oi_Current Folio_10Q

en mple

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C.  20549

 

FORM 10-Q

 

(Mark one)

 

QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the quarterly period ended

September 30, 2018

 

or

 

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

 

For the transition period from        to       

 

Commission file number 1-9576

 

Picture 1

 

OWENS-ILLINOIS, INC.

(Exact name of registrant as specified in its charter)

 

 

 

 

Delaware

 

22-2781933

(State or other jurisdiction of

 

(IRS Employer

incorporation or organization)

 

Identification No.)

 

 

 

 

 

One Michael Owens Way, Perrysburg, Ohio

 

43551

(Address of principal executive offices)

 

(Zip Code)

 

Registrant’s telephone number, including area code:  (567) 336-5000

 

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 (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes ☒  No ☐

 

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted 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 such files). Yes ☒  No ☐

 

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, smaller reporting company, or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer”, “smaller reporting company”, and “emerging growth company” in Rule 12b-2 of the Exchange Act. 

 

 

 

 

Large accelerated filer ☒

Accelerated filer ☐

Non-accelerated filer ☐

 

 

Smaller reporting company ☐

Emerging growth company ☐

 

 

 

 

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 ☒

 

The number of shares of common stock, par value $.01, of Owens-Illinois, Inc. outstanding as of September 30, 2018 was 158,698,663.

 

 

 


 

 

Part I — FINANCIAL INFORMATION

 

Item 1.  Financial Statements.

 

The Condensed Consolidated Financial Statements of Owens-Illinois, Inc. (the “Company”) presented herein are unaudited but, in the opinion of management, reflect all adjustments necessary to present fairly such information for the periods and at the dates indicated.  All adjustments are of a normal recurring nature. Because the following unaudited condensed consolidated financial statements have been prepared in accordance with Article 10 of Regulation S-X, they do not contain all information and footnotes normally contained in annual consolidated financial statements; accordingly, they should be read in conjunction with the Consolidated Financial Statements and notes thereto appearing in the Company’s Annual Report on Form 10-K for the year ended December 31, 2017.

1


 

OWENS-ILLINOIS, INC.

CONDENSED CONSOLIDATED RESULTS OF OPERATIONS

(Dollars in millions, except per share amounts)
(Unaudited)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three months ended

 

Nine months ended

 

 

 

 

September 30,

 

September 30,

 

 

 

 

2018

    

2017

    

2018

    

2017

    

 

Net sales

 

$

1,734

 

$

1,791

 

$

5,242

 

$

5,157

 

 

Cost of goods sold

 

 

(1,410)

 

 

(1,438)

 

 

(4,253)

 

 

(4,143)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross profit

 

 

324

 

 

353

 

 

989

 

 

1,014

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Selling and administrative expense

 

 

(115)

 

 

(120)

 

 

(367)

 

 

(362)

 

 

Research, development and engineering expense

 

 

(17)

 

 

(15)

 

 

(50)

 

 

(46)

 

 

Interest expense, net

 

 

(63)

 

 

(63)

 

 

(199)

 

 

(204)

 

 

Equity earnings

 

 

19

 

 

22

 

 

57

 

 

55

 

 

Other income (expense), net

 

 

20

 

 

(5)

 

 

(49)

 

 

(61)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Earnings from continuing operations before income taxes

 

 

168

 

 

172

 

 

381

 

 

396

 

 

Provision for income taxes

 

 

(41)

 

 

(37)

 

 

(95)

 

 

(65)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Earnings from continuing operations

 

 

127

 

 

135

 

 

286

 

 

331

 

 

Loss from discontinued operations

 

 

 

 

 

(2)

 

 

(1)

 

 

(2)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net earnings

 

 

127

 

 

133

 

 

285

 

 

329

 

 

Net earnings attributable to noncontrolling interests

 

 

(7)

 

 

(7)

 

 

(18)

 

 

(15)

 

 

Net earnings attributable to the Company

 

$

120

 

$

126

 

$

267

 

$

314

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Amounts attributable to the Company:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Earnings from continuing operations

 

$

120

 

$

128

 

$

268

 

$

316

 

 

Loss from discontinued operations

 

 

 

 

 

(2)

 

 

(1)

 

 

(2)

 

 

Net earnings

 

$

120

 

$

126

 

$

267

 

$

314

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic earnings per share:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Earnings from continuing operations

 

$

0.75

 

$

0.78

 

$

1.67

 

$

1.94

 

 

Loss from discontinued operations

 

 

 

 

 

(0.01)

 

 

(0.01)

 

 

(0.01)

 

 

Net earnings

 

$

0.75

 

$

0.77

 

$

1.66

 

$

1.93

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Weighted averages shares outstanding (thousands)

 

 

159,032

 

 

162,866

 

 

160,936

 

 

162,658

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Diluted earnings per share:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Earnings from continuing operations

 

$

0.75

 

$

0.77

 

$

1.65

 

$

1.92

 

 

Loss from discontinued operations

 

 

 

 

 

(0.01)

 

 

(0.01)

 

 

(0.01)

 

 

Net earnings

 

$

0.75

 

$

0.76

 

$

1.64

 

$

1.91

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Weighted average diluted shares outstanding (thousands)

 

 

161,035

 

 

164,993

 

 

162,977

 

 

164,440

 

 

 

See accompanying notes.

2


 

OWENS-ILLINOIS, INC.

CONDENSED CONSOLIDATED COMPREHENSIVE INCOME

(Dollars in millions)

(Unaudited)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three months ended

 

Nine months ended

 

 

 

 

September 30,

 

September 30,

 

 

 

    

2018

    

2017

    

2018

    

2017

    

 

Net earnings

 

$

127

 

$

133

 

$

285

 

$

329

 

 

Other comprehensive income (loss):

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign currency translation adjustments

 

 

32

 

 

10

 

 

(110)

 

 

212

 

 

Pension and other postretirement benefit adjustments, net of tax

 

 

15

 

 

10

 

 

51

 

 

25

 

 

Change in fair value of derivative instruments, net of tax

 

 

(1)

 

 

 

 

 

(7)

 

 

(10)

 

 

Other comprehensive income (loss)

 

 

46

 

 

20

 

 

(66)

 

 

227

 

 

Total comprehensive income

 

 

173

 

 

153

 

 

219

 

 

556

 

 

Comprehensive income (loss) attributable to noncontrolling interests

 

 

 1

 

 

(8)

 

 

 

 

 

(8)

 

 

Comprehensive income attributable to the Company

 

$

174

 

$

145

 

$

219

 

$

548

 

 

 

See accompanying notes.

3


 

OWENS-ILLINOIS, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

(Dollars in millions)

(Unaudited)

 

 

 

 

 

 

 

 

 

 

 

 

 

September 30,

 

December 31,

 

September 30,

 

 

2018

 

2017

 

2017

Assets

 

 

 

 

 

 

 

 

 

Current assets:

 

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

440

 

$

492

 

$

339

Trade receivables, net of allowance of $35 million, $34 million, and $36 million at September 30, 2018, December 31, 2017 and September 30, 2017

 

 

992

 

 

663

 

 

1,028

Inventories

 

 

973

 

 

1,036

 

 

1,046

Prepaid expenses and other current assets

 

 

259

 

 

229

 

 

254

Total current assets

 

 

2,664

 

 

2,420

 

 

2,667

 

 

 

 

 

 

 

 

 

 

Property, plant and equipment, net

 

 

3,044

 

 

3,131

 

 

3,036

Goodwill

 

 

2,549

 

 

2,590

 

 

2,621

Intangibles, net

 

 

422

 

 

439

 

 

473

Other assets

 

 

1,261

 

 

1,176

 

 

1,202

Total assets

 

$

9,940

 

$

9,756

 

$

9,999

 

 

 

 

 

 

 

 

 

 

Liabilities and Share Owners' Equity

 

 

 

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

 

 

 

Accounts payable

 

$

1,048

 

$

1,324

 

$

1,087

Short-term loans and long-term debt due within one year

 

 

152

 

 

162

 

 

243

Current portion of asbestos-related liabilities

 

 

100

 

 

100

 

 

115

Other liabilities

 

 

604

 

 

579

 

 

617

Other liabilities - discontinued operations

 

 

115

 

 

115

 

 

115

Total current liabilities

 

 

2,019

 

 

2,280

 

 

2,177

 

 

 

 

 

 

 

 

 

 

Long-term debt

 

 

5,487

 

 

5,121

 

 

5,378

Asbestos-related liabilities

 

 

442

 

 

482

 

 

528

Other long-term liabilities

 

 

925

 

 

946

 

 

977

Share owners' equity

 

 

1,067

 

 

927

 

 

939

Total liabilities and share owners' equity

 

$

9,940

 

$

9,756

 

$

9,999

 

 

 

 

 

 

 

 

 

 

See accompanying notes.

4


 

OWENS-ILLINOIS, INC.

CONDENSED CONSOLIDATED CASH FLOWS

(Dollars in millions)

(Unaudited)

 

 

 

 

 

 

 

 

 

 

 

 

Nine months ended September 30,

 

 

 

    

2018

    

2017

 

 

Cash flows from operating activities:

 

 

 

 

 

 

 

 

Net earnings

 

$

285

 

$

329

 

 

Loss from discontinued operations

 

 

 1

 

 

 2

 

 

Non-cash charges

 

 

 

 

 

 

 

 

Depreciation and amortization

 

 

384

 

 

372

 

 

Pension expense

 

 

25

 

 

22

 

 

Restructuring, asset impairment and related charges

 

 

70

 

 

48

 

 

Cash payments

 

 

 

 

 

 

 

 

Pension contributions

 

 

(26)

 

 

(28)

 

 

Asbestos-related payments

 

 

(40)

 

 

(49)

 

 

Cash paid for restructuring activities

 

 

(21)

 

 

(30)

 

 

Change in components of working capital

 

 

(545)

 

 

(601)

 

 

Other, net (a)

 

 

(34)

 

 

(26)

 

 

Cash provided by continuing operating activities

 

 

99

 

 

39

 

 

Cash utilized in discontinued operating activities

 

 

(1)

 

 

(2)

 

 

Total cash provided by operating activities

 

 

98

 

 

37

 

 

Cash flows from investing activities:

 

 

 

 

 

 

 

 

Cash payments for property, plant and equipment

 

 

(383)

 

 

(292)

 

 

Acquisitions, net of cash acquired

 

 

(48)

 

 

(37)

 

 

Net cash proceeds on disposal of assets

 

 

10

 

 

14

 

 

Cash utilized in continuing investing activities

 

 

(421)

 

 

(315)

 

 

Cash provided by discontinued investing activities

 

 

 

 

 

115

 

 

Total cash utilized in investing activities

 

 

(421)

 

 

(200)

 

 

Cash flows from financing activities:

 

 

 

 

 

 

 

 

Changes in borrowings, net

 

 

413

 

 

23

 

 

Issuance of common stock and other

 

 

 1

 

 

(5)

 

 

Treasury shares repurchased

 

 

(107)

 

 

 

 

 

Payment of finance fees

 

 

(13)

 

 

(23)

 

 

Distributions to noncontrolling interests

 

 

(9)

 

 

(9)

 

 

Cash provided by (utilized in) financing activities

 

 

285

 

 

(14)

 

 

Effect of exchange rate fluctuations on cash

 

 

(14)

 

 

24

 

 

Change in cash

 

 

(52)

 

 

(153)

 

 

Cash at beginning of period

 

 

492

 

 

492

 

 

Cash at end of period

 

$

440

 

$

339

 

 


(a)

Other, net includes other non-cash charges plus other changes in non-current assets and liabilities.

 

See accompanying notes.

5


 

OWENS-ILLINOIS, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Tabular data dollars in millions, except per share amounts

 

1.  Segment Information

The Company has three reportable segments and three operating segments based on its geographic locations:  Americas, Europe, and Asia Pacific.  These three segments are aligned with the Company’s internal approach to managing, reporting, and evaluating performance of its global glass operations.  As previously disclosed, to better leverage its scale and presence across a larger geography and market, the Company completed the consolidation of the former North America and Latin America segments into one segment, named the Americas, effective January 1, 2018.  The consolidation resulted in the leadership roles of the former North America and Latin America segments being combined into one position, President of the Americas, reporting to the Company’s chief operating decision maker (“CODM”), who is the Company’s Chief Executive Officer.  Beginning January 1, 2018, the CODM reviews the operating results at the Americas level to make resource allocation decisions and to assess performance. The consolidation also resulted in the elimination of duplicative costs as certain functions of the former North America and Latin America segments were combined to simplify the management of the new Americas segment.  For example, the Company consolidated its business shared service centers in North America and Latin America into one Americas shared service center. 

Certain assets and activities not directly related to one of the regions or to glass manufacturing are reported with Retained corporate costs and other.  These include licensing, equipment manufacturing, global engineering, and certain equity investments.  Retained corporate costs and other also includes certain headquarters administrative and facilities costs and certain incentive compensation and other benefit plan costs that are global in nature and are not allocable to the reportable segments.

The Company’s measure of profit for its reportable segments is segment operating profit, which is a non-GAAP financial measure that consists of consolidated earnings from continuing operations before interest income, interest expense, and provision for income taxes and excludes amounts related to certain items that management considers not representative of ongoing operations as well as certain retained corporate costs.  The Company’s management uses segment operating profit, in combination with net sales and selected cash flow information, to evaluate performance and to allocate resources.  Segment operating profit for reportable segments includes an allocation of some corporate expenses based on both a percentage of sales and direct billings based on the costs of specific services provided.

Financial information for the three and nine months ended September 30, 2018 and 2017 regarding the Company’s reportable segments is as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

    

Three months ended September 30,

 

Nine months ended September 30,

 

 

 

2018

    

2017

    

2018

 

2017

 

Net sales:

 

 

 

 

 

 

 

 

 

 

 

 

 

Americas

 

$

939

 

$

963

 

$

2,777

 

$

2,774

 

Europe

 

 

613

 

 

624

 

 

1,930

 

 

1,813

 

Asia Pacific

 

 

165

 

 

188

 

 

491

 

 

516

 

Reportable segment totals

 

 

1,717

 

 

1,775

 

 

5,198

 

 

5,103

 

Other

 

 

17

 

 

16

 

 

44

 

 

54

 

Net sales

 

$

1,734

 

$

1,791

 

$

5,242

 

$

5,157

 

 

6


 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three months ended September 30,

 

Nine months ended September 30,

 

 

    

2018

    

2017

    

2018

    

2017

 

Segment operating profit:

 

 

 

 

 

 

 

 

 

 

 

 

 

Americas

 

$

158

 

$

159

 

$

458

 

$

459

 

Europe

 

 

87

 

 

81

 

 

260

 

 

220

 

Asia Pacific

 

 

10

 

 

20

 

 

16

 

 

51

 

Reportable segment totals

 

 

255

 

 

260

 

 

734

 

 

730

 

Items excluded from segment operating profit:

 

 

 

 

 

 

 

 

 

 

 

 

 

Retained corporate costs and other

 

 

(24)

 

 

(25)

 

 

(81)

 

 

(81)

 

Restructuring, asset impairment and other

 

 

 

 

 

 

 

 

(73)

 

 

(49)

 

Interest expense, net

 

 

(63)

 

 

(63)

 

 

(199)

 

 

(204)

 

Earnings from continuing operations before income taxes

 

$

168

 

$

172

 

$

381

 

$

396

 

Financial information regarding the Company’s total assets is as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

September 30,

 

December 31,

 

September 30,

 

 

    

2018

 

2017

 

2017

 

Total assets:

 

 

 

 

 

 

 

 

 

 

Americas

 

$

5,455

 

$

5,411

 

$

5,598

 

Europe

 

 

3,220

 

 

3,133

 

 

3,140

 

Asia Pacific

 

 

999

 

 

1,001

 

 

1,046

 

 

 

 

 

 

 

 

 

 

 

 

Reportable segment totals

 

 

9,674

 

 

9,545

 

 

9,784

 

Other

 

 

266

 

 

211

 

 

215

 

Consolidated totals

 

$

9,940

 

$

9,756

 

$

9,999

 

 

 

2.  Revenue

On January 1, 2018, the Company adopted accounting standard ASC 606, Revenue from Contracts with Customers, and selected the modified retrospective transition method. The adoption of this new standard did not impact the Company’s consolidated results of operations or balance sheet and there was no cumulative effect of initially applying this new revenue standard to the opening balance of retained earnings.

Revenue is recognized when obligations under the terms of the Company’s contracts and related purchase orders with its customers are satisfied.  This occurs with the transfer of control of glass containers, which primarily takes place when products are shipped from the Company’s manufacturing or warehousing facilities to the customer.  Revenue is measured as the amount of consideration the Company expects to receive in exchange for transferring goods, which includes estimated provisions for rebates, discounts, returns and allowances. Sales, value added, and other taxes the Company collects concurrent with revenue-producing activities are excluded from revenue.  The Company’s payment terms are based on customary business practices and can vary by customer type. The term between invoicing and when payment is due is not significant. Also, the Company elected to account for shipping and handling costs as a fulfillment cost at the time of shipment.

For the three and nine months ended September 30, 2018, the Company had no material bad debt expense and there were no material contract assets, contract liabilities or deferred contract costs recorded on the Condensed Consolidated Balance Sheet. For the three and nine months ended September 30, 2018, revenue recognized from prior periods (for example, due to changes in transaction price) was not material.

7


 

The following table for three months ended September 30, 2018 disaggregates the Company’s revenue by customer end use:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Three months ended September 30, 2018

 

    

Americas

 

Europe

 

Asia Pacific

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

Alcoholic beverages (beer, wine, spirits)

 

$

582

 

$

419

 

$

121

 

$

1,122

Food and other

 

 

209

 

 

127

 

 

24

 

 

360

Non-alcoholic beverages

 

 

148

 

 

67

 

 

20

 

 

235

Reportable segment totals

 

$

939

 

$

613

 

$

165

 

$

1,717

Other

 

 

 

 

 

 

 

 

 

 

 

17

Net sales

 

 

 

 

 

 

 

 

 

 

$

1,734

The following table for nine months ended September 30, 2018 disaggregates the Company’s revenue by customer end use:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Nine months ended September 30, 2018

 

    

Americas

 

Europe

 

Asia Pacific

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

Alcoholic beverages (beer, wine, spirits)

 

$

1,743

 

$

1,383

 

$

361

 

$

3,487

Food and other

 

 

594

 

 

351

 

 

72

 

 

1,017

Non-alcoholic beverages

 

 

440

 

 

196

 

 

58

 

 

694

Reportable segment totals

 

$

2,777

 

$

1,930

 

$

491

 

$

5,198

Other

 

 

 

 

 

 

 

 

 

 

 

44

Net sales

 

 

 

 

 

 

 

 

 

 

$

5,242

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

3.  Inventories

Major classes of inventory at September 30, 2018, December 31, 2017 and September 30, 2017 are as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

September 30,

 

December 31,

 

September 30,

 

 

 

    

2018

    

2017

    

2017

   

 

Finished goods

 

$

808

 

$

873

 

$

875

 

 

Raw materials

 

 

119

 

 

122

 

 

129

 

 

Operating supplies

 

 

46

 

 

41

 

 

42

 

 

 

 

$

973

 

$

1,036

 

$

1,046

 

 

 

4.  Derivative Instruments

The Company has certain derivative assets and liabilities which consist of natural gas forwards, foreign exchange option and forward contracts, interest rate swaps and cross currency swaps. The valuation of these instruments is determined using widely accepted valuation techniques, including discounted cash flow analysis on the expected cash flows of each derivative an income approach to value most of these contracts.  Natural gas forward rates and foreign exchange rates are the significant inputs into the valuation models. The Company also evaluates counterparty risk in determining fair values. This analysis reflects the contractual terms of the derivatives, including the period to maturity, and uses observable market-based inputs, including interest rate curves and implied volatilities. The fair values of interest rate swaps are determined using the market standard methodology of netting the discounted future fixed cash receipts (or payments) and the discounted expected variable cash payments (or receipts). The variable cash payments (or receipts) are based on an expectation of future interest rates (forward curves) derived from observable market interest rate curves.  These inputs are observable in active markets over the terms of the instruments the Company holds, and accordingly, the Company classifies its derivative assets and liabilities as Level 2 in the hierarchy. 

8


 

Commodity Forward Contracts Designated as Cash Flow Hedges

In several regions, the Company enters into commodity forward contracts related to forecasted natural gas requirements, the objectives of which are to limit the effects of fluctuations in the future market price paid for natural gas and the related volatility in cash flows.  In the Americas, some customer contracts contain provisions that pass the price of natural gas to the customer, which the customer has the option of fixing for a specified period of time.  To limit the effects of fluctuations in cash flows resulting from these customer contracts, the Company enters into commodity forward contracts related to forecasted natural gas requirements.  In Asia Pacific, the Company implemented a hedging program that included the execution of commodity forward contracts for certain contracted natural gas requirements.  In total, the Company had entered into commodity forward contracts covering approximately 7,600,000 MM BTUs at September 30, 2018, 8,800,000 MM BTUs at December 31, 2017 and 9,300,000 MM BTUs at September 30, 2017, respectively.

The Company accounts for the above forward contracts as cash flow hedges and recognizes them on the Condensed Consolidated Balance Sheet at fair value.  The effective portion of changes in the fair value of a derivative that is designated as, and meets the required criteria for, a cash flow hedge is recorded in the Accumulated Other Comprehensive Income component of share owners’ equity (“OCI”) and reclassified into earnings in the same period or periods during which the underlying hedged item affects earnings.  An unrecognized loss of $8 million at September 30, 2018, an unrecognized gain of $3 million at December 31, 2017 and an unrecognized loss of less than $1 million at September 30, 2017 related to the commodity forward contracts was included in Accumulated OCI, and will be reclassified into earnings in the period when the commodity forward contracts expire.  Any material portion of the change in the fair value of a derivative designated as a cash flow hedge that is deemed to be ineffective is recognized in current earnings.  The ineffectiveness related to these natural gas hedges for the three and nine months ended September 30, 2018 and 2017 was not material.

The effect of the commodity forward contracts on the results of operations for the three months ended September 30, 2018 and September 30, 2017 is as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Amount of Gain (Loss) Reclassified from

 

Amount of Gain (Loss) Recognized in OCI on

 

Accumulated OCI into Income

 

Commodity Forward Contracts

 

(reported in cost of goods sold)

 

(Effective Portion)

 

(Effective Portion)

 

2018

    

2017

    

2018

    

2017

 

$

 

 1

 

$

(1)

 

$

 —

 

$

 —

 

The effect of the commodity forward contracts on the results of operations for the nine months ended September 30, 2018 and September 30, 2017 is as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Amount of Gain (Loss) Reclassified from

 

Amount of Gain Recognized in OCI on

 

Accumulated OCI into Income

 

Commodity Forward Contracts

 

(reported in cost of goods sold)

 

(Effective Portion)

 

(Effective Portion)

 

2018

    

2017

    

2018

    

2017

 

$

 

 6

 

$

 3

 

$

(1)

 

$

 —

 

 

Foreign Exchange Derivative Contracts and not Designated as Hedging Instruments

The Company may enter into short-term forward exchange or option agreements to purchase foreign currencies at set rates in the future. These agreements are used to limit exposure to fluctuations in foreign currency exchange rates for significant planned purchases of fixed assets or commodities that are denominated in currencies other than the subsidiaries’ functional currency. The Company may also use foreign exchange agreements to offset the foreign currency risk for receivables and payables, including intercompany receivables, payables, and loans, not denominated in, or indexed to, their functional currencies. The Company records these short-term foreign exchange agreements on the balance sheet at fair value and changes in the fair value are recognized in current earnings.

9


 

At September 30, 2018, December 31, 2017 and September 30, 2017, the Company had outstanding foreign exchange and option agreements denominated in various currencies covering the equivalent of approximately $410 million, $460 million and $320 million, respectively, related primarily to intercompany transactions and loans.

The effect of the foreign exchange derivative contracts on the results of operations for the three months ended September 30, 2018 and September 30, 2017 is as follows:

 

 

 

 

 

 

 

 

 

 

Amount of Gain (Loss)

 

Location of Gain (Loss)

 

Recognized in Income on

 

Recognized in Income on

 

Foreign Exchange Contracts

 

Foreign Exchange Contracts

 

2018

 

2017

 

Other expense, net

    

$

 —

    

$

(2)

 

 

The effect of the foreign exchange derivative contracts on the results of operations for the nine months ended September 30, 2018 and September 30, 2017 is as follows:

 

 

 

 

 

 

 

 

 

 

Amount of Gain (Loss)

 

Location of Gain (Loss)

 

Recognized in Income on

 

Recognized in Income on

 

Foreign Exchange Contracts

 

Foreign Exchange Contracts

 

2018

 

2017

 

Other expense, net

    

$

(1)

    

$

 4

 

Cash Flow Hedges of Foreign Exchange Risk

The Company has variable-interest rate borrowings denominated in currencies other than the functional currency of the borrowing subsidiaries. As a result, the Company is exposed to fluctuations in the currency of the borrowing against the subsidiaries’ functional currency.  The Company uses derivatives to manage these exposures and designates these derivatives as cash flow hedges of foreign exchange risk.  For these derivatives designated as cash flow hedges of foreign exchange risk the gain or loss on the derivative is recorded in Accumulated OCI and is subsequently reclassified into earnings in the period for which the hedged forecasted transaction affects earnings. If there is an ineffective portion of the change in fair value of the derivative it is recognized directly in earnings.

During the fourth quarter of 2017, one of the Company’s Euro-functional subsidiaries entered into a series of cross-currency swaps to manage its exposure to fluctuations in the Euro-U.S. dollar exchange rate arising from a U.S. dollar denominated borrowing.  These swaps involve exchanging fixed rate Euro interest payments for fixed rate U.S. dollar interest receipts, both of which will occur at the forward exchange rates in effect upon entering into the instrument. An unrecognized loss of $9 million at September 30, 2018 and an unrecognized loss of less than $1 million at December 31, 2017, related to these cross-currency swaps, were included in Accumulated OCI, and will be reclassified into earnings within the next twelve months. These instruments, in the aggregate, have a pay fixed notional amount of €263 million and a receive notional amount of $310 million. They reach final maturity in 2023. There was no ineffectiveness related to these cross-currency interest rate swaps for the three and nine months ended September 30, 2018.

During the second quarter of 2018, two of the Company’s subsidiaries, a New Zealand dollar (“NZD”) functional currency subsidiary and an Australian dollar (“AUD”) functional currency subsidiary, entered into a series of cross-currency swaps to manage its exposure to fluctuations in the NZD-U.S. dollar exchange rate and the AUD-U.S. dollar exchange rate arising from U.S. dollar denominated borrowings. These swaps involve exchanging floating rate U.S. dollar interest receipts for fixed rate NZD and AUD interest payments, both of which will occur at the forward exchange rates in effect upon entering into the instrument. An unrecognized loss of $3 million at September 30, 2018 related to these cross-currency swaps, was included in Accumulated OCI, and will be reclassified into earnings within the next twelve months. The NZD to U.S. dollar instruments, in the aggregate, have a pay fixed notional amount of NZD $161 million and a receive notional amount of $110 million. They reach final maturity in 2022. The AUD to U.S. dollar instruments, in the aggregate, have a pay fixed notional amount of AUD $231 million and a receive notional amount of $170 million. They reach final maturity in 2022. There was no ineffectiveness related to these cross-currency swaps for the three and nine months ended September 30, 2018.

10


 

The effect of the cash flow hedges of foreign exchange risk on the results of operations for the three months ended September 30, 2018 is as follows:

 

 

 

 

 

 

 

 

Amount of Gain (Loss) Reclassified from

Amount of Gain (Loss) Recognized in OCI on

 

Accumulated OCI into Income

Cash Hedges of Foreign Exchange Risk

 

(reported in Other expense, net)

(Effective Portion)

 

(Effective Portion)

$

 

 7

 

$

(9)

The effect of the cash flow hedges of foreign exchange risk on the results of operations for the nine months ended September 30, 2018 is as follows:

 

 

 

 

 

 

 

 

Amount of Gain (Loss) Reclassified from

Amount of Gain (Loss) Recognized in OCI on

 

Accumulated OCI into Income

Cash Hedges of Foreign Exchange Risk

 

(reported in Other expense, net)

(Effective Portion)

 

(Effective Portion)

$

 

 8

 

$

 1

Interest Rate Swaps Designated as Fair Value Hedges

During 2017, the Company entered into a series of interest rate swap agreements with a total notional amount of €725 million that reach final maturity in 2024. The swaps were executed in order to maintain a capital structure containing appropriate amounts of fixed and floating-rate debt.

The Company’s fixed-to-variable interest rate swaps were accounted for as fair value hedges. The relevant terms of the swap agreements match the corresponding terms of the notes and therefore there is no hedge ineffectiveness. The Company recorded the net of the fair market values of the swaps as a long-term liability and short-term asset along with a corresponding net decrease in the carrying value of the hedged debt.

Under the swaps, the Company receives fixed rate interest amounts (equal to the interest on the corresponding hedged note) and pays interest at a six-month Euribor rate (set in arrears) plus a margin spread (see table below). The interest rate differential on each swap is recognized as an adjustment of interest expense during each six-month period over the term of the agreement.

The following selected information relates to fair value swaps at September 30, 2018:

 

 

 

 

 

 

 

 

 

 

 

 

 

Amount Hedged

 

 

Receive Rate

 

 

Average Spread

 

Senior Notes due 2024

725

 

 

3.125

%

 

 

2.6

%

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash Flow Hedges of Interest Rate Risk

 

During the third quarter of 2018, the Company entered into a series of interest rate swap agreements with a total notional amount of $180 million. These interest rate swaps reach final maturity in 2020. The Company’s objectives in using interest rate derivatives are to manage its exposure to interest rate movements. To accomplish this objective, the Company uses interest rate swaps as part of its interest rate risk management strategy.  Interest rate swaps designated as cash flow hedges involve the receipt of variable amounts from a counterparty in exchange for the Company making fixed-rate payments. These interest rate swap agreements were used to hedge the variable cash flows associated with variable-rate debt.

Under the swaps, the Company pays fixed rate interest and receives floating rate interest amounts at a one month Libor rate plus a margin spread of 1.25%. The interest rate differential on each swap is recognized as an adjustment of interest expense during each monthly period over the term of the agreement.

For derivatives designated and that qualify as cash flow hedges of interest rate risk, the gain or loss on the derivative is recorded in Accumulated Other Comprehensive Income and subsequently reclassified into interest expense in the same period(s) during which the hedged transaction affects earnings. Amounts reported in accumulated other comprehensive income related to derivatives will be reclassified to interest expense as interest payments are made on the Company’s variable-rate debt. An unrecognized gain of less than $1 million at September 30, 2018 related to these interest rate swaps, was included in Accumulated OCI, and will be reclassified into earnings within the next twelve months. For the three

11


 

months ended September 30, 2018 there was a loss of less than $1 million recorded into Accumulated OCI and a gain of less than $1 million reclassified from Accumulated OCI into interest expense.

Net Investment Hedges

The Company is exposed to fluctuations in foreign exchange rates on investments it holds in non-U.S. subsidiaries. The Company uses cross currency swaps to hedge its exposure to changes in foreign exchange rates on certain of these investments. During the third quarter of 2018, the Company entered into a series of cross currency swap agreements with a pay notional amount of 154 million and a receive notional amount is $180 million that reach final maturity in 2020. These cross-currency swaps involve the receipt of USD fixed rate amounts from a counterparty in exchange for the Company making Euro fixed payments over the life of the agreement. For derivatives designated as net investment he