International Paper (IP) 10-Q2023 Q2 Quarterly report

The accompanying unaudited condensed consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States and in accordance with the instructions to Form 10-Q and, in the opinion of management, include all adjustments that are necessary for the fair presentation of International Paper Company’s ("International Paper's," "the Company’s" or "our") financial position, results of operations, and cash flows for the interim periods presented. Except as disclosed herein, such adjustments are of a normal, recurring nature. Results for the first six months of the year may not necessarily be indicative of full year results. You should read these condensed financial statements in conjunction with the audited financial statements and the notes thereto included in the Company’s Annual Report on Form 10-K for the year ended December 31, 2022 (the "Annual Report"), which have previously been filed with the Securities and Exchange Commission.

These condensed consolidated financial statements have been prepared in conformity with accounting principles generally accepted in the United States that require the use of management’s estimates. Actual results could differ from management’s estimates.

The military conflict between Russia and Ukraine, including ongoing sanctions, actions by the Russian government, and associated domestic and global economic and geopolitical conditions, has adversely affected and may continue to adversely affect our Ilim joint venture and our businesses, financial condition, results of operations and cash flows. On January 24, 2023, we announced that we have reached an agreement to sell our equity interest in Ilim S.A. ("Ilim") and have also received from the same purchaser an indication of interest to purchase our equity investment in JSC Ilim Group ("Ilim Group" and together with Ilim, the "Ilim joint venture"), however, we cannot be certain if and when the completion of these sales may occur. Our ability to complete such sales is subject to various risks, including (i) purchasers’ inability to obtain necessary regulatory approvals or to finance the purchase pursuant to the terms of the agreement, (ii) adverse actions by the Russian government, and (iii) new or expanded sanctions imposed by the U.S., the United Kingdom, or the European Union or its member countries. We are unable to predict the full impact that Russia’s ongoing invasion of Ukraine, current or potential future sanctions, ongoing or potential disruptions resulting from the conflict, the changing regulatory environment in Russia, negative macroeconomic conditions arising from such conflict, supply chain disruptions, and geopolitical instability and shifts, may have on us or our ability to complete the sale of our interest in the Ilim joint venture.

Recently Adopted Accounting Pronouncements

In March 2020, the FASB issued ASU 2020-04, "Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting." This guidance provides companies with optional guidance to ease the potential accounting burden associated with transitioning away from reference rates that are expected to be discontinued. This guidance is effective upon issuance and generally can be applied through December 31, 2024. The Company has applied and will continue to apply the amendments in this update to account for contract modifications due to changes in reference rates as those modifications occur. We do not expect these amendments to have a material impact on our consolidated financial statements and related disclosures.

Generally, the Company recognizes revenue on a point-in-time basis when the customer takes title to the goods and assumes the risks and rewards for the goods. For customized goods where the Company has a legally enforceable right to payment for the goods, the Company recognizes revenue over time which, generally, is as the goods are produced.

A contract asset is created when the Company recognizes revenue on its customized products prior to having an unconditional right to payment from the customer, which generally does not occur until title and risk of loss passes to the customer.

A contract liability is created when customers prepay for goods prior to the Company transferring those goods to the customer. The contract liability is reduced once control of the goods is transferred to the customer. The majority of our customer prepayments are received during the fourth quarter each year for goods that will be transferred to customers over the following twelve months. Contract liabilities of $22 million and $38 million are included in Other current liabilities in the accompanying condensed consolidated balance sheet as of June 30, 2023 and December 31, 2022, respectively. The Company also recorded a contract liability of $115 million related to a previous acquisition. The balance of this contract liability was $95 million and $99 million at June 30, 2023 and December 31, 2022, respectively, and is recorded in Other current liabilities and Other Liabilities in the accompanying condensed consolidated balance sheet.

The difference between the opening and closing balances of the Company's contract assets and contract liabilities primarily results from the difference between the price and quantity at comparable points in time for goods for which we have an unconditional right to payment or receive prepayment from the customer, respectively.

Basic earnings per share is computed by dividing earnings by the weighted average number of common shares outstanding. Diluted earnings per share is computed assuming that all potentially dilutive securities were converted into common shares. There are no adjustments required to be made to net income for purposes of computing basic and diluted earnings per share. A reconciliation of the amounts included in the computation of basic earnings (loss) per share from continuing operations and diluted earnings (loss) per share from continuing operations is as follows:

Temporary investments with an original maturity of three months or less and money market funds with greater than three month maturities but with the right to redeem without notices are treated as cash equivalents and are stated at cost. Temporary investments totaled $642 million and $690 million at June 30, 2023 and December 31, 2022, respectively.

Accumulated depreciation was $18.8 billion and $18.4 billion at June 30, 2023 and December 31, 2022, respectively. Depreciation expense was $235 million and $256 million for the three months ended June 30, 2023 and 2022, respectively, and $467 million and $506 million for the six months ended June 30, 2023 and 2022, respectively.

Non-cash additions to plants, properties and equipment included within accounts payable were $74 million and $185 million at June 30, 2023 and December 31, 2022, respectively.

There were no insurance recoveries included within capital spending for the six months ended June 30, 2023. Insurance recoveries included in capital spending were $25 million for the six months ended June 30, 2022.

Under a supplier finance program, IP agrees to pay a bank the stated amount of confirmed invoices from its designated suppliers on the original maturity dates of the invoices. IP or the bank may terminate the agreement upon at least 90 days’ notice. The supplier invoices that have been confirmed as valid under the program require payment in full on the due date with no terms exceeding 180 days. The accounts payable balance included $139 million and $122 million of supplier finance program liabilities as of June 30, 2023 and December 31, 2022, respectively.

Interest payments made during the six months ended June 30, 2023 and 2022 were $240 million and $165 million, respectively.

The Company recorded liabilities in Other Liabilities in the accompanying condensed consolidated balance sheet of $103 million and $105 million related to asset retirement obligations at June 30, 2023 and December 31, 2022, respectively.

International Paper leases various real estate, including certain operating facilities, warehouses, office space and land. The Company also leases material handling equipment, vehicles, and certain other equipment. The Company's leases have a remaining lease term of up to 30 years. Total lease costs were $73 million and $64 million for the three months ended June 30, 2023 and 2022, respectively, and $148 million and $124 million for the six months ended June 30, 2023 and 2022, respectively.

The Company has a 50% equity interest in Ilim, which has subsidiaries, including the Ilim Group, whose primary operations are in Russia. The Company announced in January 2023 that it had entered into an agreement to sell its interest in Ilim to its joint venture partners for $484 million. The completion of the sale is subject to various closing conditions, including the receipt of regulatory approvals in Russia.

The Company also received an indication of interest from its Ilim joint venture partners to purchase all of the Company’s shares (constituting a 2.39% stake) in Ilim Group for $24 million, on terms and conditions to be agreed. The Company intends to pursue an agreement to sell the Ilim Group shares, and to divest other non-material residual interests associated with Ilim, to its Ilim joint venture partners.

In conjunction with the entry into the announced agreement, a determination was made that the book value of the Ilim and Ilim Group investments plus associated cumulative translation losses, exceeded fair value, based on the agreed upon transaction price for Ilim and the offer price for Ilim Group. As a result, an other than temporary impairment of $33 million, $43 million and $533 million was recorded for the three months ended June 30, 2023, March 31, 2023 and December 31, 2022, respectively, and $76 million for the six months ended June 30, 2023, to write down these investments to fair value. The impairment charges included approximately $60 million, $43 million and $375 million of foreign currency cumulative translation adjustment loss for the three months ended June 30, 2023, March 31, 2023 and December 31, 2022, respectively, and $103 million for the six months ended June 30, 2023. As of June 30, 2023, approximately $478 million of cumulative translation adjustment loss remained within AOCI with the recognition of this loss recorded as an offset to the investment balance.

The Company evaluated facts and circumstances as of December 31, 2022 and June 30, 2023 and concluded that the held for sale balance sheet classification criteria had been met and therefore classified the Ilim joint venture investment balance, net of impairment, as Assets held for sale.

All current and historical results of the Ilim joint venture investment are presented as Discontinued Operations, net of taxes in the condensed consolidated statement of operations. The Company recorded equity earnings, net of taxes, of $46 million and $95 million for the three months ended June 30, 2023 and 2022, respectively and $89 million and $188 million for the six months ended June 30, 2023 and 2022, respectively. The Company received cash dividends from the Ilim joint venture of $13 million and $204 million during the first six months of 2023 and 2022, respectively. At June 30, 2023 and December 31, 2022, the Company's investment in the Ilim joint venture, which is recorded in Assets held for sale in the condensed consolidated balance sheets, was $30 million and $133 million, respectively, which was $467 million and $403 million, respectively, lower than the Company's proportionate share of the Ilim joint venture's underlying net assets.

International Paper made income tax payments, net of refunds, of $215 million and $150 million for the six months ended June 30, 2023 and 2022, respectively.

The Company currently estimates, that as a result of ongoing discussions, pending tax settlements and expirations of statutes of limitations, the amount of unrecognized tax benefits could be reduced by approximately $12 million during the next 12 months.

In connection with sales of businesses, property, equipment, forestlands and other assets, International Paper commonly makes representations and warranties relating to such businesses or assets, and may agree to indemnify buyers with respect to tax and environmental liabilities, breaches of representations and warranties, and other matters. Where liabilities for such matters are determined to be probable and reasonably estimable, accrued liabilities are recorded at the time of sale as a cost of the transaction.

The Company has been named as a potentially responsible party ("PRP") in environmental remediation actions under various federal and state laws, including the Comprehensive Environmental Response, Compensation and Liability Act ("CERCLA"). Many of these proceedings involve the cleanup of hazardous substances at large commercial landfills that received waste from many different sources. While joint and several liability is authorized under CERCLA and equivalent state laws, as a practical matter, liability for CERCLA cleanups is typically allocated among the many PRPs. There are other remediation costs typically associated with the cleanup of hazardous substances at the Company’s current, closed and formerly-owned facilities, and recorded as liabilities in the balance sheet.

Remediation costs are recorded in the consolidated financial statements when they become probable and reasonably estimable. International Paper has estimated the probable liability associated with these environmental remediation matters, including those described herein, to be approximately $238 million and $243 million in the aggregate as of June 30, 2023 and December 31, 2022, respectively. Other than as described below, completion of required environmental remedial actions is not expected to have a material effect on our consolidated financial statements.

In addition, in December 2019, the United States published notice in the Federal Register of a proposed consent decree with NCR Corporation (one of the parties to the allocation/apportionment litigation described below), the State of Michigan and natural resource trustees under which NCR Corporation would make payments of more than $100 million and perform work in Operable Unit 5, Areas 2, 3, and 4 at an estimated cost of $136 million. In December 2020, the Federal District Court approved the proposed consent decree.

The Company’s CERCLA liability has not been finally determined with respect to these or any other portions of the site, and except as noted above, the Company has declined to perform any work or reimburse the EPA at this time. As noted below, the

Company is involved in allocation/apportionment litigation with regard to the site. Accordingly, it is premature to predict the outcome or estimate our maximum reasonably possible loss or range of loss with respect to this site. We have recorded a liability for future remediation costs at the site that are probable and reasonably estimable, and it remains reasonably possible that additional losses in excess of this recorded liability could be material.

In October 2017, the EPA issued a ROD selecting the final remedy for the site: removal and relocation of the waste material from both the northern and southern impoundments. The EPA did not specify the methods or practices needed to perform this work. The EPA’s selected remedy was accompanied by a cost estimate of approximately $115 million ($105 million for the northern impoundment, and $10 million for the southern impoundment). Subsequent to the issuance of the ROD, there have been numerous meetings between the EPA and the PRPs, and the Company continues to work with the EPA and MIMC/WMI to develop the remedial design.

To this end, in April 2018, the PRPs entered into an Administrative Order on Consent ("AOC") with the EPA, agreeing to work together to develop the remedial design for the northern impoundment. That remedial design work is ongoing. The AOC does not include any agreement to perform waste removal or other construction activity at the site. Rather, it involves adaptive management techniques and a pre-design investigation, the objectives of which include filling data gaps (including but not limited to post-Hurricane Harvey technical data generated prior to the ROD and not incorporated into the selected remedy), refining areas and volumes of materials to be addressed, determining if an excavation remedy is able to be implemented in a manner protective of human health and the environment, and investigating potential impacts of remediation activities to infrastructure in the vicinity.

We submitted the Final Design Package for the southern impoundment to the EPA, and the EPA approved this plan May 7, 2021. The EPA issued a Unilateral Administrative Order for Remedial Action of the southern impoundment on August 5, 2021. An addendum to the Final 100% Remedial Design (Amended April 2021) was submitted to the EPA for the southern impoundment on June 2, 2022. This addendum incorporated additional data collected to date which indicated that additional waste material removal will be required, lengthening the time to complete the remedial action.

With respect to the northern impoundment, the respondents submitted final component of the 90% remedial design to the EPA on November 8, 2022. Upon submittal of the final component, an updated engineering estimate was developed and the Company increased the reserved amount by approximately $21 million, which represents the Company's 50% share of our estimate of the low end of the range of probable remediation costs. While several key technical issues have been resolved, respondents still face significant challenges remediating this area in a cost-efficient manner and without a release to the environment, and therefore our discussions with the EPA on the best approach to remediation will continue. Because of ongoing questions regarding cost effectiveness, timing and gathering other technical data, additional losses in excess of our

recorded liability are possible. The total reserve for the southern and northern impoundment was $91 million and $95 million as of June 30, 2023 and December 31, 2022, respectively.

We have been named as a defendant in various asbestos-related personal injury litigation, in both state and federal court, primarily in relation to the prior operations of certain companies previously acquired by the Company. The Company's total recorded liability with respect to pending and future asbestos-related claims was $111 million, net of estimated insurance recoveries and $105 million, net of estimated insurance recoveries as of June 30, 2023 and December 31, 2022, respectively. While it is reasonably possible that the Company may incur losses in excess of its recorded liability with respect to asbestos-related matters, we are unable to estimate any loss or range of loss in excess of such liability, and do not believe additional material losses are probable.

In March 2017, the Italian Competition Authority ("ICA") commenced an investigation into the Italian packaging industry to determine whether producers of corrugated sheets and boxes violated the applicable European competition law. In April 2019, the ICA concluded its investigation and issued initial findings alleging that over 30 producers, including our Italian packaging subsidiary ("IP Italy"), improperly coordinated the production and sale of corrugated sheets and boxes. In August 2019, the ICA issued its decision and assessed IP Italy a fine of €29 million (approximately $31 million at the then-current exchange rates) which was recorded in the third quarter of 2019. We appealed the ICA decision and our appeal was denied in May 2021. We further appealed the decision to the Italian Council of State, and in March 2023 the Council of State largely upheld the ICA’s findings, but referred the calculation of IP Italy’s fine back to the ICA, finding that it was disproportionately high based on the conduct found. We have further appealed the Italian Council of State decision to uphold the ICA’s findings. The Company and other producers also have been named in lawsuits, and we have received other claims, by a number of customers in Italy for damages associated with the alleged anticompetitive conduct. We do not believe material losses arising from such private lawsuits and claims are probable.

The Company is involved in various other inquiries, administrative proceedings and litigation relating to environmental and safety matters, personal injury, product liability, labor and employment, contracts, sales of property, intellectual property, tax, and other matters, some of which allege substantial monetary damages. Assessments of lawsuits and claims can involve a series of complex judgments about future events, can rely heavily on estimates and assumptions, and are otherwise subject to significant uncertainties. As a result, there can be no certainty that the Company will not ultimately incur charges in excess of presently recorded liabilities. The Company believes that loss contingencies arising from pending matters including the matters described herein, will not have a material effect on the consolidated financial position or liquidity of the Company. However, in light of the inherent uncertainties involved in pending or threatened legal matters, some of which are beyond the Company's control, and the large or indeterminate damages sought in some of these matters, a future adverse ruling, settlement, unfavorable development, or increase in accruals with respect to these matters could result in future charges that could be material to the Company's results of operations or cash flows in any particular reporting period.

As of June 30, 2023, the fair value of the Timber Notes and Extension Loans for the 2007 Financing Entities was $2.3 billion and $2.1 billion, respectively. The Timber Notes and Extension Loans are classified as Level 2 within the fair value hierarchy, which is further defined in Note 1 in the Company’s Annual Report.