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UNITED STATES SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, DC 20549

FORM 10-Q

(Mark One)

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

For the quarterly period ended March 30, 2019.

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 1-7685

AVERY DENNISON CORPORATION

(Exact name of registrant as specified in its charter)

Registrant’s telephone number, including area code: (626) 304-2000

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 x 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 x No ¨

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a 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. (Check one):

If an emerging growth company, indicate by checkmark 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 x

Number of shares of $1 par value common stock outstanding as of April 27, 2019: 84,415,853

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AVERY DENNISON CORPORATION

FISCAL FIRST QUARTER 2019 QUARTERLY REPORT ON FORM 10-Q

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Safe Harbor Statement

The matters discussed in this Quarterly Report contain “forward-looking statements” within the meaning of the Private Securities Litigation Reform Act of 1995.  These statements, which are not statements of historical fact, contain estimates, assumptions, projections and/or expectations regarding future events, which may or may not occur. Words such as “aim,” “anticipate,” “assume,” “believe,” “continue,” “could,” “estimate,” “expect,” “foresee,” “guidance,” “intend,” “may,” “might,” “objective,” “plan,” “potential,” “project,” “seek,” “shall,” “should,” “target,” “will,” “would,” or variations thereof, and other expressions that refer to future events and trends, identify forward-looking statements. These forward-looking statements, and financial or other business targets, are subject to certain risks and uncertainties, which could cause our actual results to differ materially from the expected results, performance or achievements expressed or implied by such forward-looking statements.

Certain risks and uncertainties are discussed in more detail under “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in our Annual Report on Form 10-K for the fiscal year ended December 29, 2018 include, but are not limited to, risks and uncertainties relating to the following: fluctuations in demand affecting sales to customers; worldwide and local economic conditions; changes in political conditions; changes in governmental laws and regulations; fluctuations in foreign currency exchange rates and other risks associated with foreign operations, including in emerging markets; the financial condition and inventory strategies of customers; changes in our markets due to competitive conditions, technological developments, laws and regulations, and customer preferences; fluctuations in cost and availability of raw materials; our ability to generate sustained productivity improvement; our ability to achieve and sustain targeted cost reductions; the impact of competitive products and pricing; loss of significant contracts or customers; collection of receivables from customers; selling prices; business mix shift; execution and integration of acquisitions; timely development and market acceptance of new products, including sustainable or sustainably-sourced products; investment in development activities and new production facilities; amounts of future dividends and share repurchases; customer and supplier concentrations; successful implementation of new manufacturing technologies and installation of manufacturing equipment; disruptions in information technology systems, including cyber-attacks or other intrusions to network security; successful installation of new or upgraded information technology systems; data security breaches; volatility of financial markets; impairment of capitalized assets, including goodwill and other intangibles; credit risks; our ability to obtain adequate financing arrangements and maintain access to capital; fluctuations in interest and tax rates; changes in tax laws and regulations, including the U.S. Tax Cuts and Jobs Act and regulations issued related thereto, and uncertainties associated with interpretations of such laws and regulations; outcome of tax audits; fluctuations in pension, insurance, and employee benefit costs; the impact of legal and regulatory proceedings, including with respect to environmental, health and safety; protection and infringement of intellectual property; the impact of epidemiological events on the economy and our customers and suppliers; acts of war, terrorism, and natural disasters; and other factors.

We believe that the most significant risk factors that could affect our financial performance in the near-term include: (1) the impacts of global economic conditions and political uncertainty on underlying demand for our products and foreign currency fluctuations; (2) the degree to which higher costs can be offset with productivity measures and/or passed on to customers through selling price increases, without a significant loss of volume; (3) competitors’ actions, including pricing, expansion in key markets, and product offerings; and (4) the execution and integration of acquisitions.

Our forward-looking statements are made only as of the date hereof.  We assume no duty to update these forward-looking statements to reflect new, changed or unanticipated events or circumstances, other than as may be required by law.

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PART I. FINANCIAL INFORMATION

ITEM 1.  FINANCIAL STATEMENTS

CONDENSED CONSOLIDATED BALANCE SHEETS

(Unaudited)

See Notes to Unaudited Condensed Consolidated Financial Statements

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CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited)

See Notes to Unaudited Condensed Consolidated Financial Statements

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CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(Unaudited)

See Notes to Unaudited Condensed Consolidated Financial Statements

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CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)

See Notes to Unaudited Condensed Consolidated Financial Statements

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NOTES TO UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Note 1.  General

The unaudited Condensed Consolidated Financial Statements and notes thereto in this Quarterly Report on Form 10-Q are presented as permitted by Article 10 of Regulation S-X and do not contain certain information included in the audited Consolidated Financial Statements and notes thereto in our 2018 Annual Report on Form 10-K, which should be read in conjunction with this Quarterly Report on Form 10-Q. The accompanying unaudited Condensed Consolidated Financial Statements contain all adjustments of a normal and recurring nature necessary for a fair statement of our interim results. Interim results of operations are not necessarily indicative of future results.

Fiscal Periods

The first quarters of 2019 and 2018 consisted of thirteen-week periods ending March 30, 2019 and March 31, 2018, respectively.

Reclassifications

Certain prior year amounts have been reclassified to conform to the current year presentation.

Accounting Guidance Updates

Leases

In the first quarter of 2019, we adopted accounting guidance that requires lessees to recognize the rights and obligations created by leases on their balance sheets. This guidance also requires enhanced disclosures regarding the amount, timing, and uncertainty of cash flows arising from leases. As allowed under this guidance, we have elected to apply it using a modified retrospective approach. This approach applies to all leases that exist at or commence after the date of our initial application. As such, prior year comparative periods have not been adjusted.  We elected the transition practical expedients allowed under this guidance.  See Note 2, “Leases,” for more information.

Hedge Accounting

In the first quarter of 2019, we prospectively adopted amended accounting guidance issued to improve the financial reporting of hedging relationships to better reflect the economic results of an entity’s risk management activities in its financial statements and simplify the application of hedge accounting.  As a result of our adoption, the reclassification of gains and losses from cash flow hedges to earnings are included in the same financial statement line item as the hedged item.  Our adoption of this guidance did not have a material impact on our financial position, results of operations, cash flows, or disclosures.

Reclassification of certain tax effects from accumulated other comprehensive income

In the first quarter of 2019, we adopted accounting guidance that provides entities with the option to reclassify certain tax effects of the U.S. Tax Cuts and Jobs Act (“TCJA”) in accumulated other comprehensive income (“AOCI”) to retained earnings.  We elected not to reclassify the stranded income tax effects lodged in AOCI to retained earnings.  Our accounting policy is to release the income tax effects from AOCI to the income statement at the current statutory rate when the related pretax change is recognized.  Furthermore, we release the disproportionate tax effects in AOCI through the income statement as a discrete tax adjustment in the period when the circumstances upon which they are premised cease to exist.

Note 2.  Leases

Our leases primarily relate to office and warehouse space, machinery, transportation, and equipment for information technology. For lease accounting purposes, we do not separate lease and nonlease components, nor do we record operating or finance lease assets and liabilities for short-term leases.

We determine if an arrangement is a lease or contains a lease at inception. Certain of our leases have options to renew lease terms or be terminated prior to their expiration dates and the exercise of these options is generally at our discretion. We evaluate renewal and termination options based on considerations available at the lease commencement date and over the lease term to determine if we are reasonably certain to exercise these options.

As most of our leases do not provide an implicit rate, we use our incremental borrowing rate based on the information available at commencement date to determine the present value of lease payments. We recognize expense for operating leases on a straight-line basis over the lease term, with variable lease payments recognized in the periods in which they are incurred.

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Supplemental cost information related to leases is shown below.

Lease costs related to finance leases were immaterial for the three months ended March 30, 2019.

Supplemental balance sheet information related to leases for the quarter is shown below.

(1)Finance lease assets are net of accumulated amortization of $5.2 million as of March 30, 2019.

Supplemental cash flow information related to leases is shown below.

Cash flows related to finance leases were immaterial for the three months ended March 30, 2019.

Weighted average remaining lease term and discount rate information related to leases are shown below.

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Maturities of lease liabilities from March 30, 2019 are shown below.

As of March 30, 2019, we had no additional significant operating or finance leases that had not yet commenced.

As of December 29, 2018, $184.8 million of minimum annual rental commitments on operating leases was payable as follows: $47.7 million in 2019, $38.9 million in 2020, $29.4 million in 2021, $18.8 million in 2022, $12.9 million in 2023, and $37.1 million thereafter.

Note 3.  Goodwill

Changes in the net carrying amount of goodwill for the three months ended March 30, 2019 by reportable segment are shown below.

The carrying amounts of goodwill at March 30, 2019 and December 29, 2018 were net of accumulated impairment losses of $820 million recognized in fiscal year 2009 by our Retail Branding and Information Solutions (“RBIS”) reportable segment.

Note 4.  Debt

The estimated fair value of our long-term debt is primarily based on the credit spread above U.S. Treasury securities or euro government bond securities, as applicable, on notes with similar rates, credit ratings, and remaining maturities. The fair value of short-term borrowings, which includes commercial paper issuances and short-term lines of credit, approximates their carrying value given the short duration of these obligations. The fair value of our total debt was $2.18 billion at March 30, 2019 and $2 billion at December 29, 2018. Fair value amounts were determined based primarily on Level 2 inputs, which are inputs other than quoted prices in active markets that are either directly or indirectly observable.

Our $800 million revolving credit facility (the “Revolver”) contains financial covenants requiring that we maintain specified ratios, including total debt and interest expense in relation to certain measures of income. No balance was outstanding under the Revolver as of March 30, 2019 or December 29, 2018. As of both March 30, 2019 and December 29, 2018, we were in compliance with our financial covenants.

Note 5.  Pension and Other Postretirement Benefits

Defined Benefit Plans

We sponsor a number of defined benefit plans, the accrual of benefits under some of which have been frozen, covering eligible employees in the U.S. and certain other countries. Benefits payable to an employee are based primarily on years of service and the employee’s compensation during the course of his or her employment with us.

We are also obligated to pay unfunded termination indemnity benefits to certain employees outside of the U.S., which are subject to applicable agreements, laws and regulations. We have not incurred significant costs related to these benefits, and, therefore, no related costs are included in the disclosures below.

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The table below shows the components of net periodic benefit cost (credit), which are recorded in income, for our defined benefit plans.

Service cost and components of net periodic benefit cost (credit) other than service cost were included in “Marketing, general and administrative expense” and “Other non-operating expense” in the unaudited Condensed Consolidated Statements of Operations, respectively.

In July 2018, our Board of Directors (“Board”) approved the termination of the Avery Dennison Pension Plan (the “ADPP”), a U.S. defined benefit plan, effective as of September 28, 2018. In connection with the termination, we settled approximately $152 million of ADPP liabilities during the fourth quarter of 2018 through lump-sum payments from existing plan assets to eligible participants who elected to receive them and recorded approximately $85 million of non-cash charges associated with these settlements. On March 21, 2019, we effectively settled the remaining ADPP liabilities through the execution of an agreement to purchase annuities from American General Life Insurance Company (“AGL”), a subsidiary of American International Group, Inc. Under the agreement, we settled approximately $750 million of ADPP pension obligations for approximately 8,500 active and former employees and their beneficiaries, with AGL assuming the future annuity payments for these individuals, commencing at April 1, 2019. This settlement resulted in approximately $447 million of pretax charges, partially offset by related tax benefits of $180 million, which we recorded in March 2019.  Refer to Note 9, “Taxes Based on Income,” to the unaudited Condensed Consolidated Financial Statements for more information.

We contributed approximately $7 million of cash to the ADPP during the first quarter of 2019 to cover costs associated with the settlement of these liabilities.

Note 6.  Long-Term Incentive Compensation

Stock-Based Awards

Stock-based compensation expense was $7.6 million and $7.4 million for the three months ended March 30, 2019 and March 31, 2018, respectively. This expense was included in “Marketing, general and administrative expense” in the unaudited Condensed Consolidated Statements of Operations.

As of March 30, 2019, we had approximately $58 million of unrecognized compensation expense related to unvested stock-based awards, which we expect to recognize over the remaining weighted-average requisite service period of approximately two years.

Cash-Based Awards

The compensation expense related to long-term incentive units was $8.4 million and $5.6 million for the three months ended March 30, 2019 and March 31, 2018, respectively. This expense was included in “Marketing, general and administrative expense” in the unaudited Condensed Consolidated Statements of Operations.

Note 7.  Cost Reduction Actions

2018/2019 Actions

In April 2018, we approved a restructuring plan (the “2018 Plan”) to consolidate the European footprint of our LGM reportable segment, which is expected to result in a headcount reduction of approximately 400 positions related to the closure of a manufacturing facility. This reduction is expected to be partially offset by headcount additions in other locations, resulting in a net reduction of approximately 150 positions. The cumulative charges associated with the 2018 Plan through the first quarter of 2019 consisted of severance and related costs for the reduction of approximately 345 positions, as well as asset impairment charges. During the three months ended March 30, 2019, we recorded a net $1.9 million in restructuring reversals related to the 2018 Plan. We expect the 2018 Plan to be substantially complete by the end of 2019.

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In addition to the net restructuring reversals recorded under the 2018 Plan, we recorded $12.9 million in restructuring charges during the three months ended March 30, 2019 related to other 2018/2019 Actions.  These charges consisted of severance and related costs for the reduction of approximately 140 positions, as well as lease cancellation costs.

During the three months ended March 30, 2019, restructuring charges and payments were as follows:

2015/2016 Actions

During the three months ended March 30, 2019, we recorded $.3 million in restructuring reversals related to restructuring actions initiated during the third quarter of 2015.

The activities and related charges and payments for the 2015/2016 Actions were substantially completed in 2018.

Accruals for severance and related costs and lease cancellation costs were included in “Other current liabilities” in the unaudited Condensed Consolidated Balance Sheets. Asset impairment charges were based on the estimated market value of the assets, less selling costs, if applicable. Restructuring charges were included in “Other expense, net” in the unaudited Condensed Consolidated Statements of Operations.

The table below shows the total amount of restructuring charges, net of reversals, incurred by reportable segment.

Note 8.  Financial Instruments

We enter into foreign exchange hedge contracts to reduce our risk from foreign exchange rate fluctuations associated with receivables, payables, loans and firm commitments denominated in certain foreign currencies that arise primarily as a result of our operations outside the U.S.  We enter into interest rate contracts to help manage our exposure to certain interest rate fluctuations.  We also enter into futures contracts to hedge certain price fluctuations for a portion of our anticipated domestic purchases of natural gas. The maximum length of time for which we hedge our exposure to the variability in future cash flows for forecasted transactions is 36 months.

As of March 30, 2019, the aggregate U.S. dollar equivalent notional value of our outstanding commodity contracts and foreign exchange contracts was $3.6 million and $1.18 billion, respectively.

We recognize derivative instruments as either assets or liabilities at fair value in the unaudited Condensed Consolidated Balance Sheets. We designate commodity forward contracts on forecasted purchases of commodities and foreign exchange contracts on forecasted transactions as cash flow hedges. We also enter into foreign exchange contracts to offset risks arising from foreign exchange rate fluctuations.

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The following table shows the fair values and balance sheet locations of cash flow hedges as of March 30, 2019 and December 29, 2018:

The following table shows the fair values and balance sheet locations of other derivatives as of March 30, 2019 and December 29, 2018:

Cash Flow Hedges

For derivative instruments that are designated and qualify as cash flow hedges, the effective portion of the gain or loss on the derivative is reported as a component of “Accumulated other comprehensive loss” and reclassified into earnings in the same period(s) during which the hedged transaction impacts earnings.  Gains and losses on the derivatives, representing either hedge ineffectiveness or hedge components excluded from the assessment of effectiveness, are recognized in current earnings.

Gains (losses), before taxes, recognized in “Accumulated other comprehensive loss” (effective portion) on derivatives related to cash flow hedge contracts were as follows:

The amounts recognized in income related to the ineffective portion of, and the amount excluded from, effectiveness testing for cash flow hedges and derivatives not designated as hedging instruments were immaterial for the three months ended March 30, 2019 and March 31, 2018.

As of March 30, 2019, we expected a net loss of approximately $.7 million to be reclassified from “Accumulated other comprehensive loss” to earnings within the next 12 months.

Other Derivatives

For other derivative instruments, which are not designated as hedging instruments, the gain or loss is recognized in current earnings.  These derivatives are intended to offset certain of our economic exposures.

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The following table shows the components of the net losses recognized in income related to these derivative instruments:

Net Investment Hedge

In March 2017, we designated €500 million of our 1.25% senior notes due 2025 as a net investment hedge of our investment in foreign operations. In January 2018, we reduced the amount we designated as a net investment hedge to €255 million. The net assets from the investment in foreign operations were greater than the senior notes, and as such, the net investment hedge was effective.

Gains (losses), before tax, recognized in “Accumulated other comprehensive loss” (effective portion) related to the net investment hedge were as follows:

We recorded no ineffectiveness from our net investment hedge in net (loss) income during the three months ended March 30, 2019 and March 31, 2018.

Note 9.  Taxes Based on Income

The following table summarizes our (loss) income before taxes, (benefit from) provision for income taxes, and effective tax rate:

Our effective tax rate for the three months ended March 30, 2019 was 48.7%, compared to 20.9% in the same period last year.  The change in tax rate was primarily impacted by the tax effects of the pension plan settlement charges associated with the termination of the ADPP during the three months ended March 30, 2019.

Our effective tax rate for the three months ended March 30, 2019 included: (i) a 2%-3% rate impact due to the loss of benefits associated with a concessionary tax rate in a foreign jurisdiction; (ii) $3 million of net tax charges related to the tax on global intangible low-taxed income (“GILTI”) of our foreign subsidiaries, partially offset by the benefit from foreign-derived intangible income (“FDII”); and (iii) $2.4 million of tax charges resulting from recognizing foreign withholding taxes on current year earnings.  Effective in 2019, we implemented certain structural changes to align with operational strategies, one benefit of which was to reduce our base erosion payments below the statutory minimum threshold.  As a result, our effective tax rate for the three months ended March 30, 2019 does not include tax charges related to Base Erosion Antiabuse Tax (“BEAT”).  Additionally, our effective tax rate for the three months ended March 30, 2019 reflected certain discrete items, including the following: (i) $6.9 million of tax benefits related to excess tax benefits associated with stock-based payments and (ii) $179.8 million of tax benefits related to the effective settlement of the ADPP, $102.9 million of which was the related tax effect on the pretax charge of $446.9 million and $76.9 million of which was related to the release of stranded tax effects in AOCI through the income statement.  The tax effects were stranded primarily as a result of the U.S. federal tax rate change under the TCJA. Refer to Note 1, “General,” and Note 5, “Pension and Other Postretirement Benefits,” to the unaudited Condensed Consolidated Financial Statements for more information.

Our effective tax rate for the three months ended March 31, 2018 included: (i) $7.2 million of net tax charges related to the tax on GILTI of our foreign subsidiaries and the BEAT on certain foreign earnings, partially offset by the benefit from FDII; (ii) $2.8 million of tax charges resulting from recognizing foreign withholding taxes on current year earnings; and (iii) $4 million of tax benefits from the release of valuation allowances on certain state deferred tax assets, which primarily related to the impact of state conformity to certain TCJA provisions.  These impacts were primarily a result of the TCJA.  Additionally, the effective tax rate for the three months ended March 31, 2018 reflected certain discrete items, including the following: (i) $7.1 million of tax benefits related to excess tax benefits associated with stock-based payments and (ii) $7.1 million of tax benefits from decreases in certain tax reserves, including interest and penalties, as a result of closing tax years.

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The amount of income taxes we pay is subject to ongoing audits by taxing jurisdictions around the world.  Our estimate of the potential outcome of any uncertain tax issue is subject to our assessment of the relevant risks, facts, and circumstances existing at the time.  We believe that we have adequately provided for reasonably foreseeable outcomes related to these matters.  However, our future results may include favorable or unfavorable adjustments to our estimated tax liabilities in the period the assessments are made or resolved, which may impact our effective tax rate.  We anticipate completing the U.S. Internal Revenue Service’s Compliance Assurance Process Program through 2017 in the second quarter of 2019.  With limited exceptions, we are no longer subject to income tax examinations by tax authorities for years prior to 2007.

It is reasonably possible that, during the next 12 months, we may realize a decrease in our uncertain tax positions, including interest and penalties, of approximately $24 million, primarily as a result of audit settlements and closing tax years.

Note 10.  Net (Loss) Income Per Common Share

Net (loss) income per common share was computed as follows:

For the first quarter of 2019, the effect of dilutive shares (additional common shares issuable under stock-based awards) was not included in the computation of net loss per common share, assuming dilution, because we had a net loss. We excluded 1.1 million shares related to stock-based compensation awards from the computation for the three months ended March 30, 2019.

For the first quarter of 2018, certain stock-based compensation awards were not included in the computation of net income per common share, assuming dilution, because they would not have had a dilutive effect. Stock-based compensation awards excluded from the computation were not significant for the three months ended March 31, 2018.

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Note 11.  Supplemental Equity and Comprehensive Income Information

Consolidated Changes in Shareholders’ Equity

(1)We fund a portion of our employee-related expenses using shares of our common stock held in treasury.  We reduce capital in excess of par value based on the grant date fair value of the awards vested and record net gains or losses associated with our use of treasury shares to retained earnings.

(2)In the first quarter of 2018, we adopted an accounting guidance update that requires recognition of the income tax effects of intra-entity sales and transfers of assets other than inventory in the period in which they occur.

(3)In the first quarter of 2019, we effectively settled the ADPP’s remaining obligations.   Refer to Note 5, “Pension and Other Postretirement Benefits,” for more information.

Dividends per common share were as follows:

In April 2019, subsequent to the end of the first quarter of 2019, our Board authorized the repurchase of shares of our common stock with a fair market value of up to $650 million, exclusive of any fees, commissions or other expenses related to such purchases and in addition to the amount outstanding under our previous Board authorization.  Board authorizations remain in effect until shares in the amount authorized thereunder have been repurchased.

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Changes in Accumulated Other Comprehensive Loss

The changes in “Accumulated other comprehensive loss” (net of tax) for the three-month period ended March 30, 2019 were as follows:

(1)Other comprehensive income before reclassifications, net of tax, for pension and other postretirement benefits related to the remeasurement of the ADPP’s net pension obligations.

The changes in “Accumulated other comprehensive loss” (net of tax) for the three-month period ended March 31, 2018 were as follows:

The amounts reclassified from “Accumulated other comprehensive loss” to increase (decrease) net (loss) income were as follows:

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The following table sets forth the income tax expense (benefit) allocated to each component of other comprehensive income:

Note 12.  Fair Value Measurements

Recurring Fair Value Measurements

The following table provides the assets and liabilities carried at fair value, measured on a recurring basis, as of March 30, 2019: