 70 |
| | (4 | ) |
Cash from operating activities - continuing operations | $ | 1,020 |
| | $ | 650 |
|
Cash from operating activities - discontinued operations | 12 |
| | 126 |
|
Cash from operating activities | $ | 1,032 |
| | $ | 776 |
|
Investing activities: | | | |
Capital expenditures | (207 | ) | | (239 | ) |
Business acquisitions, net of cash balances acquired | (69 | ) | | (321 | ) |
Payments for acquisition of equity investment | (100 | ) | | — |
|
Proceeds from the disposition of a business | 593 |
| | — |
|
Proceeds from the sale of an investment in an equity affiliate | — |
| | 41 |
|
Proceeds from maturity of short-term investments | — |
| | 92 |
|
Payments for the settlement of cross currency swap contracts | (34 | ) | | (36 | ) |
Proceeds from the settlement of cross currency swap and foreign currency contracts | 37 |
| | 37 |
|
Other | — |
| | 14 |
|
Cash from (used for) investing activities - continuing operations | $ | 220 |
| | $ | (412 | ) |
Cash used for investing activities - discontinued operations | (4 | ) | | (33 | ) |
Cash from (used for) investing activities | $ | 216 |
| | $ | (445 | ) |
Financing activities: | | | |
Net change in borrowing with maturities of three months or less | (6 | ) | | (22 | ) |
Net (payments) proceeds on commercial paper and short-term debt | (81 | ) | | 297 |
|
Repayment of long-term debt | (9 | ) | | (253 | ) |
Purchase of treasury stock | (413 | ) | | (400 | ) |
Issuance of treasury stock | 45 |
| | 29 |
|
Dividends paid | (321 | ) | | (309 | ) |
Payments related to tax withholding on stock-based compensation awards | (25 | ) | | (25 | ) |
Other | (41 | ) | | (9 | ) |
Cash used for financing activities | $ | (851 | ) | | $ | (692 | ) |
Effect of currency exchange rate changes on cash and cash equivalents | 70 |
| | (21 | ) |
Net increase (decrease) in cash and cash equivalents | $ | 467 |
| | $ | (382 | ) |
Cash and cash equivalents, beginning of period | 1,820 |
| | 1,311 |
|
Cash and cash equivalents, end of period | $ | 2,287 |
| | $ | 929 |
|
| | | |
Supplemental disclosures of cash flow information: | | | |
Interest paid, net of amount capitalized | $ | 60 |
| | $ | 80 |
|
Taxes paid, net of refunds | $ | 481 |
| | $ | 276 |
|
The accompanying notes to the condensed consolidated financial statements are an integral part of this condensed consolidated statement.
PPG INDUSTRIES, INC. AND SUBSIDIARIES
Notes to Condensed Consolidated Financial Statements (Unaudited)
The condensed consolidated financial statements included herein are unaudited and have been prepared following the requirements of the Securities and Exchange Commission and accounting principles generally accepted in the United States of America ("U.S. GAAP") for interim reporting. Under these rules, certain footnotes and other financial information that are normally required for annual financial statements can be condensed or omitted. These statements include all adjustments, consisting only of normal, recurring adjustments, necessary for a fair presentation of the financial position of PPG Industries, Inc. and its subsidiaries (the "Company" or "PPG") as of September 30, 2017, and the results of their operations and their cash flows for the three and nine months ended September 30, 2017 and 2016. All intercompany balances and transactions have been eliminated. Material subsequent events are evaluated through the report issuance date and disclosed where applicable. These condensed consolidated financial statements should be read in conjunction with the consolidated financial statements and notes included in PPG’s Annual Report on Form 10-K for the year ended December 31, 2016.
On September 1, 2017, PPG completed the sale of its North American fiber glass business to Nippon Electric Glass Co. Ltd. ("NEG"). Refer to Note 3 for additional information. All historical periods have been recast to present the results of operations and cash flows of PPG's North American fiber glass, former European and Asian fiber glass and flat glass businesses, collectively the Glass reportable business segment, as discontinued operations. The December 31, 2016 balance sheet has been recast to present the assets and liabilities of the North American fiber glass business as assets and liabilities held for sale. PPG now has two reportable business segments, Performance Coatings and Industrial Coatings.
The condensed consolidated statement of cash flows has also been recast for the adoption of Accounting Standard Update ("ASU") No. 2016-09, “Improvements to Employee Share-Based Payment Accounting,” as discussed in Note 2.
Net sales, expenses, assets and liabilities can vary during each quarter of the year. Accordingly, the results of operations for the three and nine months ended September 30, 2017 and the trends in these unaudited condensed consolidated financial statements may not necessarily be indicative of the results to be expected for the full year.
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2. | New Accounting Standards |
In August 2017, the Financial Accounting Standards Board ("FASB") issued ASU No. 2017-12, "Derivatives and Hedging - Targeted Improvements to Accounting for Hedging Activities." This ASU modifies the presentation and disclosure of hedging results. Further, it provides partial relief on the timing of certain aspects of hedge documentation and eliminates the requirement to recognize hedge ineffectiveness separately in income. The amendments in this ASU are effective for fiscal years beginning after December 15, 2018 and for interim periods therein. PPG does not believe this ASU will have a material impact on its consolidated financial position, results of operation or cash flows.
In May 2017, the FASB issued ASU No. 2017-09, "Stock Compensation - Scope of Modification Accounting." This ASU requires all equity award modifications to be accounted for as a modification unless the fair value, vesting conditions and classification of the award as equity or liability are the same as the classification of the original award immediately before the original award is modified. The amendments in this ASU are effective for fiscal years beginning after December 15, 2017 and for interim periods therein. PPG does not believe this ASU will have a material impact on its consolidated financial position, results of operation or cash flows.
In March 2017, the FASB issued ASU No. 2017-07, "Improving the Presentation of Net Periodic Pension Cost and Net Periodic Postretirement Benefit Cost." This ASU requires the service cost component of net benefit costs to be disaggregated from all other components and be reported in the same line item or items as other compensation costs. The other components of net benefit cost are required to be presented in the income statement separately from the service cost. The amendments in this ASU are effective for fiscal years beginning after December 15, 2017 and for interim periods therein. PPG does not believe this ASU will have a material impact on its consolidated financial position, results of operation or cash flows.
In January 2017, PPG adopted ASU No. 2017-04, "Simplifying the Test for Goodwill Impairment." This ASU simplifies how an entity is required to test goodwill for impairment by eliminating Step 2 from the goodwill impairment test. Step 2 measures a goodwill impairment loss by comparing the implied fair value of a reporting unit’s goodwill with the carrying amount of that goodwill. Adoption of this ASU did not have a material impact on PPG's consolidated financial position, results of operation or cash flows.
In January 2017, PPG adopted ASU No. 2016-18, "Restricted Cash." This ASU eliminates diversity in practice by requiring the statement of cash flows to reconcile total cash, including deposits with restrictions. PPG does not have a material amount of restricted cash. Adoption of this ASU did not have a material impact on PPG's consolidated financial position, results of operation or cash flows.
In January 2017, PPG adopted ASU No. 2016-09, “Improvements to Employee Share-Based Payment Accounting.” This ASU simplifies certain aspects of the accounting for share-based payment transactions, including income tax requirements, forfeitures, and presentation on the balance sheet and the statement of cash flows. In conjunction with the adoption of this ASU, PPG recast the condensed consolidated statement of cash flows to present withholding tax payments related to stock-based compensation made on behalf of employees as financing outflows. Adoption of this ASU did not have a material impact on PPG's consolidated financial position, results of operation or cash flows.
In February 2016, the FASB issued ASU No. 2016-02, “Leases.” This ASU requires all lessees to recognize on the balance sheet right to use assets and lease liabilities for the rights and obligations created by lease arrangements with terms greater than 12 months. The amendments in this ASU are effective for fiscal years beginning after December 15, 2018 and for interim periods therein. PPG is in the process of assessing the impact the adoption of this ASU will have on its consolidated financial position, results of operations and cash flows.
In May 2014, the FASB issued ASU No. 2014-09, “Revenue from Contracts with Customers: Topic 606.” This ASU replaces nearly all existing U.S. GAAP guidance on revenue recognition. The standard prescribes a five-step model for recognizing revenue, the application of which will require significant judgment. The amendments in this ASU are effective for fiscal years beginning after December 15, 2017, and for interim periods therein. The provisions of this ASU may be applied retroactively or on a modified retrospective (cumulative effect) basis. PPG expects to adopt the standard using the modified retrospective approach in January 2018. In addition, PPG is evaluating recently issued guidance on practical expedients as part of its transition decision. PPG believes the preponderance of the Company’s contracts with customers are standard ship and bill arrangements where revenue is recognized at the time of shipment. Under the provisions of this ASU, PPG believes certain costs currently reported in Selling, general and administrative costs will be reclassified to Cost of sales, exclusive of depreciation and amortization on the Condensed Consolidated Statement of Income, as they represent costs incurred in satisfaction of performance obligations. In addition, PPG expects the cost of certain customer incentives to be recorded as a reduction of Net sales rather than Cost of sales, exclusive of depreciation and amortization or Selling, general and administrative costs. PPG does not believe this ASU will have a significant impact on its consolidated financial position, results of operations and cash flows.
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3. | Acquisitions and Divestitures |
Acquisitions
The Crown Group
On October 2, 2017, PPG acquired The Crown Group (“Crown”), a U.S.-based coatings application services business, which will be reported as part of PPG's coatings services business unit beginning in the fourth quarter 2017. Crown is one of the leading component and product finishers in North America. Crown applies coatings to customers’ manufactured parts and assembled products at 11 U.S. sites. Most of Crown’s facilities, which also provide assembly, warehousing and sequencing services, are located at customer facilities or positioned near customer manufacturing sites. The company serves manufacturers in the automotive, agriculture, construction, heavy truck and alternative energy industries. Crown has annual sales of approximately $125 million.
Taiwan Chlorine Industries
Taiwan Chlorine Industries (“TCI”) was established in 1986 as a joint venture between PPG and China Petrochemical Development Corporation (“CPDC”) to produce chlorine-based products in Taiwan, at which time PPG owned 60 percent of the venture. In conjunction with the 2013 separation of its commodity chemicals business, PPG conveyed to Axiall Corporation ("Axiall") its 60% ownership interest in TCI. Under PPG’s agreement with CPDC, if certain post-closing conditions were not met following the three year anniversary of the separation, CPDC had the option to sell its 40% ownership interest in TCI to Axiall for $100 million. In turn, Axiall had a right to designate PPG as its designee to purchase the 40% ownership interest of CPDC. In April 2016, Axiall announced that CPDC had decided to sell its ownership interest in TCI to Axiall. In June 2016, Axiall formally designated PPG to purchase the 40% ownership interest in TCI. In August 2016, Westlake Chemical Corporation acquired Axiall, which became a wholly-owned subsidiary of Westlake. On April 11, 2017, PPG finalized its purchase of CPDC’s 40% ownership interest in TCI. The difference between the acquisition date fair value and the purchase price of PPG’s 40% ownership interest in TCI has been recorded as a loss in discontinued operations during the nine months-ended September 30, 2017.
Other
In January 2017, PPG completed the acquisition of DEUTEK S.A., a leading Romanian paint and architectural coatings manufacturer, from the Emerging Europe Accession Fund. DEUTEK, established in 1993, manufactures and markets a large portfolio of well-known professional and consumer paint brands, including OSKAR® and DANKE!®. The company’s products are sold in more than 120 do-it-yourself stores and 3,500 independent retail outlets in Romania. PPG also acquired certain assets of automotive refinish coatings company Futian Xinshi ("Futian"), an automotive refinish coatings company based in the Guangdong province of China. Futian distributes its products in China through a network of more than 200 distributors.
Divestitures
Glass Segment
On September 1, 2017, PPG completed the sale of its North American fiber glass business to NEG, which represents the culmination of a multi-year strategic shift in the Company's business portfolio, resulting in the exit of all glass operations. Accordingly, the results of operations, including the gain on the disposal, and cash flows for its former Glass reportable business segment have been recast as discontinued operations for all periods presented, which consists of the fiber glass business, PPG's ownership interest in two Asian fiber glass joint ventures and the flat glass business. PPG now has two reportable business segments.
The net sales and income from discontinued operations related to the former Glass reportable business segment for the three and nine months ended September 30, 2017 and 2016 were as follows:
|
| | | | | | | | | | | | | | | |
| Three Months Ended September 30 | | Nine Months Ended September 30 |
($ in millions) | 2017 | | 2016 | | 2017 | | 2016 |
Net sales | $ | 50 |
| | $ | 285 |
| | $ | 217 |
| | $ | 828 |
|
| | | | | | | |
Income from operations | $ | 5 |
| | $ | 38 |
| | $ | 23 |
| | $ | 109 |
|
Net gain on divestiture of North American fiber glass business | 343 |
| | — |
| | 343 |
| | — |
|
Income tax expense | 131 |
| | 11 |
| | 138 |
| | 32 |
|
Income from discontinued operations, net of tax | $ | 217 |
| | $ | 27 |
| | $ | 228 |
| | $ | 77 |
|
North American Fiber Glass Business
Pre-tax proceeds from the sale were $541 million, resulting in a pre-tax gain of $343 million, net of certain accruals and contingencies established in conjunction with the divestiture.
PPG’s fiber glass operations included manufacturing facilities in Chester, South Carolina, and Lexington and Shelby, North Carolina; and administrative and research-and-development operations in Shelby and in Harmar, Pennsylvania, near Pittsburgh. The business, which employed more than 1,000 people and had net sales of approximately $350 million in 2016, supplies the transportation, energy, infrastructure and consumer markets. In 2016, PPG completed the sale of its European fiber glass operations to NEG and divested its ownership interests in two Asian fiber glass joint ventures.
The Company's December 31, 2016 balance sheet has been recast to present the assets and liabilities of the North American fiber glass business as held for sale.
The major classes of assets and liabilities of the North American fiber glass business included in the PPG condensed, consolidated balance sheet at December 31, 2016 were as follows:
|
| | | | |
($ in millions) | | December 31, 2016 |
Receivables, net | | $ | 38 |
|
Inventory | | 32 |
|
Other current assets | | 1 |
|
Property, plant and equipment, net | | 151 |
|
Deferred tax asset (a) | | (30 | ) |
Other non-current assets | | 1 |
|
Assets held for sale | | $ | 193 |
|
Accounts payable and accrued liabilities | | 52 |
|
Long-term liabilities | | 12 |
|
Liabilities held for sale | | $ | 64 |
|
(a) The net deferred income tax liability is included in assets held for sale due to the Company's tax jurisdictional netting.
Flat Glass Business
In October 2016, PPG completed the sale of its flat glass manufacturing and glass coatings operations to Vitro S.A.B. de C.V. For the three and nine months ended September 30, 2016, the results of operations of the flat glass business are presented as discontinued operations on the condensed consolidated statements of income and cash flows.
Plaka Business
In June 2017, PPG completed the sale of the assets of its Mexico-based Plaka plasterboard and cement-board business to Knauf International GmbH and recorded a pre-tax gain of $25 million during the nine months-ended September 30, 2017. The Company's balance sheet presents the assets and liabilities of the Plaka business as held for sale as of December 31, 2016.
|
| | | | | | | |
($ in millions) | September 30, 2017 | | December 31, 2016 |
Finished products | $ | 1,136 |
| | $ | 947 |
|
Work in process | 184 |
| | 165 |
|
Raw materials | 452 |
| | 370 |
|
Supplies | 33 |
| | 32 |
|
Total Inventories | $ | 1,805 |
| | $ | 1,514 |
|
Most U.S. inventories are valued using the last-in, first-out method. These inventories represented approximately 33% and 38% of total inventories at September 30, 2017 and December 31, 2016, respectively. If the first-in, first-out method of inventory valuation had been used, inventories would have been $105 million and $106 million higher as of September 30, 2017 and December 31, 2016, respectively.
| |
5. | Goodwill and Other Identifiable Intangible Assets |
The change in the carrying amount of goodwill attributable to each reportable segment for the nine months ended September 30, 2017 was as follows:
|
| | | | | | | | | | | |
($ in millions) | Performance Coatings | | Industrial Coatings | | Total |
January 1, 2017 | $ | 2,870 |
| | $ | 702 |
| | $ | 3,572 |
|
Acquisitions | 23 |
| | (3 | ) | | 20 |
|
Foreign currency | 247 |
| | 42 |
| | 289 |
|
September 30, 2017 | $ | 3,140 |
| | $ | 741 |
| | $ | 3,881 |
|
A summary of the carrying value of the Company's identifiable intangible assets is as follows:
|
| | | | | | | | | | | | | | | | | | | | | | | |
| September 30, 2017 | | December 31, 2016 |
($ in millions) | Gross Carrying Amount | | Accumulated Amortization | | Net | | Gross Carrying Amount | | Accumulated Amortization | | Net |
Trademarks - indefinite lives | $ | 1,217 |
| | N/A |
| | $ | 1,217 |
| | $ | 1,107 |
| | N/A |
| | $ | 1,107 |
|
| | | | | | | | | | | |
Customer-related intangibles | $ | 1,405 |
| | $ | (733 | ) | | $ | 672 |
| | $ | 1,272 |
| | $ | (618 | ) | | $ | 654 |
|
Acquired technology | 606 |
| | (481 | ) | | 125 |
| | 587 |
| | (446 | ) | | 141 |
|
Trade names | 158 |
| | (84 | ) | | 74 |
| | 142 |
| | (71 | ) | | 71 |
|
Other | 44 |
| | (33 | ) | | 11 |
| | 38 |
| | (28 | ) | | 10 |
|
Total | $ | 3,430 |
| | $ | (1,331 | ) | | $ | 2,099 |
| | $ | 3,146 |
| | $ | (1,163 | ) | | $ | 1,983 |
|
The Company’s identifiable intangible assets with finite lives are being amortized over their estimated useful lives.
|
| | | | | | | | | | | | | | | |
| Three Months Ended September 30 | | Nine Months Ended September 30 |
($ in millions) | 2017 | | 2016 | | 2017 | | 2016 |
Amortization expense related to identifiable intangible assets | $ | 32 |
| | $ | 31 |
| | $ | 95 |
| | $ | 91 |
|
As of September 30, 2017, estimated future amortization expense of identifiable intangible assets is as follows:
|
| | | |
($ in millions) | Future Amortization Expense |
Remaining three months of 2017 | $ | 25 |
|
2018 | 115 |
|
2019 | 100 |
|
2020 | 90 |
|
2021 | 85 |
|
2022 | 85 |
|
Thereafter | 382 |
|
| |
6. | Business Restructuring |
The Company records restructuring liabilities that represent charges incurred in connection with consolidations of certain operations, including operations from acquisitions, as well as headcount reduction programs. These charges consist primarily of severance costs and asset write-downs.
In December 2016, PPG’s Board of Directors approved a business restructuring program which includes actions necessary to reduce its global cost structure. The program is focused on certain regions and end-use markets where business conditions are the weakest, as well as reductions in production capacity and various global functional and administrative costs. The restructuring actions will result in the net reduction of approximately 1,700 positions, with substantially all actions to be completed by the first quarter of 2018.
The following table summarizes the 2016 restructuring charge, the reserve activity for 2016, and the reserve activity for the nine months ended September 30, 2017:
|
| | | | | | | | | | | | | | |
($ in millions, except for employees impacted) | Severance and Other Costs | | Asset Write-offs | | Total Reserve | | Employees Impacted |
Performance Coatings | $ | 77 |
| | $ | 45 |
| | $ | 122 |
| | 1,069 |
|
Industrial Coatings | 52 |
| | 14 |
| | 66 |
| | 804 |
|
Corporate | 7 |
| | — |
| | 7 |
| | 85 |
|
2016 restructuring charge | $ | 136 |
| | $ | 59 |
| | $ | 195 |
| | 1,958 |
|
2016 Activity | (6 | ) | | (59 | ) | | (65 | ) | | (40 | ) |
December 31, 2016 | $ | 130 |
| | $ | — |
| | $ | 130 |
| | 1,918 |
|
2017 Activity | (28 | ) | | — |
| | (28 | ) | | (853 | ) |
Foreign currency | 16 |
| | — |
| | 16 |
| | — |
|
September 30, 2017 | $ | 118 |
| | $ | — |
| | $ | 118 |
| | 1,065 |
|
In May 2016, PPG entered into two $250 million Term Loan Credit Agreements and subsequently prepaid the loans in December 2016.
In January 2016, PPG’s $250 million 1.9% notes matured, and PPG repaid these notes with cash on hand.
The effect of dilutive securities on the weighted average common shares outstanding included in the calculation of earnings per diluted common share for the three and nine months ended September 30, 2017 and 2016 were as follows:
|
| | | | | | | | | | | |
| Three Months Ended September 30 | | Nine Months Ended September 30 |
(number of shares in millions) | 2017 | | 2016 | | 2017 | | 2016 |
Weighted average common shares outstanding | 256.4 |
| | 266.3 |
| | 257.0 |
| | 267.0 |
|
Effect of dilutive securities: | | | | | | | |
Stock options | 1.0 |
| | — |
| | 1.0 |
| | 0.8 |
|
Other stock compensation awards | 0.8 |
| | — |
| | 0.8 |
| | 1.0 |
|
Potentially dilutive common shares | 1.8 |
| | — |
| | 1.8 |
| | 1.8 |
|
Adjusted weighted average common shares outstanding | 258.2 |
| | 266.3 |
| | 258.8 |
| | 268.8 |
|
The effect of antidilutive securities on the weighted average common shares outstanding excluded from the calculation of earnings per diluted common share for the three and nine months ended September 30, 2017 and 2016 were as follows:
|
| | | | | | | | | | | |
| Three Months Ended September 30 | | Nine Months Ended September 30 |
(number of shares in millions) | 2017 | | 2016 | | 2017 | | 2016 |
Effect of anti-dilutive securities: | | | | | | | |
Stock options | 0.5 |
| | 0.6 |
| | 0.6 |
| | 0.6 |
|
Other stock compensation awards | — |
| | 1.8 |
| | — |
| | — |
|
Potentially anti-dilutive common shares | 0.5 |
| | 2.4 |
| | 0.6 |
| | 0.6 |
|
|
| | | | | |
| Nine Months Ended September 30 |
| 2017 | | 2016 |
Effective tax rate on pre-tax income from continuing operations | 24.0 | % | | 26.9 | % |
The effective tax rate for 2017 and 2016 is lower than the U.S. federal statutory rate primarily due to earnings in foreign jurisdictions which are taxed at rates lower than the U.S. statutory rate and the impact of certain U.S. tax incentives.
The effective tax rate for 2016 includes a deferred tax benefit of $352 million related to the $968 million of pre-tax pension settlement charges recorded during the third quarter 2016. In June 2016, the Company recorded a $128 million net tax charge associated with the funding of the asbestos settlement trust ("Trust") described in Note 15, "Commitments and Contingent Liabilities." The Company provided taxes on certain of its foreign subsidiaries earnings to fund the Trust using cash from various jurisdictions. Also in conjunction with the funding of the Trust, PPG recorded certain one-time book tax benefits associated with the contribution of PPG's interest in Pittsburgh Corning's European subsidiary to the Trust and a change in measurement of certain deferred tax liabilities.
The Company files federal, state and local income tax returns in numerous domestic and foreign jurisdictions. In most tax jurisdictions, returns are subject to examination by the relevant tax authorities for a number of years after the returns have been filed. The Company is no longer subject to examinations by tax authorities in any major tax jurisdiction for years before 2006. In addition, the Internal Revenue Service (“IRS”) has completed its examination of the Company’s U.S. federal income tax returns filed for years through 2011. The IRS is currently conducting its examination of the Company's U.S. federal income tax return for 2012 and 2013.
| |
10. | Pensions and Other Postretirement Benefits |
Net periodic pension and other postretirement benefit costs are included in "Cost of sales, exclusive of depreciation and amortization," "Selling, general and administrative," and "Research and development" in the accompanying condensed consolidated statements of income.
The net periodic pension and other postretirement benefit costs for the three and nine months ended September 30, 2017 and 2016 were as follows:
|
| | | | | | | | | | | | | | | |
| Pension |
| Three Months Ended September 30 | | Nine Months Ended September 30 |
($ in millions) | 2017 | | 2016 | | 2017 | | 2016 |
Service cost | $ | 8 |
| | $ | 9 |
| | $ | 25 |
| | $ | 34 |
|
Interest cost | 25 |
| | 18 |
| | 74 |
| | 102 |
|
Expected return on plan assets | (35 | ) | | (26 | ) | | (105 | ) | | (158 | ) |
Amortization of actuarial losses | 19 |
| | 21 |
| | 57 |
| | 79 |
|
Amortization of prior service credit | — |
| | — |
| | — |
| | (1 | ) |
Pension settlement charge | — |
| | 968 |
| | 22 |
| | 968 |
|
Net periodic benefit cost | $ | 17 |
| | $ | 990 |
| | $ | 73 |
| | $ | 1,024 |
|
|
| | | | | | | | | | | | | | | |
| Other Postretirement Benefits |
| Three Months Ended September 30 | | Nine Months Ended September 30 |
($ in millions) | 2017 | | 2016 | | 2017 | | 2016 |
Service cost | $ | 1 |
| | $ | 6 |
| | $ | 6 |
| | $ | 13 |
|
Interest cost | 6 |
| | 11 |
| | 18 |
| | 30 |
|
Amortization of actuarial losses | 3 |
| | 11 |
| | 9 |
| | 20 |
|
Amortization of prior service credit | (14 | ) | | (28 | ) | | (44 | ) | | (32 | ) |
Net periodic benefit (income) cost | $ | (4 | ) | | $ | — |
| | $ | (11 | ) | | $ | 31 |
|
PPG expects its 2017 net periodic pension and other postretirement benefit cost, excluding settlement losses, to be approximately $50 million, with pension expense representing approximately $65 million and other postretirement benefit cost representing a benefit of approximately $15 million.
Contributions to Defined Benefit Pension Plans
|
| | | | | | | | | | | | | | | |
| Three Months Ended September 30 | | Nine Months Ended September 30 |
($ in millions) | 2017 | | 2016 | | 2017 | | 2016 |
U.S. defined benefit pension contributions | $ | — |
| | $ | 50 |
| | $ | 29 |
| | $ | 50 |
|
Non-U.S. defined benefit pension mandatory contributions | $ | 6 |
| | $ | 15 |
| | $ | 14 |
| | $ | 28 |
|
PPG expects to make mandatory contributions to its non-U.S. pension plans in the range of $10 million to $15 million during the remaining three months of 2017 and may make voluntary contributions to its defined benefit pension plans in 2017 and beyond.
U.S. Non-qualified Pension
During the first quarter of 2017, PPG made lump-sum payments to certain retirees who had participated in PPG's U.S. non-qualified pension plan (the "Nonqualified Plan") totaling approximately $40 million. As the lump-sum payments were in excess of the expected 2017 service and interest costs for the Nonqualified Plan, PPG remeasured the periodic benefit obligation of the Nonqualified Plan as of March 1, 2017 and recorded a settlement charge totaling $22 million ($14 million after-tax). Any additional 2017 lump-sum payments from the Nonqualified Plan will trigger a further remeasurement and settlement charge.
U.S. Postretirement Medical
In August 2016, the Company communicated plan design changes to certain Medicare-eligible retiree plan participants. Effective January 1, 2017, the Company-sponsored Medicare-eligible plans were replaced by a Medicare private exchange. By offering retiree health coverage through a private Medicare exchange, PPG is able to provide Medicare-eligible participants with more choice of plans and plan designs, greater flexibility, and different price points for coverage.
The announcement of these plan design changes triggered a remeasurement of PPG’s retiree medical benefit obligation using prevailing interest rates and resulted in a $306 million reduction in the Company's postretirement benefit obligation. PPG is accounting for the plan design change prospectively, and the plan change will reduce net periodic postretirement benefit cost by $54 million annually for the next 5 years.
As of January 1, 2017, PPG’s contribution for Medicare-eligible retirees are in the form of a tax-free account known as a Health Reimbursement Arrangement (HRA). The HRA can be used to pay for healthcare and prescription drug plan premiums and certain out-of-pocket medical costs; unused funds can be carried over to future years. PPG has the right to amend, modify, or terminate this benefit plan at any time.
Changes to shareholders’ equity for the nine months ended September 30, 2017 and 2016 were as follows:
|
| | | | | | | | | | | |
($ in millions) | Total PPG Shareholders’ Equity | | Non-controlling Interests | | Total |
January 1, 2017 | $ | 4,826 |
| | $ | 87 |
| | $ | 4,913 |
|
Net income | 1,444 |
| | 16 |
| | 1,460 |
|
Other comprehensive income, net of tax | 293 |
| | 15 |
| | 308 |
|
Cash dividends | (321 | ) | | — |
| | (321 | ) |
Issuance of treasury stock | 75 |
| | — |
| | 75 |
|
Stock repurchase program | (413 | ) | | — |
| | (413 | ) |
Stock-based compensation activity | (2 | ) | | — |
| | (2 | ) |
Dividends paid on subsidiary common stock to noncontrolling interests | — |
| | (5 | ) | | (5 | ) |
Other | — |
| | (5 | ) | | (5 | ) |
September 30, 2017 | $ | 5,902 |
| | $ | 108 |
| | $ | 6,010 |
|
|
| | | | | | | | | | | |
($ in millions) | Total PPG Shareholders’ Equity | | Non-controlling Interests | | Total |
January 1, 2016 | $ | 4,983 |
| | $ | 86 |
| | $ | 5,069 |
|
Net income | 533 |
| | 18 |
| | 551 |
|
Other comprehensive income, net of tax | 161 |
| | (1 | ) | | 160 |
|
Cash dividends | (309 | ) | | — |
| | (309 | ) |
Issuance of treasury stock | 51 |
| | — |
| | 51 |
|
Stock repurchase program | (400 | ) | | — |
| | (400 | ) |
Stock-based compensation activity | 12 |
| | — |
| | 12 |
|
Dividends paid on subsidiary common stock to noncontrolling interests | — |
| | (4 | ) | | (4 | ) |
Other | — |
| | (9 | ) | | (9 | ) |
September 30, 2016 | $ | 5,031 |
| | $ | 90 |
| | $ | 5,121 |
|
| |
12. | Accumulated Other Comprehensive Loss |
|
| | | | | | | | | | | | | | | | | | | | | | | | | | | |
($ in millions) | Unrealized Foreign Currency Translation Adjustments | | Pension and Other Postretirement Benefit Adjustments, net of tax | | Unrealized Gain (Loss) on Derivatives, net of tax | | Accumulated Other Comprehensive (Loss) Income |
January 1, 2017 | | | $ | (1,798 | ) | | | | $ | (571 | ) | | | | $ | 13 |
| | | | $ | (2,356 | ) |
Current year deferrals to AOCI | 634 |
| (a) | | | — |
| | | | — |
| | | | 634 |
| | |
Current year deferrals to AOCI, net of tax | (262 | ) | (b) | | | (93 | ) | (c) | | | (13 | ) | (d) | | | (368 | ) | | |
Reclassifications from AOCI to net income | — |
| | | | 30 |
| (c),(e) | | | (3 | ) | (d),(e) | | | 27 |
| | |
Net change | | | $ | 372 |
| | | | $ | (63 | ) | | | | $ | (16 | ) | | | | $ | 293 |
|
September 30, 2017 | | | $ | (1,426 | ) | | | | $ | (634 | ) | | | | $ | (3 | ) | | | | $ | (2,063 | ) |
| | | | | | | | | | | | | | | |
January 1, 2016 | | | $ | (1,332 | ) | | | | $ | (1,379 | ) | | | | $ | 9 |
| | | | $ | (2,702 | ) |
Current year deferrals to AOCI | (157 | ) | (a) | | | — |
| | | | — |
| | | | (157 | ) | | |
Current year deferrals to AOCI, net of tax | (73 | ) | (b) | | | (267 | ) | (c) | | | (6 | ) | (d) | | | (346 | ) | | |
Reclassifications from AOCI to net income | — |
| | | | 658 |
| (c),(e) | | | 6 |
| (d),(e) | | | 664 |
| | |
Net change | | | $ | (230 | ) | | | | $ | 391 |
| | | | $ | — |
| | | | $ | 161 |
|
September 30, 2016 | | | $ | (1,562 | ) | | | | $ | (988 | ) | | | | $ | 9 |
| | | | $ | (2,541 | ) |
(a) Unrealized foreign currency translation adjustments related to the translation of foreign denominated balance sheet account balances are not presented net of tax given that no deferred U.S. income taxes have been provided on the undistributed earnings of non-U.S. subsidiaries because they are deemed to be reinvested for an indefinite period of time.
(b) The tax benefit related to unrealized foreign currency translation adjustments on tax inter-branch transactions and net investment hedges for the nine months ended September 30, 2017 and 2016 was $(157) million and ($53) million, respectively. The balance also includes a remeasurement of the tax cost on certain foreign proceeds which have not been permanently reinvested.
(c) The tax benefit related to the adjustment for pension and other postretirement benefits for the nine months ended September 30, 2017 and 2016 was $(27) million and $(252) million, respectively.
(d) The tax benefit related to the changes in the unrealized gain (loss) on derivatives for the nine months ended September 30, 2017 and 2016 was $(7) million and $(1) million, respectively.
(e) Reclassifications from AOCI are included in the computation of net periodic pension and other post-retirement benefit costs (See Note 10, "Pensions and Other Postretirement Benefits") and in the gain recognized on cash flow hedges (See Note 13, "Financial Instruments, Hedging Activities and Fair Value Measurements").
| |
13. | Financial Instruments, Hedging Activities and Fair Value Measurements |
Financial instruments include cash and cash equivalents, short-term investments, cash held in escrow, marketable equity securities, accounts receivable, company-owned life insurance, accounts payable, short-term and long-term debt instruments, and derivatives. The fair values of these financial instruments approximated their carrying values at September 30, 2017 and December 31, 2016, in the aggregate, except for long-term debt instruments.
Hedging Activities
The Company has exposure to market risk from changes in foreign currency exchange rates and interest rates. Prior to the settlement of the Asbestos Settlement Trust described in Note 15, "Commitments and Contingent Liabilities," the Company had exposure to changes in PPG's stock price. As a result, financial instruments, including derivatives, may be (or had been) used to hedge these underlying economic exposures. Certain of these instruments qualify as cash flow, fair value and net investment hedges upon meeting the requisite criteria, including effectiveness of offsetting hedged or underlying exposures. Changes in the fair value of derivatives that do not qualify for hedge accounting are recognized in income from continuing operations in the period incurred.
PPG’s policies do not permit speculative use of derivative financial instruments. PPG enters into derivative financial instruments with high credit quality counterparties and diversifies its positions among such counterparties in order to reduce its exposure to credit losses. The Company did not realize a credit loss on derivatives during the three and nine month periods ended September 30, 2017 and 2016.
All of PPG's outstanding derivative instruments are subject to accelerated settlement in the event of PPG’s failure to meet its debt or payment obligations under the terms of the instruments’ contractual provisions. In addition, should the Company be acquired and its payment obligations under the derivative instruments’ contractual arrangements not be
assumed by the acquirer, or should PPG enter into bankruptcy, receivership or reorganization proceedings, the instruments would also be subject to accelerated settlement.
There were no derivative instruments de-designated or discontinued as hedging instruments during the three and nine month periods ended September 30, 2017 and 2016 and there were no gains or losses deferred in AOCI that were reclassified to income from continuing operations during the nine month periods ended September 30, 2017 and 2016 related to hedges of anticipated transactions there were no longer expected to occur.
Fair Value Hedges
Through September 2016, PPG designated certain foreign currency forward contracts as hedges against the Company's exposure to future changes in fair value of certain firm sales commitments denominated in foreign currency. As of September 30, 2017 and December 31, 2016, there were no outstanding foreign currency forward contracts designated as hedges against future changes in the fair value of certain firm sales commitments.
Until June 2016, PPG held outstanding renewable equity forward arrangements to hedge the impact to PPG's income from continuing operations for changes in the fair value of 2,777,778 shares of PPG stock that were contributed to the asbestos settlement trust as discussed in Note 15, “Commitments and Contingent Liabilities.” These financial instruments were recorded at fair value as assets or liabilities and changes in the fair value of these financial instruments were reflected in the “Asbestos settlement – net” caption of the accompanying condensed consolidated statement of income. In conjunction with the funding of the Asbestos Settlement Trust in June 2016, the equity forward arrangements were settled. At settlement, the aggregated fair value of the equity forward arrangements was an asset of $258 million.
The Company used interest rate swaps from time to time to manage its exposure to changing interest rates. When outstanding, the interest rate swaps were designated as fair value hedges of certain outstanding debt obligations and were recorded at fair value. There were no interest rate swaps outstanding as of September 30, 2017 and December 31, 2016. However, in prior years, PPG settled interest rate swaps and received cash. The fair value adjustment of the debt at the time the interest rate swaps were settled is still being amortized as a reduction to interest expense over the remaining term of the related debt, which matures in 2021. The amount being amortized to interest expense is insignificant.
Cash Flow Hedges
PPG designates certain foreign currency forward contracts as cash flow hedges of the Company’s exposure to variability in exchange rates on intercompany and third party transactions denominated in foreign currencies. As of September 30, 2017 and December 31, 2016, the fair value of all foreign currency forward contracts designated as cash flow hedges was a net liability of $10 million and a net asset of $13 million, respectively.
Net Investment Hedges
PPG uses cross currency swaps and Euro-denominated debt to hedge a portion of its net investment in its European operations.
As of September 30, 2017, the Company had outstanding U.S. dollar to Euro cross currency swap contracts with a total notional amount of $560 million. These contracts are scheduled to expire in March 2018. At settlement of the outstanding contracts, PPG will receive $560 million U.S. dollars and pay Euros to the counterparties. During the term of these contracts, PPG receives semiannual payments in March and September of each year based on a U.S. dollar, long-term interest rate fixed as of the contract inception date, and PPG makes annual payments in March of each year to the counterparties based on a Euro, long-term interest rate fixed as of the contract inception date. As of September 30, 2017 and December 31, 2016, the fair value of these contracts was a net asset of $8 million and $65 million, respectively.
As of September 30, 2017 and December 31, 2016, PPG had designated €2.8 billion of Euro-denominated borrowings as hedges of a portion of its net investment in the Company's European operations. The carrying value of these instruments as of September 30, 2017 and December 31, 2016 was $3.3 billion and $2.9 billion, respectively.
Gains/Losses Deferred in AOCI
As of September 30, 2017 and December 31, 2016, the Company had accumulated pre-tax unrealized net foreign currency translation gains in AOCI related to the Euro-denominated borrowings, foreign currency forward contracts and the cross currency swaps of $63 million and $482 million, respectively.
The following tables summarize the location within the financial statements and amount of gains (losses) related to derivative financial instruments for the nine months ended September 30, 2017 and 2016. All dollar amounts are shown on a pre-tax basis.
|
| | | | | | | | | |
($ in millions) | September 30, 2017 |
Hedge Type | Loss Deferred in OCI | | Gain Recognized |
Amount | | Caption |
Cash Flow | | | | | |
Foreign currency forward contracts (a) | $ | (20 | ) | | $ | 4 |
| | Other charges |
Total Cash Flow | $ | (20 | ) |
| $ | 4 |
| | |
Net Investment | | | | | |
Foreign currency forward contracts | $ | (2 | ) | | | | |
Cross currency swaps | (54 | ) | |
|
| | |
Foreign denominated debt | (363 | ) | | | | |
Total Net Investment | $ | (419 | ) | |
|
| | |
(a) The ineffective portion related to this item was $6 million of expense.
|
| | | | | | | | | |
($ in millions) | September 30, 2016 |
Hedge Type | Gain (Loss) Deferred in OCI | | Gain Recognized |
Amount | | Caption |
Cash Flow | | | | | |
Foreign currency forward contracts (a) | 7 |
| | 8 |
| | Other charges |
Total Cash Flow | $ | 7 |
| | $ | 8 |
| | |
Net Investment | | | | | |
Cross currency swaps | $ | (13 | ) | |
|
| | |
Foreign denominated debt | (67 | ) | | | | |
Total Net Investment | $ | (80 | ) | |
|
| | |
(a) The ineffective portion related to this item was $7 million of expense.
Fair Value Measurements
The Company follows a fair value measurement hierarchy to measure its assets and liabilities. As of September 30, 2017 and December 31, 2016, the assets and liabilities measured at fair value on a recurring basis were cash equivalents, equity securities and derivatives. In addition, the Company measures its pension plan assets at fair value (see Note 12, "Employee Benefit Plans" under Item 8 in the Company's Annual Report on Form 10-K for the year ended December 31, 2016 for further details). The Company's financial assets and liabilities are measured using inputs from the following three levels:
Level 1 inputs are quoted prices (unadjusted) in active markets for identical assets and liabilities that the Company has the ability to access at the measurement date. Level 1 inputs are considered to be the most reliable evidence of fair value as they are based on unadjusted quoted market prices from various financial information service providers and securities exchanges.
Level 2 inputs are directly or indirectly observable prices that are not quoted on active exchanges, which include quoted prices for similar assets and liabilities in active markets, quoted prices for identical or similar assets or liabilities in markets that are not active, inputs other than quoted prices that are observable for the asset or liability and inputs that are derived principally from or corroborated by observable market data by correlation or other means. The fair values of the derivative instruments reflect the instruments' contractual terms, including the period to maturity, and uses observable market-based inputs, including forward curves.
Level 3 inputs are unobservable inputs employed for measuring the fair value of assets or liabilities. The Company does not have any recurring financial assets or liabilities that are recorded in its consolidated balance sheets as of September 30, 2017 and December 31, 2016 that are classified as Level 3 inputs.
Assets and liabilities reported at fair value on a recurring basis:
|
| | | | | | | | | | | |
| September 30, 2017 |
($ in millions) | Level 1 | | Level 2 | | Level 3 |
Assets: | | | | | |
Other current assets: | | | | | |
Marketable equity securities | $ | 4 |
| | $ | — |
| | $ | — |
|
Cross currency swaps | — |
| | 8 |
| | — |
|
Foreign currency forward contracts | — |
| | 2 |
| | — |
|
Investments: | | | | | |
Marketable equity securities | 76 |
| | — |
| | — |
|
Liabilities: | | | | | |
Accounts payable and accrued liabilities: | | | | | |
Foreign currency forward contracts | — |
| | 15 |
| | — |
|
| |
| December 31, 2016 |
($ in millions) | Level 1 | | Level 2 | | Level 3 |
Assets: | | | | | |
Other current assets: | | | | | |
Marketable equity securities | $ | 4 |
| | $ | — |
| | $ | — |
|
Foreign currency forward contracts | — |
| | 22 |
| | — |
|
Investments: | | | | | |
Marketable equity securities | 78 |
| | — |
| | — |
|
Other assets: | | | | | |
Cross currency swaps | — |
| | 65 |
| | — |
|
Liabilities: | | | | | |
Accounts payable and accrued liabilities: | | | | | |
Foreign currency forward contracts | — |
| | 9 |
| | — |
|
Long-Term Debt
|
| | | | | | | |
($ in millions) | September 30, 2017 (a) | | December 31, 2016 (b) |
Long-term debt - carrying value | $ | 4,667 |
| | $ | 4,299 |
|
Long-term debt - fair value | $ | 4,885 |
| | $ | 4,502 |
|
(a) Excluding capital lease obligations of $16 million and short term borrowings of $22 million as of September 30, 2017.
(b) Excluding capital lease obligations of $18 million and short term borrowings of $99 million as of December 31, 2016.
The fair values of the debt instruments were based on discounted cash flows and interest rates then currently available to the Company for instruments of the same remaining maturities and were measured using level 2 inputs.
Assets and liabilities reported at fair value on a nonrecurring basis:
For the year ended December 31, 2016, in conjunction with the 2016 restructuring actions, certain nonmonetary assets were written down to their fair value. Refer to Note 6, “Business Restructuring” for further details associated with these actions.
| |
14. | Stock-Based Compensation |
The Company’s stock-based compensation includes stock options, restricted stock units (“RSUs”) and grants of contingent shares that are earned based on achieving targeted levels of total shareholder return. All current grants of stock options, RSUs and contingent shares are made under the PPG Industries, Inc. Amended and Restated Omnibus Incentive Plan (the “PPG Amended Omnibus Plan”), which was amended and restated effective April 21, 2016. Shares available for future grants under the PPG Amended Omnibus Plan were 7.7 million as of September 30, 2017.
Stock-based compensation and the income tax benefit recognized during the three and nine months ended September 30, 2017 and 2016 were as follows:
|
| | | | | | | | | | | | | | | |
| Three Months Ended September 30 | | Nine Months Ended September 30 |
($ in millions) | 2017 | | 2016 | | 2017 | | 2016 |
Stock-based compensation | $ | 9 |
| | $ | 11 |
| | $ | 33 |
| | $ | 37 |
|
Income tax benefit recognized | $ | 4 |
| | $ | 3 |
| | $ | 12 |
| | $ | 12 |
|
Grants of stock-based compensation during the nine months ended September 30, 2017 and 2016 were as follows:
|
| | | | | | | | | | | | | |
| Nine Months Ended September 30 |
| 2017 | | 2016 |
Grant Details | Shares | | Fair Value | | Shares | | Fair Value |
Stock options | 590,058 |
| | $ | 21.15 |
| | 649,984 |
| | $ | 17.94 |
|
Restricted stock units | 215,749 |
| | $ | 96.69 |
| | 239,599 |
| | $ | 91.55 |
|
Contingent shares (a) | 57,817 |
| | $ | 103.67 |
| | 60,381 |
| | $ | 95.46 |
|
(a) The number of contingent shares represents the target value of the award.
Stock options are generally exercisable 36 months after being granted and have a maximum term of 10 years. Compensation expense for stock options is recorded over the vesting period based on the fair value on the date of grant. The fair value of the stock option grants issued during the nine months ended September 30, 2017 was calculated with the following weighted average assumptions:
|
| | | |
Weighted average exercise price | $ | 101.53 |
|
Risk-free interest rate | 2.4 | % |
Expected life of option in years | 6.5 |
|
Expected dividend yield | 1.8 | % |
Expected volatility | 22.0 | % |
The risk-free interest rate is determined by using the U.S. Treasury yield curve at the date of the grant and using a maturity equal to the expected life of the option. The expected life of options is calculated using the average of the vesting term and the maximum term, as prescribed by accounting guidance on the use of the simplified method for determining the expected term of an employee share option. The expected dividend yield and volatility are based on historical stock prices and dividend amounts over historical time periods equal in length to the expected life of the options.
Time-based RSUs generally vest over the three-year period following the date of grant, unless forfeited, and will be paid out in the form of stock, cash or a combination of both at the Company’s discretion at the end of the vesting period. Performance-based RSUs vest based on achieving specific annual performance targets for earnings per share growth and cash flow return on capital over the three calendar year-end periods following the date of grant. Unless forfeited, the performance-based RSUs will be paid out in the form of stock, cash or a combination of both at the Company’s discretion at the end of the three-year performance period if PPG meets the performance targets.
Contingent share grants (referred to as “TSR awards”) are made annually and are paid out at the end of each three-year period following the date of grant based on PPG's performance. Performance is measured by determining the percentile rank of the total shareholder return of PPG common stock in relation to the total shareholder return of the S&P 500 as it existed at the beginning of the three-year performance period excluding any companies that have been removed from the index because they ceased to be publicly traded during the performance period. Any payments made at the end of the award period may be in the form of stock, cash or a combination of both. The TSR awards qualify as liability awards, and compensation expense is recognized over the three-year award period based on the fair value of the awards (giving consideration to the Company’s percentile rank of total shareholder return) remeasured in each reporting period until settlement of the awards.
| |
15. | Commitments and Contingent Liabilities |
PPG is involved in a number of lawsuits and claims, both actual and potential, including some that it has asserted against others, in which substantial monetary damages are sought. These lawsuits and claims may relate to contract, patent, environmental, product liability, asbestos exposure, antitrust, employment and other matters arising out of the conduct of PPG’s current and past business activities. To the extent that these lawsuits and claims involve personal injury and property damage, PPG believes it has adequate insurance; however, certain of PPG’s insurers are contesting coverage with respect to some of these claims, and other insurers, as they had prior to the asbestos settlement described below, may contest coverage in the future. PPG’s lawsuits and claims against others include claims against insurers and other third parties with respect to actual and contingent losses related to environmental, asbestos and other matters.
The results of any current or future litigation and claims are inherently unpredictable. However, management believes that, in the aggregate, the outcome of all lawsuits and claims involving PPG, including asbestos-related claims, will not have a material effect on PPG’s consolidated financial position or liquidity; however, such outcome may be material to the results of operations of any particular period in which costs, if any, are recognized.
Asbestos Matters
Prior to 2000, the Company had been named as a defendant in numerous claims alleging bodily injury from (i) exposure to asbestos-containing products allegedly manufactured, sold or distributed by the Company, its subsidiaries, or for which they are otherwise alleged to be liable; (ii) exposure to asbestos allegedly present at a facility owned or leased by the Company; or (iii) exposure to asbestos-containing products of Pittsburgh Corning Corporation (“PC”) for which the Company was alleged to be liable under a variety of legal theories (the Company and Corning Incorporated were each 50% shareholders in PC).
Pittsburgh Corning Corporation asbestos bankruptcy
In 2000, PC filed for Chapter 11 in the U.S. Bankruptcy Court for the Western District of Pennsylvania in an effort to permanently and comprehensively resolve all of its pending and future asbestos-related liability claims. At the time of the bankruptcy filing, the Company had been named as one of many defendants in approximately 114,000 open claims. The Bankruptcy Court subsequently entered a series of orders preliminarily enjoining the prosecution of asbestos litigation against PPG until after the effective date of a confirmed PC plan of reorganization. During the pendency of this preliminary injunction staying asbestos litigation against PPG, PPG and certain of its historical liability insurers negotiated a settlement with representatives of present and future asbestos claimants. That settlement was incorporated into a PC plan of reorganization that was confirmed by the Bankruptcy Court on May 24, 2013 and ultimately became effective on April 27, 2016. With the effectiveness of the plan, the preliminary injunction staying the prosecution of asbestos litigation against PPG expired by its own terms on May 27, 2016. In accordance with the settlement, the Bankruptcy Court issued a permanent channeling injunction under Section 524(g) of the Bankruptcy Code that prohibits present and future claimants from asserting claims against PPG that arise, in whole or in part, out of exposure to asbestos or asbestos-containing products manufactured, sold and/or distributed by PC or asbestos on or emanating from any PC premises. The channeling injunction, by its terms, also prohibits codefendants in cases that are subject to the channeling injunction from asserting claims against PPG for contribution, indemnification or other recovery. The channeling injunction also precludes the prosecution of claims against PPG arising from alleged exposure to asbestos or asbestos-containing products to the extent that a claimant is alleging or seeking to impose liability, directly or indirectly, for the conduct of, claims against, or demands on PC by reason of PPG’s: (i) ownership of a financial interest in PC; (ii) involvement in the management of PC, or service as an officer, director or employee of PC or a related party; (iii) provision of insurance to PC or a related party; or (iv) involvement in a financial transaction affecting the financial condition of PC or a related party. The foregoing PC related claims are referred to as “PC Relationship Claims.”
The channeling injunction channels the Company’s liability for PC Relationship Claims to a trust funded in part by PPG and its participating insurers for the benefit of current and future PC asbestos claimants (the “Trust”). The Trust is the sole recourse for holders of PC Relationship Claims. PPG and its affiliates have no further liability or responsibility for, and will be permanently protected from, pending and future PC Relationship Claims. The channeling injunction does not extend to present and future claims against PPG that arise out of alleged exposure to asbestos or asbestos-containing products historically manufactured, sold and/or distributed by PPG or its subsidiaries or for which they are alleged to be liable that are not PC Relationship Claims, and does not extend to claims against PPG alleging personal injury allegedly caused by asbestos on premises presently or formerly owned, leased or occupied by PPG. These claims are referred to as non-PC Relationship Claims.
In accordance with the PC plan of reorganization, PPG's equity interest in PC was canceled. PPG satisfied its funding obligations to the Trust on June 9, 2016, when it conveyed to the Trust the stock it owned in Pittsburgh Corning Europe and 2,777,778 shares of PPG’s common stock and made a cash payment to the Trust in the amount of $764 million. PPG’s historical insurance carriers participating in the PC plan of reorganization are required to make cash payments to the Trust of approximately $1.7 billion, subject to a right of prepayment at a 5.5% discount rate.
On October 13, 2016, the Bankruptcy Court issued an order entering a final decree and closing the Chapter 11 case. That order provided that the Bankruptcy Court retained jurisdiction to enforce any order issued in the case and any agreements approved by the court, enforce the terms and conditions of the modified third amended Plan, and consider any requests to reopen the case.
Non-PC relationship asbestos claims
At the time PC filed for bankruptcy, PPG had been named as one of many defendants in one or more of the categories of asbestos-related claims identified above. Over the course of the 16 years during which the PC bankruptcy proceedings, and corresponding preliminary injunction staying the prosecution of asbestos-related claims against PPG, were pending, certain plaintiffs alleging premises claims filed motions seeking to lift the stay with respect to more than 1,000 individually-identified premises claims. The Bankruptcy Court granted motions to lift the stay in respect to certain of these premises claims and directed PPG to engage in a process to address any additional premises claims that were the subject of pending or anticipated lift-stay motions. As a result of the overall process as directed by the Bankruptcy Court involving more than 1,000 premises claims between 2006 and May 27, 2016, hundreds of these claims were withdrawn or dismissed without payment and approximately 650 premises claims were dismissed upon agreements by PPG and its insurers to resolve such claims in exchange for monetary payments.
With respect to the remaining claims still reportable within the inventory of 114,000 asbestos-related claims at the time PC filed for bankruptcy, the Company considers such claims to fall within one or more of the following categories: (1) claims that have been closed or dismissed as a result of processes undertaken during the bankruptcy; (2) claims that may have been previously filed on the dockets of state and federal courts in various jurisdictions, but are inactive as to the Company; and (3) claims that are subject, in whole or in part, to the channeling injunction and thus will be resolved, in whole or in part, in accordance with the Trust procedures established under the PC bankruptcy reorganization plan. As a result of the foregoing, the Company does not consider these three categories of claims to be open or active litigation against it, although the Company cannot now determine whether, or the extent to which, any of these claims may in the future be reinstituted, reinstated, or revived such that they may become open and active asbestos-related claims against it.
Current open and active claims post-Pittsburgh Corning bankruptcy
As of September 30, 2017, the Company is aware of approximately 625 open and active asbestos-related claims pending against the Company and certain of its subsidiaries. These claims consist primarily of non-PC Relationship Claims and claims against a subsidiary of PPG. The Company is defending the remaining open and active claims vigorously.
Since April 1, 2013, a subsidiary of PPG has been implicated in claims alleging death or injury caused by asbestos-containing products manufactured, distributed or sold by a North American architectural coatings business or its predecessors which was acquired by PPG. All such claims have been either served upon or tendered to the seller for defense and indemnity pursuant to obligations undertaken by the seller in connection with the Company’s purchase of the North American architectural coatings business. The seller has accepted the defense of these claims subject to the terms of various agreements between the Company and the seller. The seller’s defense and indemnity obligations in connection with newly filed claims will cease with respect to claims filed after April 1, 2018.
PPG has established reserves totaling approximately $180 million for asbestos-related claims that would not be channeled to the Trust which, based on presently available information, we believe will be sufficient to encompass all of PPG’s current and potential future asbestos liabilities. These reserves include a $162 million reserve established in 2009 in connection with an amendment to the PC plan of reorganization. These reserves, which are included within "Other liabilities" on the accompanying consolidated balance sheets, represent PPG’s best estimate of its liability for these claims. PPG does not have sufficient current claim information or settlement history on which to base a better estimate of this liability in light of the fact that the Bankruptcy Court’s injunction staying most asbestos claims against the Company was in effect from April 2000 through May 2016. PPG will monitor the activity associated with its remaining asbestos claims and evaluate, on a periodic basis, its estimated liability for such claims, its insurance assets then available, and all underlying assumptions to determine whether any adjustment to the reserves for these claims is required.
The amount reserved for asbestos-related claims by its nature is subject to many uncertainties that may change over time, including (i) the ultimate number of claims filed; (ii) the amounts required to resolve both currently known and future unknown claims; (iii) the amount of insurance, if any, available to cover such claims; (iv) the unpredictable aspects of the litigation process, including a changing trial docket and the jurisdictions in which trials are scheduled; (v) the outcome of any trials, including potential judgments or jury verdicts; (vi) the lack of specific information in many cases concerning exposure for which PPG is allegedly responsible, and the claimants’ alleged diseases resulting from such exposure; and (vii) potential changes in applicable federal and/or state tort liability law. All of these factors may have a material effect upon future asbestos-related liability estimates. As a potential offset to any future asbestos financial exposure, under the PC plan of reorganization PPG retained, for its own account, the right to pursue insurance coverage from certain of its historical insurers that did not participate in the PC plan of reorganization. While the ultimate outcome of PPG’s asbestos litigation cannot be predicted with certainty, PPG believes that any financial exposure resulting from its asbestos-related claims will not have a material adverse effect on PPG’s consolidated financial position, liquidity or results of operations.
Environmental Matters
It is PPG’s policy to accrue expenses for environmental contingencies when it is probable that a liability has been incurred and the amount of loss can be reasonably estimated. Reserves for environmental contingencies are exclusive of claims against third parties and are generally not discounted. In management’s opinion, the Company operates in an environmentally sound manner and the outcome of the Company’s environmental contingencies will not have a material effect on PPG’s financial position or liquidity; however, any such outcome may be material to the results of operations of any particular period in which costs, if any, are recognized. Management anticipates that the resolution of the Company’s environmental contingencies will occur over an extended period of time. See Note 13, "Commitments and Contingent Liabilities," under Item 8 in the Company's Annual Report on Form 10-K for the year ended December 31, 2016 for additional descriptions of the following environmental matters.
As of September 30, 2017 and December 31, 2016, PPG had reserves for environmental contingencies associated with PPG’s former chromium manufacturing plant in Jersey City, N.J. and associated sites (“New Jersey Chrome”) and for other environmental contingencies, including National Priority List sites and legacy glass and chemical manufacturing sites. These reserves are reported as "Accounts payable and accrued liabilities" and "Other liabilities" in the accompanying condensed consolidated balance sheet.
|
| | | | | | | |
Environmental Reserves |
($ in millions) | September 30, 2017 | | December 31, 2016 |
New Jersey Chrome | $ | 144 |
| | $ | 163 |
|
Legacy glass and chemical | 74 |
| | 70 |
|
Other | 54 |
| | 52 |
|
Total | $ | 272 |
| | $ | 285 |
|
Current portion | $ | 83 |
| | $ | 76 |
|
Pre-tax charges against income for environmental remediation costs are included in "Other charges" in the accompanying condensed consolidated statement of income. The pre-tax charges and cash outlays related to such environmental remediation for the three and nine ended September 30, 2017 and 2016 were as follows:
|
| | | | | | | | | | | | | |
| Three Months Ended September 30 | | Nine Months Ended September 30 |
($ in millions) | 2017 | | 2016 | | 2017 | | 2016 |
Environmental remediation pre-tax charges | $ | 3 |
| | $ | 3 |
| | 5 |
| | 11 |
|
Cash outlays for environmental remediation activities | $ | 14 |
| | $ | 12 |
| | 36 |
| | 35 |
|
Remediation: New Jersey Chrome
In June 2009, PPG entered into a settlement agreement with the New Jersey Department of Environmental Protection (“NJDEP”) and Jersey City, New Jersey (which had asserted claims against PPG for lost tax revenue) which was in the form of a Judicial Consent Order (the "JCO"). Under the JCO, PPG accepted sole responsibility for the remediation activities at its former chromium manufacturing location in Jersey City and 19 additional sites. The principal contaminant of concern is hexavalent chromium. The JCO also provided for the appointment of a court-approved Site Administrator who is responsible for establishing a master schedule for the remediation of the 20 PPG sites which existed at that
time. One site was subsequently removed from the JCO process during 2014 and will be remediated separately at a future date. A total of 19 sites remain subject to the JCO process.
The most significant assumptions underlying the estimate of remediation costs for all New Jersey Chrome sites are those related to the extent and concentration of chromium impacts in the soil, as these determine the quantity of soil that must be treated in place, the quantity that will have to be excavated and transported for offsite disposal, and the nature of disposal required. The reserve for the estimated costs to remediate all New Jersey Chrome sites are exclusive of any third party indemnification, as the recovery of any such amounts is uncertain.
Groundwater remediation at PPG's former chromium manufacturing site in Jersey City and five adjacent sites is expected to occur over several years after NJDEP's approval of a work plan. Ongoing groundwater monitoring will be utilized to develop a final groundwater remedial action work plan which is currently expected to be submitted to NJDEP no later than 2020.
PPG’s financial reserve for remediation of all New Jersey Chrome sites is $144 million at September 30, 2017. The major cost components of this liability continue to be related to excavation, transportation and disposal of impacted soil, as well as construction services. These components each account for approximately 30%, 30% and 24% of the accrued amount, respectively.
There are multiple, future events yet to occur, including further remedy selection and design, remedy implementation and execution and applicable governmental agency or community organization approvals. Considerable uncertainty exists regarding the timing of these future events for the New Jersey Chrome sites. Final resolution of these events is expected to occur over the next several years. As these events occur and to the extent that the cost estimates of the environmental remediation remedies change, the existing reserve for this environmental remediation matter will be adjusted.
Remediation: Other Legacy Sites
Among other sites at which PPG is managing environmental liabilities, remedial actions are occurring at a legacy chemical manufacturing site in Barberton, Ohio, where PPG has completed a Facility Investigation and Corrective Measure Study under the USEPA’s Resource Conservation and Recovery Act (“RCRA”) Corrective Action Program. PPG has also been addressing the impacts from a legacy plate glass manufacturing site in Kokomo, Indiana under the Voluntary Remediation Program of the Indiana Department of Environmental Management. PPG is currently performing additional investigation activities at this location. With respect to certain waste sites, the financial condition of other potentially responsible parties also contributes to the uncertainty of estimating PPG’s final costs. Although contributors of waste to sites involving other potentially responsible parties may face governmental agency assertions of joint and several liability, in general, final allocations of costs are made based on the relative contributions of wastes to such sites. PPG is generally not a major contributor to such sites.
Remediation: Reasonably Possible Matters
In addition to the amounts currently reserved for environmental remediation, the Company may be subject to loss contingencies related to environmental matters estimated to be as much as $100 million to $200 million. Such unreserved losses are reasonably possible but are not currently considered to be probable of occurrence. These reasonably possible unreserved losses relate to environmental matters at a number of sites, none of which are individually significant. The loss contingencies related to these sites include significant unresolved issues such as the nature and extent of contamination at these sites and the methods that may have to be employed to remediate them.
The impact of evolving programs, such as natural resource damage claims, industrial site re-use initiatives and domestic and international remediation programs, also adds to the present uncertainties with regard to the ultimate resolution of this unreserved exposure to future loss. The Company’s assessment of the potential impact of these environmental contingencies is subject to considerable uncertainty due to the complex, ongoing and evolving process of investigation and remediation, if necessary, of such environmental contingencies, and the potential for technological and regulatory developments.
Other Matters
The Company had outstanding letters of credit and surety bonds of $181 million and guarantees of $17 million as of September 30, 2017. The Company does not believe any loss related to such guarantees is likely.
| |
16. | Reportable Business Segment Information |
PPG is a multinational manufacturer with 10 operating segments that are organized based on the Company’s major product lines. These operating segments are also the Company’s reporting units for purposes of testing goodwill for impairment. The operating segments have been aggregated based on economic similarities, the nature of their products, production processes, end-use markets and methods of distribution into two reportable business segments.
The Performance Coatings reportable segment is comprised of the refinish, aerospace, architectural coatings – Americas and Asia-Pacific, architectural coatings - EMEA, and protective and marine coatings operating segments. This reportable segment primarily supplies a variety of protective and decorative coatings, sealants and finishes along with paint strippers, stains and related chemicals, as well as transparencies and transparent armor.
The Industrial Coatings reportable segment is comprised of the automotive original equipment manufacturer (“OEM”) coatings, industrial coatings, packaging coatings, coatings services and the specialty coatings and materials operating segments. This reportable segment primarily supplies a variety of protective and decorative coatings and finishes along with adhesives, sealants, metal pretreatment products, optical monomers and coatings, precipitated silicas, Teslin® and other specialty materials, and coatings services.
Reportable segment net sales and segment income for the three and nine months ended September 30, 2017 and 2016 were as follows:
|
| | | | | | | | | | | | | | | |
| Three Months Ended September 30 | | Nine Months Ended September 30 |
($ in millions) | 2017 | | 2016 | | 2017 | | 2016 |
Net sales: | | | | | | | |
Performance Coatings | $ | 2,290 |
| | $ | 2,223 |
| | $ | 6,608 |
| | $ | 6,600 |
|
Industrial Coatings | 1,486 |
| | 1,437 |
| | 4,460 |
| | 4,253 |
|
Total | $ | 3,776 |
| | $ | 3,660 |
| | $ | 11,068 |
| | $ | 10,853 |
|
Segment income: | | | | | | | |
Performance Coatings | $ | 365 |
| | $ | 368 |
| | $ | 1,063 |
| | $ | 1,075 |
|
Industrial Coatings | 223 |
| | 249 |
| | 760 |
| | 806 |
|
Total | $ | 588 |
| | $ | 617 |
| | 1,823 |
| | 1,881 |
|
Corporate | (45 | ) | | (43 | ) | | (135 | ) | | (166 | ) |
Interest expense, net of interest income | (22 | ) | | (28 | ) | | (65 | ) | | (76 | ) |
Legacy items (a) | — |
| | (4 | ) | | (3 | ) | | (25 | ) |
Asset write-down | — |
| | — |
| | — |
| | (10 | ) |
Gain from the sale of an equity affiliate | — |
| | — |
| | — |
| | 20 |
|
Pension settlement charge | — |
| | (968 | ) | | (22 | ) | | (968 | ) |
Gain from sale of a business | — |
| | — |
| | 25 |
| | — |
|
Income from a legal settlement | — |
| | — |
| | 18 |
| | — |
|
Transaction-related costs (b) | — |
| | — |
| | (9 | ) | | (8 | ) |
Income (loss) from continuing operations before income taxes | $ | 521 |
| | $ | (426 | ) | | $ | 1,632 |
| | $ | 648 |
|
| |
(a) | Legacy items include current costs related to former operations of the Company, including pension and other postretirement benefit costs, certain charges for legal matters and environmental remediation costs, and certain other charges which are not associated with PPG's current business portfolio. Until June 2016, legacy included the quarterly remeasurement of the asbestos settlement liability and equity forward. |
| |
(b) | Transaction-related costs include advisory, legal, accounting, valuation and other professional or consulting fees incurred to effect significant acquisitions, as well as similar fees and other costs to effect disposals not classified as discontinued operations. These costs may also include the flow-through cost of sales for the step up to fair value of inventories acquired in acquisitions. These costs also include certain severance costs and charges associated with the Company's recent business portfolio transformation. |
Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations
Executive Overview
Below are our key financial results for the three months ended September 30, 2017:
| |
• | Net sales were $3.8 billion, up more than 3% compared to the prior year, aided by favorable foreign currency translation of $67 million. |
| |
• | Cost of sales, exclusive of depreciation and amortization was $2.1 billion, up 6.2% versus prior year. |
| |
• | Selling, general and administrative ("SG&A") expense was $0.9 billion, up 1.3%. As a percentage of sales, SG&A expense decreased 0.4%. |
| |
• | Income before income taxes was $521 million. |
| |
• | The effective tax rate was 23.6%. |
| |
• | Net income from continuing operations was $392 million. |
| |
• | Earnings per diluted share from continuing operations was $1.52. |
For the nine months ended September 30, 2017, Cash flows from operating activities - continuing operations was $1,020 million, an increase of $370 million year over year, largely due to the absence of the prior year funding of the Pittsburgh Corning asbestos trust.
Capital expenditures, including acquisitions (net of cash acquired), was $276 million for the nine months ended September 30, 2017. In addition, PPG spent $100 million during the nine months-ended September 30, 2017 to acquire a 40% ownership interest in TCI.
During the nine months ended September 30, 2017, the Company paid $321 million in dividends and repurchased $413 million of its outstanding common stock. During the third quarter 2017, PPG increased its normal quarterly dividend by 13%, or $0.05 per share, to $0.45 per share.
Performance in the third quarter of 2017 compared to the third quarter of 2016
Performance Overview
Net Sales
|
| | | | | | | | | | |
| Three Months Ended September 30 | | Percent Change |
($ in millions, except percentages) | 2017 | | 2016 | | 2017 vs. 2016 |
United States and Canada | $ | 1,604 |
| | $ | 1,632 |
| | (1.7 | )% |
Europe, Middle East and Africa (EMEA) | 1,134 |
| | 1,049 |
| | 8.1 | % |
Asia-Pacific | 648 |
| | 620 |
| | 4.5 | % |
Latin America | 390 |
| | 359 |
| | 8.6 | % |
Total | $ | 3,776 |
| | $ | 3,660 |
| | 3.2 | % |
|
|
2017 vs. 2016 |
Net sales increased $116 million due to the following: |
● Favorable foreign currency translation (+2%) |
● Higher sales volumes (+0.6%) |
● Net sales from acquired businesses (+0.6%) |
● Slightly higher selling prices |
U.S. and Canada sales volumes were down a low-single-digit-percentage versus the prior year, including the effects from the natural disasters and lower automotive OEM industry production. In aggregate, general industrial coatings and specialty coatings and materials sales volumes increased a mid-single-digit percentage year-over-year. Packaging coatings sales volumes were up a mid-single-digit percentage, reflecting continued adoption of PPG technology. Our architectural coatings company-owned stores continued to perform well, as sales volumes increased a mid-single-digit percentage versus the prior year, including the unfavorable impact from several natural disasters. These increases were more than offset by sales volumes declines in our national retail (DIY) customer accounts and independent dealer networks. Protective coatings sales volumes were lower year-over-year primarily due to disruption caused by the hurricanes. |
Europe, Middle East and Africa (EMEA) sales volumes were flat versus the prior year, primarily due to lower sales volumes in architectural coatings offset by modestly higher sales volumes in the automotive OEM, protective, aerospace, and packaging coatings businesses. Automotive refinish coatings organic sales increased a low-single-digit-percentage year-over-year. Marine and general industrial coatings sales volumes were consistent year-over-year, in-line with market. |
Asia-Pacific sales volumes expanded by a mid-single-digit percentage year-over-year led by continued strong performance in automotive OEM and general industrial coatings along with growth in architectural coatings. From a country and sub-region perspective, and similar to the prior quarter, sales volumes versus the prior year grew in India, China and Southeast Asia and continued to decline in Korea. |
Latin America sales volumes grew by a mid-single-digit percentage versus the prior year primarily due to low-double-digit percentage sales volume growth in the Industrial Coatings segment businesses. Sales volumes in the Performance Coating segment businesses were level with the prior year.
|
Net sales from acquired businesses, net of dispositions added approximately $20 million in the third quarter of 2017, primarily the DEUTEK and Univer businesses in Europe. |
Foreign currency translation increased net sales by $67 million as the U.S. dollar weakened against several foreign currencies versus the prior year, most notably the Mexican peso and the euro. |
Cost of Sales, exclusive of depreciation and amortization
|
| | | | | | | | | | |
| Three Months Ended September 30 | | Percent Change |
($ in millions, except percentages) | 2017 | | 2016 | | 2017 vs. 2016 |
Cost of sales, exclusive of depreciation and amortization | $ | 2,100 |
| | $ | 1,978 |
| | 6.2 | % |
Cost of sales as a percentage of net sales | 55.6 | % | | 54.0 | % | | 1.6 | % |
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|
2017 vs. 2016 |
Cost of sales, exclusive of depreciation and amortization, increased $122 million (+6.2%) primarily due to the following: |
● Increasing raw material costs |
● Higher sales volumes |
● Foreign currency translation |
● Cost of sales attributable to acquired businesses |
Partially offset by: |
● Lower manufacturing costs, including restructuring cost savings |
Selling, general and administrative expenses
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| | | | | | | | | | |
| Three Months Ended September 30 | | Percent Change |
($ in millions, except percentages) | 2017 | | 2016 | | 2017 vs. 2016 |
Selling, general and administrative expenses (SG&A) | $ | 905 |
| | $ | 893 |
| | 1.3 | % |
Selling, general and administrative expenses as a percentage of net sales | 24.0 | % | | 24.4 | % | | (0.4 | )% |
|
|
2017 vs. 2016 |
SG&A expense increased $12 million (1.3%) primarily due to the following: |
● Foreign currency translation |
● Wage and other cost inflation |
● SG&A expenses attributable to acquired businesses |
Partially offset by: |
● Lower net periodic other postretirement benefit costs |
● Restructuring cost savings |
● Lower selling and advertising expense |
● Lower incentive compensation expense |
Other costs and income
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| | | | | | | | | | |
| Three Months Ended September 30 | | Percent Change |
($ in millions, except percentages) | 2017 | | 2016 | | 2017 vs. 2016 |
Interest expense, net of Interest income | $ | 22 |
| | $ | 28 |
| | (21.4 | )% |
Pension settlement charge | $ | — |
| | $ | 968 |
| | (100.0 | )% |
Other charges | $ | 13 |
| | $ | 12 |
| | 8.3 | % |
Other income | $ | (16 | ) | | $ | (21 | ) | | (23.8 | )% |
Interest expense, net of Interest income
Interest expense, net of interest income decreased $6 million year-over-year primarily due to lower interest rate debt outstanding during 2017.
Pension Settlement Charge
During the third quarter 2016, PPG recorded pension settlement charges totaling $968 million. Refer to Note 10, "Pensions and Other Postretirement Benefits" for additional details.
Effective tax rate and earnings per diluted share