(Unaudited)

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

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

 

For the quarterly period ended: September 28, 2014

 

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 numbers: 333-82084-01

                                          

 

Registrant’s telephone number, including area code: (920) 734-9841

 

Indicate by check mark whether each 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 each 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  ☒   No  ◻

 

Indicate by check mark whether either of the registrants is a large accelerated filer, an accelerated filer, a non-accelerated filer or a smaller reporting company. See definition of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act (Check one).

Large Accelerated filer  ◻    Accelerated filer  ◻    Non-accelerated filer  ☒    (Do not check if a smaller reporting company)

Smaller reporting company ◻  

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act):    Yes  ◻    No  ☒

 

As of November 1, 2014, 7,167,591 shares of Paperweight Development Corp. common stock, $.01 par value, were outstanding. There is no trading market for the common stock of Paperweight Development Corp. No shares of Paperweight Development Corp. were held by non-affiliates.

 

Documents incorporated by reference: None.

  

Paperweight Development Corp. meets the conditions set forth in General Instruction H(1)(a) and (b) and is therefore filing this form with the reduced disclosure format.

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Explanatory Note

 

In this Quarterly Report on Form 10-Q for the nine months ended September 28, 2014 (“Quarterly Report”), Paperweight Development Corp. (the “Company” or “PDC”) is restating its previously issued condensed consolidated financial statements and the related disclosures as of December 28, 2013, and the previously issued condensed consolidated financial statements for the quarterly period ended September 29, 2013.  As discussed in further detail below and in Note 2 to the accompanying condensed consolidated financial statements, the restatement is the result of a misapplication in the guidance on accounting for redeemable equity.  We assessed the impact of this error on our prior interim and annual financial statements and concluded the impact was material to these financial statements.  Consequently, we are restating the prior period financial statements for the fiscal years ended December 28, 2013, December 29, 2012, and December 31, 2011, the unaudited condensed consolidated financial statements for the first three fiscal quarters in fiscal 2013, and the unaudited condensed consolidated financial statements for the first two fiscal quarters of fiscal year 2014.  All amounts in this Quarterly Report that were affected by the restatement have been restated, including the Condensed Consolidated Balance Sheet as of December 28, 2013 and the unaudited interim financial information for the quarter ended September 29, 2013. In addition, the following items of this Quarterly Report include restated financial data: (i) Part I, Item 1: Financial Statements (unaudited); and (ii) Part I, Item 2: Management’s Discussion and Analysis of Financial Condition and Results of Operations.

 

For a more detailed explanation of these matters and resulting restatements, please see Part I, Item 1: Financial Statements (unaudited) – Note 2 to the Condensed Consolidated Financial Statements and Part I, Item 2: Management’s Discussion and Analysis of Financial Condition and Results of Operations – Restatement of Previously Issued Consolidated Financial Statements.

 

In order to accomplish the restatements discussed above, we are also separately amending our previously filed (i) 2013 Annual Report on Form 10-K, which includes the years ended December 28, 2013, December 29, 2012, and December 31, 2011 and (ii) the 2014 Quarterly Reports on Form 10-Q for the quarterly period ended June 29, 2014, which includes the quarterly period ended June 30, 2013, and March 30, 2014, which includes the quarterly period ended March 31, 2013.

 

Background of Restatement

 

On November 11, 2014, the Audit Committee of the Company’s Board of Directors (the “Audit Committee”), in connection with an internal review initiated by Company management, concluded that, because of a misapplication of the accounting guidance related to redeemable equity, the Company’s previously issued consolidated financial statements for the years ended December 28, 2013, December 29, 2012, and December 31, 2011, and the financial statements for the quarters ended March 31, 2014 and June 30, 2014 should no longer be relied upon.  As such, the Company is restating its financial statements for the following periods: (i) the fiscal years ended December 28, 2013, December 29, 2012, and December 31, 2011, and (ii) the quarterly periods ended June 29, 2014, March 30, 2014, September 29, 2013, June 30, 2013, and March 31, 2013 (the “Restated Periods”).  These corrections result in restatements to the carrying amount of redeemable common stock and accumulated deficits for all periods and have no impact on the Company’s current or previously reported cash position, net income or loss, or statement of cash flows.

 

The guidance on accounting for redeemable equity requires a determination of whether the equity is currently redeemable or not currently redeemable.  Shares that are currently redeemable should be recorded at redemption value.  For shares that are not currently redeemable, the accounting guidance allows for changes in redemption value to be accreted from the initial issuance date to the earliest redemption date.  The Company originally determined that the redeemable common stock was not currently redeemable.  However, the original determination of the earliest redemption date did not consider that the common stock was redeemable at the option of employees upon termination.  In considering this fact, management determined that a significant portion of the common stock was currently redeemable and as a consequence those shares should have been carried at redemption value.

 

The guidance on accounting for redeemable equity also specifies that if the redemption value is less than the original issuance cost, the carrying amount of the redeemable common stock should not be less than the original issuance cost.  The Company’s historical accounting did not appropriately consider this requirement, which resulted in certain shares of redeemable common stock being reported at a carrying amount below the original issuance cost.

 

The Audit Committee, together with management, determined that the financial statements pertaining to the Restated Periods should be restated to reflect the provisions above with an offsetting adjustment to the carrying amount of accumulated deficit.

 

The restatement had no impact on the Company’s Consolidated Statements of Comprehensive Income (Loss) or Consolidated Statements of Cash Flows.  An explanation of the impact on our financial statements is contained in Note 2 to the condensed consolidated financial statements contained in Part I, Item 1: Financial Statements (unaudited).

 

 

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Internal Control Considerations

 

Management has assessed the effect of the restatement on the Company’s internal control over financial reporting and believes that this restatement was the result of a material weakness in its internal controls over financial reporting for all periods under restatement because of a material weakness related to accounting for redeemable equity.  A material weakness is a deficiency, or combination of deficiencies, in internal control over financial reporting, such that there is reasonable possibility that a material misstatement of a company’s annual or interim consolidated financial statements will not be prevented or detected on a timely basis.  For a discussion of management’s consideration of the material weakness identified, see Part I, Item 4: Controls and Procedures included in this Quarterly Report.

   

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

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PART 1 – FINANCIAL INFORMATION

Item 1 – Financial Statements (unaudited)

 

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

 

 

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The accompanying notes are an integral part of these condensed consolidated financial statements.

 

 

 

 

 

 

 

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The accompanying notes are an integral part of these condensed consolidated financial statements

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The accompanying notes are an integral part of these condensed consolidated financial statements.

 

 

 

 

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1.       BASIS OF PRESENTATION

 

In the opinion of management, all adjustments made for the fair statement of comprehensive (loss) income for the three and nine months ended September 28, 2014 and September 29, 2013, the cash flows for the nine months ended September 28, 2014 and September 29, 2013 and financial position at September 28, 2014 and December 28, 2013 were normal recurring adjustments.

 

These condensed financial statements should be read in conjunction with the audited consolidated financial statements and notes of Paperweight Development Corp. (“PDC”) and its 100%-owned subsidiaries (collectively the “Company”), which includes Appvion, Inc., formally known as Appleton Papers Inc, and its 100%-owned subsidiaries (collectively “Appvion”) for each of the three years in the period ended December 28, 2013, which are included in the annual report on Form 10-K for the year ended December 28, 2013. The condensed consolidated balance sheet data as of December 28, 2013, contained within these condensed financial statements, was derived from the audited financial statements of PDC but does not include all disclosures required by accounting principles generally accepted in the United States of America.

 

The results of operations for any interim period are not necessarily indicative of the results to be expected for the full year.

 

 

2.       RESTATEMENT OF CONSOLIDATED FINANCIAL STATEMENTS

 

          On November 11, 2014, the Audit Committee of the Company’s Board of Directors, in connection with an internal review initiated by Company management, concluded that, because of a misapplication of the accounting guidance related to redeemable equity, the Company’s previously issued consolidated financial statements for the years ended December 28, 2013, December 29, 2012, and December 31, 2011, and the financial statements for the quarters ended March 31, 2014 and June 30, 2014 should no longer be relied upon.  As such, the Company has restated its financial statements for the following periods: (i) the fiscal year ended December 28, 2013 and (ii) the quarterly period ended September 29, 2013 (the “Restated Periods”).  These corrections result in restatements to the carrying amount of redeemable common stock and accumulated deficits for all periods and have no impact on the Company’s current or previously reported cash position, net income or loss, or statement of cash flows.

 

          Under Accounting Standards Codification (“ASC”) 480, “Distinguishing Liabilities from Equity,” the appropriate accounting for redeemable equity first depends upon a determination of whether the equity is currently redeemable or not currently redeemable.  Shares that are currently redeemable should be recorded at redemption value.  For shares that are not currently redeemable, the accounting guidance allows for changes in redemption value to be accreted from the initial issuance date to the earliest redemption date.  The Company originally determined that the redeemable common stock was not currently redeemable.  However, the original determination of the earliest redemption date did not consider that the common stock was redeemable at the option of employees upon termination.  In considering this fact, management determined that a significant portion of the common stock was currently redeemable and as a consequence those shares should have been carried at redemption value.

 

          The guidance on accounting for redeemable equity also specifies that if the redemption value is less than the original issuance cost, the carrying amount of the redeemable common stock should not be less than the original issuance cost.  The Company’s historical accounting did not appropriately consider this requirement, which resulted in certain shares of redeemable common stock being reported at a carrying amount below the original issuance cost.

 

         

 

 

      

 

 

 

 

 

 

 

 

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The impact of the restatements on affected line items of the Condensed Consolidated Balance sheet as of December 28, 2013 and the Condensed Consolidated Statement of Redeemable Common Stock, Accumulated Deficit and Accumulated Other Comprehensive Income for the nine months ended September 29, 2013 is presented below. The restatements had no impact on the Company’s Consolidated Statements of Comprehensive Income (Loss) or Consolidated Statements of Cash Flows for any period.

 

 

 

 

 

 

 

 

3.       ACCOUNTS RECEIVABLE SECURITIZATION

 

During June 2014, the Company entered into an accounts receivable securitization program with a commitment size of $30.0 million, whereby transactions under the program are accounted for as sales of trade receivables in accordance with ASC Topic 860, “Transfers and Servicing.” Sales of trade receivables under the program are recorded as a reduction of accounts receivable in the Condensed Consolidated Balance Sheet as of September 28, 2014. Proceeds received, including collections on the deferred purchase price notes receivable, are included in cash flows from operating activities in the Condensed Consolidated Statement of Cash Flows for the nine months ended September 28, 2014. The Company deems the interest rate risk related to the deferred purchase price notes to be de minimis primarily due to the short average collection cycle (60 days) of the related receivables. Trade receivables sold to the third-party financial institution, and being serviced by Appvion, Inc., totaled $42.1 million as of September 28, 2014. Due to an average collection cycle of 60 days or less for such trade receivables, as well as Appvion’s collection history, the fair value of the deferred purchase price notes receivable approximates carrying value. The fair value of the deferred purchase price notes receivable recorded as of September 28, 2014 was $15.7 million and is included in accounts receivable in the Condensed Consolidated Balance Sheet as of September 28, 2014. Transaction costs totaling $0.7 million were deferred and recorded on the balance sheet as other long-term assets. They will be amortized over the three-year term of the securitization agreement.

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4.       OTHER INTANGIBLE ASSETS

 

The Company’s intangible assets consist of the following (dollars in thousands):

 

 

 

Amortization expense for the three and nine months ended September 28, 2014 was $0.6 million and $1.7 million, respectively. Amortization expense for the three and nine months ended September 29, 2013 was $0.6 million and $1.7 million, respectively.

 

 

5.       INVENTORIES    

 

Inventories consist of the following (dollars in thousands):

 

 

 

The stores and spare parts inventory balance was $15.7 million and $15.9 million as of September 28, 2014 and   December 28, 2013, respectively. It was valued at average cost and included in raw materials, work in process, stores and spare parts. All other inventories are valued using the first-in, first-out (“FIFO”) method.

 

6.       PROPERTY, PLANT AND EQUIPMENT

 

Property, plant and equipment balances consist of the following (dollars in thousands):

 

 

 

 

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Depreciation expense for the three and nine months ended September 28, 2014 and September 29, 2013 (dollars in thousands):

 

 

7.       OTHER CURRENT AND NONCURRENT ASSETS

 

Other current assets consist of the following (dollars in thousands):

 

 

 

The environmental indemnification receivable of $59.3 million,  for the period ended December 28, 2013, represented an indemnification receivable from Windward Prospects Ltd. (formerly Arjo Wiggins Appleton Limited, “Windward”) as recorded on the Condensed Consolidated Balance Sheet and related to indemnification by AWA for ongoing costs associated with the Fox River Liabilities. On September 30, 2014, Appvion entered into a Funding Agreement relating to clean-up costs and liabilities for the Lower Fox River sites and potential future sites. Under the Funding Agreement, the parties agreed to a specific funding arrangement for which Appvion has recorded a short-term liability and a long-term liability on its Condensed Consolidated Balance Sheet as of September 28, 2014. The Funding Agreement does not modify, alter or amend the two indemnification agreements entered into in 2001 wherein Windward agreed to indemnify PDC and PDC agreed to indemnify Appvion for certain costs, expenses and liabilities relating to the Fox River and future sites; however, there are currently no outstanding matters for which costs are being incurred and thereby eligible for indemnification under the noted indemnification agreements. As of September 28, 2014, there no longer is an environmental indemnification receivable recorded on the Condensed Consolidated Balance Sheet. For further discussion, see Note 13, Commitments and Contingencies.

 

Other noncurrent assets consist of the following (dollars in thousands):

 

 

 

 

 

 

 

 

 

 

 

 

 

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8.      OTHER ACCRUED LIABILITIES

 

Other accrued liabilities, as presented in the current liabilities section of the Condensed Consolidated Balance Sheet, consist of the following (dollars in thousands):

 

 

The Fox River Liabilities of $59.3 million, for the period ended December 28, 2013, represented the Company’s estimate of its arbitration liability related to the Company’s obligation to share defense and liability costs with NCR Corporation (“NCR”) in accordance with the terms of a 1998 agreement and a 2005 arbitration determination arising out of Appvion’s acquisition of assets from NCR in 1978. On September 30, 2014, Appvion entered into a Funding Agreement relating to clean-up costs and liabilities for the Lower Fox River sites and potential future sites. Under the Funding Agreement, the parties agreed to a specific funding arrangement for which Appvion has recorded a short-term liability of $17.1 million and a long-term liability of $6.9 million on its Condensed Consolidated Balance Sheet as of September 28, 2014. The Funding Agreement does not modify, alter or amend the two indemnification agreements entered into in 2001 wherein Windward agreed to indemnify PDC and PDC agreed to indemnify Appvion for certain costs, expenses and liabilities relating to the Fox River and future sites; however, there are currently no outstanding matters for which costs are being incurred and thereby no additional reserve is required. Therefore, there is no longer a Fox River Liabilities reserve recorded on the Condensed Consolidated Balance Sheet as of September 28, 2014. For further discussion, see Note 12, Commitments and Contingencies.

 

9.       NEW ACCOUNTING PRONOUNCEMENTS

 

In August 2014, the Financial Accounting Standards Board (“FASB”) issued Accounting Standard Update (“ASU”)  No. 2014-15, “Disclosure of Uncertainties about an Entity’s Ability to Continue as a Going Concern.” The amendments require management to evaluate whether there are relevant conditions and events,  known and reasonably knowable, considered in the aggregate, that raise substantial doubt about the entity’s ability to continue as a going concern within one year after the date the financial statements are issued (or within one year after the date the financial statements are available to be issued when applicable).  Management should consider whether its plans intended to mitigate the relevant conditions or events will alleviate the substantial doubt. The amendments provide guidance as to what disclosures are required when substantial doubt is alleviated or not. ASU 2014-15 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2016. The Company is currently assessing the impact the guidance will have on its consolidated financial statements.

 

In May 2014, the FASB issued ASU No. 2014-09, “Revenue from Contracts with Customers.” This guidance provides a single comprehensive revenue recognition model to apply in determining how and when to recognize revenue. The core principle of the guidance is that an entity should recognize revenue to depict the transfer of promised goods or services to customers in an amount that reflects the consideration to which the entity expects to be entitled in exchange for those goods or services. When applying the new revenue model to contracts with customers, the guidance requires five steps to be applied which include: 1) identify the contract(s) with a customer, 2) identify the performance obligations in the contract, 3) determine the transaction price, 4) allocate the transaction price to the performance obligations in the contract and 5) recognize revenue when (or as) the entity satisfies a performance obligation. The guidance also requires both quantitative and qualitative disclosures, which are more comprehensive than existing revenue standards. The disclosures are intended to enable financial statement users to understand the nature, timing and uncertainty of revenue and the related cash flow. ASU 2014-09 is effective for fiscal years, and interim periods within those years, beginning after December 15, 2016. The Company is currently assessing the impact the guidance will have on its consolidated financial statements.

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In February 2013, the FASB issued ASU No. 2013-04, "Obligations Resulting from Joint and Several Liability Arrangements for Which the Total Amount of the Obligation Is Fixed at the Reporting Date." This guidance requires an entity to measure obligations resulting from joint and several liability arrangements for which the total amount of the obligation within the scope of this guidance is fixed at the reporting date, as the sum of the following: (a) The amount the reporting entity agreed to pay on the basis of its arrangement among its co-obligors and (b) Any additional amount the reporting entity expects to pay on behalf of its co-obligors. The guidance also requires an entity to disclose the nature and amount of the obligation. ASU 2013-04 was effective for the Company's annual and interim periods beginning after December 15, 2013 and retrospective application is required for all prior periods presented. As required, the Company adopted this guidance beginning in the first quarter ended March 30, 2014 and there was no impact to the Company’s consolidated financial statements as a result of adoption.

 

In December 2011, the FASB issued ASU No. 2011-11, “Disclosures about Offsetting Assets and Liabilities.” It expands required disclosures related to the nature of an entity’s rights of setoff and related arrangements associated with its financial instruments and derivative instruments. It requires disclosure of net and gross positions in covered financial instruments and derivative instruments which are either (1) offset in accordance with ASC Sections 210-20-45 or 815-10-45, or (2) subject to an enforceable netting or other similar arrangement. To clarify the guidance provided in ASU 2011-11, the FASB issued ASU No. 2013-01, "Clarifying the Scope of Disclosures about Offsetting Assets and Liabilities" in January 2013. It clarifies the scope of the guidance to include derivatives, repurchase and reverse repurchase agreements, and securities borrowing and lending transactions that are either offset in accordance with Section 210-20-45 or Section 815-10-45 or subject to master netting or similar arrangements. The amendments were effective for fiscal years beginning on or after January 1, 2013, and interim periods within those annual periods. As required, the Company adopted this guidance for its fiscal year beginning December 29, 2013 and the first quarter interim period ended March 30, 2014. The impact to the Company’s consolidated financial statements, as a result of adoption, was not material.

 

10.      EMPLOYEE BENEFITS

 

The components of net periodic benefit cost associated with the defined benefit pension plans include the following (dollars in thousands):

 

 

The Company anticipated making contributions of approximately $18.0 million to its funded pension plan in 2014. All required 2014 contributions were made during the nine months ended September 28, 2014 and totaled $16.1 million. Recently enacted legislation, together with an amendment to the defined benefit pension plan allowing lump sum distributions, reduced the Company’s contribution requirements.

 

        

 

 

 

 

 

 

 

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Certain of the Company’s hourly employees participated in a multi-employer defined benefit plan, the Pace Industry Union-Management Pension Plan (EIN #11-6166763). Participants in this plan included the West Carrollton, Ohio represented manufacturing employees, where the collective bargaining agreement expired April 1, 2012. Participants also included the represented employees at the Kansas City, Kansas distribution center, where the collective bargaining agreement expired December 31, 2011. As a result of labor contracts ratified in June 2012 and September 2012, by the bargaining employees in Kansas City and West Carrollton, respectively, both groups elected to end their participation in this multi-employer plan and instead participate in the defined benefit pension plan sponsored by the Company. This resulted in a full withdrawal from the multi-employer plan, for which, the Company recorded a $7.0 million expense in third quarter 2012 representing its estimated cost to satisfy its complete withdrawal liability under the terms of the plan’s trust agreement. This was in addition to the $18.0 million partial withdrawal liability recorded as a restructuring reserve during first quarter 2012 due to the workforce reduction at West Carrollton resulting from the cessation of papermaking activities. The estimated obligation for the complete withdrawal liability was derived from available information, including but not limited to collective bargaining agreements, plan trust agreements, participation agreements, ERISA statutes, regulations and rulings, discussions with the plan trustee and discussions with legal counsel. The recorded liability is the Company’s best estimate of the amount to satisfy the withdrawal liability, with a payment period that began January 2014 and could extend for up to 20 years, discounted in accordance with ASC Section 450-20-S99-1. Payments of $0.4 million and $1.4 million were made during third quarter 2014 and the first nine months of 2014, respectively, resulting in recorded interest expense of $0.2 million and $0.8 million for each of the two periods, respectively. As of September 28, 2014, the reserve has been reduced by $0.6 million. Of the total $24.4 million reserve, $0.8 million was classified as short-term and $23.6 million was classified as long-term within the Condensed Consolidated Balance Sheet at September 28, 2014.

 

11.      POSTRETIREMENT BENEFIT PLANS OTHER THAN PENSIONS

 

The components of other postretirement benefit cost include the following (dollars in thousands):

 

 

 

 

12.      LONG-TERM INCENTIVE COMPENSATION    

 

In December 2001, the Company adopted the Appvion, Inc. Long-Term Incentive Plan (“LTIP”). Effective January 3, 2010, the Company adopted a long-term restricted stock unit plan ("RSU"). Both plans utilize phantom units. The value of a unit in the LTIP is based on the change in the fair market value of PDC’s common stock under the terms of the employee stock ownership plan (the “ESOP”) between the grant date and the exercise date. The value of a unit in the RSU is based on the value of PDC common stock, as determined by the ESOP trustee. As of the end of third quarter 2014, the fair market value of one share of PDC common stock was $16.30. All units under both the LTIP and RSU plans will vest immediately, and cash payment will be made, upon a change in control as defined in the plans.

 

During the first three quarters of 2014, 120,650 additional units were granted under the RSU plan. Approximately $0.4 million and $1.3 million of expense, related to this plan, was recorded during the three- and nine-month periods ended September 28, 2014, respectively. Approximately $0.3 million and $0.9 million of expense related to this plan was recorded during the three- and nine-month periods ended September 29, 2013, respectively. During the first three quarters of 2014, 238,650 additional units were granted under the LTIP plan. No expense was recorded for this plan during the three months ended September 28, 2014. Approximately $0.1 million of expense was recorded year-to-date through September 28, 2014. Approximately $0.3 million and $1.0 million of expense related to this plan was recorded during the three- and nine-month periods ended September 29, 2013, respectively.

 

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Beginning in 2006, the Company established a nonqualified deferred compensation agreement with each of its non-employee directors. Approximately $0.1 million and $0.2 million, was recorded as expense, related to this plan, during the three- and nine-month periods ended September 28, 2014, respectively. Approximately $0.1 million and $0.3 million, was recorded as expense, related to this plan, during the three- and nine-month periods ended September 29, 2013, respectively.

 

13.      COMMITMENTS AND CONTINGENCIES

  

Lower Fox River

Appvion Removed as a Potentially Responsible Party (“PRP”). On April 10, 2012, the United States District Court for the Eastern District of Wisconsin (“District Court”) granted Appvion’s motion for summary judgment and dismissed all claims against Appvion in the enforcement action for remediation of the Lower Fox River. The decision establishes that Appvion is no longer a PRP, no longer liable under the federal Comprehensive Environmental Response, Compensation, and Liability Act, (“CERCLA” or “Superfund”), no longer considered a legal successor to NCR’s liabilities, and no longer required to comply with the 106 Order commanding remediation of the Lower Fox River. In addition, in July 2012, the District Court determined that Appleton Coated Paper Company and NCR did not arrange for the disposal of hazardous waste within the meaning of CERCLA, and that determination was upheld by the Seventh Circuit Court of Appeals (“Seventh Circuit”) in September 2014.

 

In January 2008, NCR and Appvion filed a lawsuit in the District Court against various defendants, including PRPs and certain municipalities, to require contribution to the cost of remediating the Lower Fox River.  In December 2009, the District Court granted the defendants’ motion for summary judgment dismissing the claim.  In September 2014, the Seventh Circuit reversed the District Court’s dismissal of NCR’s contribution claims and also determined that Appvion has independent claims against the various defendants to recover certain costs paid by Appvion toward remediation of the Lower Fox River.  The defendants have filed a joint petition for rehearing by the Seventh Circuit.

 

Appvion Caps Potential Liability Under 1998 Confidential Settlement Agreement.  On September 30, 2014, Appvion entered into a Funding Agreement with NCR, B.A.T. Industries, p.lc. (“BAT”) and Windward relating to clean-up costs for the Lower Fox River and certain potential future sites. As a result of the Funding Agreement:  (a) NCR and Appvion instructed the American Arbitration Association not to release the pending decision in the arbitration between NCR and Appvion relating to disputes about Appvion’s liability for certain costs relating to the Lower Fox River and other potential future sites under a 1998 confidential settlement agreement among NCR, Appvion and BAT; and (b) BAT, Appvion and Windward discontinued the pending litigation in a United Kingdom court relating to the 1998 confidential settlement agreement.

 

Under the Funding Agreement, the parties paid the following amounts on September 30, 2014 toward historical Fox River Costs (as defined in the Funding Agreement) incurred by NCR through September 1, 2014:  BAT ‑ $77.08 million; Windward ‑ $10 million; and Appvion ‑ $6 million.  In addition, BTI 2014 LLC, a wholly‑owned subsidiary of BAT (“BTI”), is responsible for funding 50% of the Fox River Costs incurred by NCR after September 1, 2014.  The parties also agreed:  (a) to vigorously pursue reasonable claims and viable claims against certain third parties and to deposit any recoveries therefrom into BTI; and (b) that any funds remaining in BTI after paying BAT and NCR for any unreimbursed funding of Fox River Costs would be used to fund 60% of any Future Sites Costs (as defined in the Funding Agreement).

 

Subject to the limitations described below, Appvion agreed to assume the following additional funding obligations under the Funding Agreement:

 

 

 

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Notwithstanding the foregoing, Appvion’s additional funding obligations are subject to the following limitations:

 

Appvion bears sole responsibility for its funding obligations under the Funding Agreement. The Funding Agreement does not, however, modify, alter or amend the two indemnification agreements entered into in 2001 wherein Windward agreed to indemnify PDC and PDC agreed to indemnify Appvion for certain costs, expenses and liabilities relating to Fox River and Future Sites, including Appvion’s costs and expenses in negotiating and entering into the Funding Agreement, Appvion’s historical costs and expenses in defending against the U.K. litigation and any future costs and expenses incurred by Appvion in pursuing recoveries. However, there are currently no outstanding matters for which costs are being incurred and thereby eligible for indemnification under the noted indemnification agreements and therefore no corresponding environmental indemnification receivable or Fox River Liabilities reserve is recorded on the Condensed Consolidated Balance Sheet as of September 28, 2014.

 

The parties to the Funding Agreement agree that they have no recourse against Appvion for any further liability relating to the Fox River or Future Sites beyond the funding obligations set forth above up to the Appvion Fox River Cap and the Appvion Future Sites Cap, respectively.

 

As a result of the Funding Agreement, $24.0 million of expense was recorded as selling, general and administrative expense in the Condensed Consolidated Statements of Comprehensive (Loss) Income for the quarter and nine months ended September 28, 2014. This represents the total of the four payments expected to be made with respect to Fox River costs,  as discussed above, with the first payment made on September 30, 2014 and the last payment due September 1, 2016, discounted back to the current quarter-end.  A short-term liability of $17.1 million was recorded in other accrued liabilities and a long-term liability of $6.9 million was recorded in other long-term liabilities on the Condensed Consolidated Balance Sheet as of September 28, 2014. The total of these liabilities will be accreted to the full liability of $25.0 million during the course of the payment schedule. The previously-recorded and remaining indemnification receivable and Fox River Liabilities reserve were also written off during the current quarter. Each of these balances was $59.3 million at year-end 2013.

 

Other

 

From time to time, the Company may be subject to various demands, claims, suits or other legal proceedings arising in the ordinary course of business. A comprehensive insurance program is maintained to provide a measure of financial protection against such matters, though not all such exposures are, or can be, addressed by insurance. Estimated costs are recorded for such demands, claims, suits or proceedings of this nature when reasonably determinable. The Company has successfully defended such claims, settling some for amounts which are not material to the business and obtaining dismissals in others. While the Company will vigorously defend itself and expects to prevail in any similar cases that may be brought against it in the future, there can be no assurance that it will be successful.

 

Except as described above, and assuming the Company’s expectations regarding defending such demands, claims, suits or other legal or regulatory proceedings prove accurate, the Company does not believe that any pending or threatened demands, claims, suits or other legal proceedings will have, individually or in the aggregate, a materially adverse effect on its business, financial condition and results of operations or cash flows. 

 

 

 

 

 

 

 

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14.      EMPLOYEE STOCK OWNERSHIP PLAN

 

The Company’s matching contributions charged to expense were $0.5 million and $0.6 million for the three-month periods ended September 28, 2014 and September 29, 2013, respectively.  The Company’s matching contributions charged to expense were $1.8 million and $2.0 million for the nine-month periods ended September 28, 2014 and September 29, 2013, respectively.  As a result of hardship withdrawals, required diversifications and employee terminations, 477,239 shares of PDC redeemable common stock were repurchased during the first nine months of 2014 at an aggregate price of approximately $7.8 million.  During the same period, the ESOP trustee purchased 78,452 shares of PDC redeemable common stock for an aggregate price of $1.3 million using pre-tax deferrals, rollovers and loan payments made by employees, while the Company’s matching contributions for this same period resulted in an additional 75,421 shares of redeemable common stock being issued. As a result of hardship withdrawals, required diversifications and employee terminations, 606,841 shares of PDC redeemable common stock were repurchased during the first nine months of 2013 at an aggregate price of approximately $10.7 million. During the same period, the ESOP trustee purchased 94,067 shares of PDC redeemable common stock for an aggregate price of $1.6 million using pre-tax deferrals, rollovers and loan payments made by employees, while the Company’s matching contributions for this same period resulted in an additional 81,592 shares of redeemable common stock being issued. 

 

In accordance with ASC 480, “Distinguishing Liabilities from Equity,” the appropriate accounting for redeemable equity first depends upon a determination of whether the equity is currently redeemable or not currently redeemable.  Shares that are currently redeemable should be recorded at redemption value.  For shares that are not currently redeemable, the accounting guidance allows for changes in redemption value to be accreted from the initial issuance date to the earliest redemption date.        This guidance also specifies that if the redemption value is less than the original issuance cost, the carrying amount of the redeemable common stock should not be less than the original issuance cost.

 

As of September 28, 2014, the fair market value of one share of PDC common stock was $16.30. Based upon the estimated fair value of the redeemable common stock at September 28, 2014, an ultimate redemption liability of approximately $127 million was determined. The redeemable common stock recorded book value as of September 28, 2014, was $151 million.  The change in fair value and accretion of redeemable common stock was $0.2 million for the nine months ended September 28, 2014. 

 

Based upon the estimated fair value of the redeemable common stock as of September 29, 2013, an ultimate redemption liability of approximately $148 million was determined. The restated redeemable common stock recorded book value as of September 29, 2013 was $170 million. The change in fair value and accretion of redeemable common stock was $1.6 million for the nine months ended September 29, 2013. 

 

15.      DERIVATIVE INSTRUMENTS AND HEDGING ACTIVITIES

 

The Company selectively uses financial instruments to manage some market risks from changes in foreign currency exchange rates, commodity prices and interest rates. The fair values of all derivatives are recorded in the Condensed Consolidated Balance Sheet. The change in a derivative’s fair value is recorded each period in current earnings or accumulated other comprehensive income, depending on whether the derivative is designated and qualifies as part of a hedge transaction and, if so, the type of hedge transaction.

 

The Company selectively hedges forecasted transactions that are subject to foreign currency exchange exposure by using forward exchange contracts. These instruments are designated as cash flow hedges and are recorded in the Condensed Consolidated Balance Sheet at fair value using Level 2 observable market inputs. The fair value of foreign currency forward contracts is based on a valuation model that discounts cash flows resulting from the differential between the contract price and the market-based forward note, also deemed to be categorized as Level 2. The effective portion of the contracts’ gains or losses due to changes in fair value is initially recorded as a component of accumulated other comprehensive income and is subsequently reclassified into earnings when the underlying transactions occur and affect earnings or if it becomes probable the forecasted transactions will not occur. The notional amount of foreign exchange contracts used to hedge foreign currency transactions was $8.4 million as of September 28, 2014. These contracts have settlement dates extending through June 2015.

 

 

 

 

 

 

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The Company selectively hedges forecasted commodity transactions that are subject to pricing fluctuations by using collar contracts to manage risks associated with market fluctuations in energy prices. These contracts are recorded in the Condensed Consolidated Balance Sheet at fair value using Level 2 observable market inputs based on the New York Mercantile Exchange as measured on the last trading day of the accounting period and compared to the collar price. The contracts’ gains or losses due to changes in fair value are recorded in current period earnings. At September 28, 2014, the hedged volumes of these contracts totaled 1,798,255 MMBTU (Million British Thermal Units) of natural gas. The contracts have settlement dates extending through December 2015.

 

The Company selectively hedges forecasted commodity transactions that are subject to pricing fluctuations by using swap contracts to manage risks associated with market fluctuations in pulp prices. During 2012, there was one pulp swap contract designated as a cash flow hedge of forecasted pulp purchases, and therefore, the change in the effective portion of the fair value of the hedge was deferred in accumulated other comprehensive income until the inventory containing the pulp was sold. This pulp hedge was settled as of September 30, 2012. The remaining financial impact of this pulp hedge was recorded in the Company’s Condensed Consolidated Statement of Comprehensive Income during first quarter 2013.  As of September 28, 2014, there were no pulp swap contracts in place.

 

On July 30, 2013, Appvion entered into an interest rate swap contract on $100 million of its variable rate first lien term loan with a forward start date of September 15, 2014 and a maturity date of June 28, 2019.  This interest rate swap pays the Company variable interest at the three-month LIBOR rate or a fixed floor rate of 1.25%, whichever is greater, and the Company pays the counterparty a fixed interest rate. The fixed LIBOR interest rate for the contract is 2.74%. Based on the terms of the interest rate swap contract and the underlying debt, the interest rate contract was determined to be effective, and thus qualifies as a cash flow hedge. Any changes in the fair value of the interest rate swap are recorded in accumulated other comprehensive income in the accompanying Condensed Consolidated Balance Sheet until earnings are affected by the variability of cash flows.

 

The following table presents the location and fair values of derivative instruments included in the Company’s Condensed Consolidated Balance Sheets (dollars in thousands):

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

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The following table presents the location and amount of (gains) losses on derivative instruments and related hedge items included in the Company’s Condensed Consolidated Statement of Comprehensive (Loss) Income for the three and nine months ended September 28, 2014 and September 29, 2013 and (gains) losses initially recognized in accumulated other comprehensive income in the Condensed Consolidated Balance Sheet at the period-ends presented (dollars in thousands):

 

 

 

For a discussion of the fair value of financial instruments, see Note 17, Fair Value Measurements.

16.      LONG-TERM OBLIGATIONS

 

Long-term obligations, excluding capital lease obligations, consist of the following (dollars in thousands):

 

 

During the first nine months of 2014, the Company made mandatory debt repayments of $1.0 million on its State of Ohio loans. It also made total mandatory repayments of $2.5 million on its first lien term loan. During the first nine months of 2014, the Company borrowed $235.9 million and repaid $243.5 million on its revolving credit facility. Approximately $13.3 million of the revolving credit facility is used to support outstanding letters of credit.

 

 

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On November 19, 2013, Appvion completed a voluntary refinancing of a portion of its debt to extend debt maturities and reduce interest expense. The refinancing included the issuance of $250 million of second lien senior secured notes payable carrying an interest rate of 9.0%. The notes will mature on June 1, 2020.

 

These second lien senior secured notes are unconditionally, and jointly and severally, guaranteed by PDC and Appvion Canada, Ltd. The notes are secured by a second-priority security interest in substantially all of the property and assets of Appvion and the debt guarantors. These liens are junior in priority to the liens on this same collateral securing the outstanding debt incurred under the credit agreement. The notes contain covenants customary for similar debt which restrict Appvion’s ability, as well as the ability of the guarantors, to sell or lease certain assets or merge or consolidate with or into other companies, incur additional debt or issue preferred shares, incur liens, pay dividends or make other distributions, make other restricted payments and investments, place restrictions on the ability of certain of Appvion’s subsidiaries to pay dividends or other payments to Appvion, enter into sale and leaseback transactions, amend particular agreements relating to Appvion’s transaction with its former parent AWA and the ESOP and enter into transactions with certain affiliates.

 

On June 28, 2013, Appvion completed a voluntary refinancing of a portion of its debt to extend debt maturities, reduce interest costs and increase financial flexibility and liquidity options. The refinancing included the execution of a new credit agreement providing for a $100 million five-year revolving line of credit due June 2018 and a $335 million first lien term loan due June 2019. The new line of credit replaced the five-year, $100 million revolving credit facility due February 2015. The new revolving credit facility provides for up to $100 million of revolving loans including a letter of credit sub-facility of up to $25 million and a swing line sub-facility of up to $5 million. Appvion’s borrowings under the revolving credit facility bear interest at Appvion’s option at either base rate plus 3.5% or LIBOR plus 4.5%, per annum.

 

The first lien term loan bears interest at Appvion’s option at either base rate plus 3.5% or LIBOR, but not less than 1.25%, plus 4.5%, per annum. On July 30, 2013, Appvion fixed the interest rate at 7.24%, on $100.0 million of this variable rate debt using an interest rate swap contract with a forward start date of September 15, 2014 and a maturity date of June 28, 2019. The term loan amortizes in equal quarterly installments in aggregate annual amounts equal to 1.0% of the original principal amount, with the balance payable on June 28, 2019. Also, within five business days after the year-end financial statements have been filed, Appvion shall prepay an aggregate principal amount of the term loan equal to the excess, if any, of (a) 50% of defined excess cash flow, provided that such percentage shall be reduced to (1) 25% based upon Appvion achieving a consolidated leverage ratio of less than 3.50 to 1.0 but greater than or equal to 2.50 to 1.0 and (2) 0% based upon Appvion achieving a consolidated leverage ratio of less than 2.50 to 1.0 minus (b) the aggregate amount of all prepayments of the revolving credit line which constitute permanent reductions of the revolving credit facility and all optional prepayments of the first lien term loan made during the year.

 

The new credit agreement ranks senior in right of payment to all existing and future subordinated indebtedness of Appvion and is secured by security interests in substantially all of the property and assets of Appvion and the debt guarantors. As noted above, the maturity date of the revolving credit facility is June 28, 2018 and the maturity date of the first lien term loan is June 28, 2019. The new credit agreement is unconditionally, and jointly and severally, guaranteed by PDC and Appvion Canada, Ltd. It contains affirmative and negative covenants customary for similar credit facilities, which among other things, requires Appvion not to exceed a maximum consolidated leverage ratio under certain circumstances and restricts Appvion’s ability and the ability of Appvion’s subsidiaries, subject to certain exceptions, to incur additional indebtedness and liens, engage in sale and leaseback transactions, make investments, make loans and advances, transact certain asset sales, engage in mergers, acquisitions, consolidations, liquidations and dissolutions, pay dividends or make other payments in respect of equity interests and other restricted payments, engage in certain transactions with affiliates, limit capital expenditures and make prepayments, redemptions and repurchases of other indebtedness.

 

         The Company was in compliance with all debt covenants at September 28, 2014, and is forecasted to remain compliant for the next 12 months. The Company’s ability to comply with the financial covenants in the future depends on achieving forecasted operating results and operating cash flows. The Company’s failure to comply with its covenants, or an assessment that it is likely to fail to comply with its covenants, could lead the Company to seek amendments to, or waivers of, the financial covenants. The Company cannot provide assurance that it would be able to obtain any amendments to or waivers of the covenants. In the event of noncompliance with debt covenants, if the lenders will not amend or waive the covenants, the outstanding debt would become due and the Company would need to seek alternative financing. The Company cannot provide assurance that it would be able to obtain alternative financing. If the Company were not able to secure alternative financing, this would have a material adverse impact on the Company.

 

 

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17.      FAIR VALUE MEASUREMENTS

 

The carrying amount (including current portions) and estimated fair value of certain of the Company’s recorded financial instruments are as follows (dollars in thousands):

 

 

 

The first lien term loan and the second lien notes payable are traded in public markets. Their fair value was determined using Level 2 inputs based on quoted market prices. The fair value of the State of Ohio loans was determined using Level 2 observable market inputs including current rates for financial instruments of the same remaining maturity and similar terms. The revolving credit facility and industrial development bonds have variable interest rates that reflect current market terms and conditions.

 

Due to their short-term nature, the carrying values of cash and cash equivalents, accounts receivable and accounts payable were reasonable estimates of fair value as of September 28, 2014 and December 28, 2013.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

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18.      SEGMENT INFORMATION

 

The Company’s reportable segments are as follows: carbonless papers, thermal papers and Encapsys®. Management evaluates the performance of the segments based primarily on operating income (loss). Items excluded from the determination of segment operating income (loss) are unallocated corporate charges, interest expense, interest income, debt extinguishment expense, foreign exchange loss (gain) and other expense. The Company does not allocate total assets internally in assessing operating performance and does not track capital expenditures by segment. Net sales, operating income (loss) and depreciation and amortization, as determined by the Company for its reportable segments, are as follows (dollars in thousands):

 

 

 

Unallocated corporate charges were $26.9 million and $31.9 million for the three-month and nine-month periods ending September 28, 2014, respectively. On September 30, 2014, Appvion entered into a Funding Agreement relating to clean-up costs and liabilities for the Lower Fox River sites and potential future sites. Under the Funding Agreement, the parties agreed to a specific funding arrangement for which Appvion recorded a $24.0 million charge, for its portion of the Funding Agreement, in its Condensed Consolidated Statement of Comprehensive (Loss) Income for the three and nine months ended September 28, 2014. For further discussion, see Note 13, Commitments and Contingencies.

 

 

 

 

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19.      ACCUMULATED OTHER COMPREHENSIVE INCOME

 

The changes in accumulated other comprehensive income by component for the nine months ended September 28, 2014 were as follows (dollars in thousands):

 

 

The changes in accumulated other comprehensive income by component for the nine months ended September 29, 2013 were as follows (dollars in thousands):

 

All amounts presented are net of tax.

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

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Details about these reclassifications are as follows (dollars in thousands):

 

 

 

 

All amounts presented are net of tax.