Stone Container Corporation Case Study

Case Study

Stone Container Corporation

By:unknown

Stone Container Corporation started out as a small family owned business, J.H. Stone & Sons, founded by a Russian immigrant Joseph Stone in 1926. He started as a jobber of corrugated boxes, and based the business strategy on quality service and a reasonable price. During the Great Depression the company moved from being jobbers to manufactures as a result to stay in business amid economic policy changes. The company grew significantly by acquisition and, through the experiences of the Great Depression, had the policy of not sustaining debt for long periods of time. The company incorporated after World War II and continued to grow by acquisitions. This allowed the company to diversify itself and reduce production by purchasing mills and plants that produced materials needed for corrugated containers.

Roger Stone became CEO of the company in 1979. He did not have the same feelings toward long standing debt and moved away from the foundational premise of retaining debt. In fact, Roger was influenced by looking at “balance sheets of some well-run Japanese companies and was surprised how highly leveraged they were.” 1 This lead to more acquisitions that lead to significantly more production. These acquisitions were financed by highly leveraging the company and selling off company stock. So much debt was obtained during these acquisitions, that Stone created the subsidiary Stone Forest Industries to help relieve enough debt where Stone Container to diminish the remainder of the debt. In 1989, Stone Container acquired Consolidated-Bathhurst Inc, (CBI) in hopes of growing into the European market. This purchase put another $3.3 million in short-term bank loans onto the company. They had the expectation to refinance the loans by issuing high-yield bonds, however a downturn in the high-yield debt market led to liquidity problems that did not allow the company to refinance the short term loans.

Stone Container’s market had grown 40% from 1986 to 1992, from $61.6 Billion to $85.2 Billion. Stone’s share in the market has grown from 3.3% in 1986 to 6.5% in 1992. However, the industry net profit has went from $2.85 Billion in 1986 to only $970 Million in 1992. The decrease in industry profit and unfortunate down turn in high-yield debts has made the future for Stone Container uncertain. By 1993, Stone Corporation is on the verge of defaulting on it $4.1 Billion in debt.

Stone Container’s financial position to pay off the debt is continuing to worsen. The Times Interest Earned (TIE) has decreased since the purchase of CBI in early 1989. At the end of 1992, the company could not even cover the interest on the annual EBIT, as the TIE was just over 1/2. Stone Corporation’s TIE was at 5.7 to 1 in 1988, before the purchase of CBI. As a result, the Debt to Asset has increased from 32% in 1988 to 61% in 1992 which will make obtaining another bank loan difficult as the Long Term Debt to Capitalization percentage has increased 18% since 1987 to a 77% in 1992 further showing the financial weakness of the company. Stone Container was unable to afford their growth strategy and the purchase of CBI was a major push in this negative direction. Stone Container’s interest payments were larger than the income from operations could afford. Stone Container is on the losing end of the heavy financial leveraging, and the losses are magnified as the return of assets have been negative since 1991 and magnified the loss on return of equities, as it has decreased from .32 in 1988 to -.14 in 1992. Given the over payment of CBI at the peak of the pulp & paper cycle, the lack of growth in Europe from the acquisition, the new overhead in operating costs and decreasing profit in the industry has lead Stone Container to take drastic measures to avoid default. However, Stone Container’s balance sheet does show a promising story in the inventory turnover of 5.7 times annually and a standard days sales outstanding of 45.5 days. The turnover and DSOs have shown low percent of change over the last three years. This offers some stability in knowing as long as the company is able to make products, they will be sold and paid off relatively quickly. The accounts receivables are not very high at 12.5%. It could be assumed that given the inventory turnover will stay above 5 as long as Stone Container does not sell off assets that are involved in the manufacturing, milling or distributing of the goods. This is positive as the current liquidity to pay off the current liabilities is 178% in 1992. Unfortunately, given the high interest rates in the recent years the cash ratio is very low at 6%. It is no surprise that Stone Corporation is well below the 1 to 1 cash ratio desire, as they have invested by heavily leveraging