UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549-1004



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FORM 10-Q



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(Mark One)

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

For the quarterly period ended September 30, 2006

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:  333-53603-03

GRAHAM PACKAGING HOLDINGS COMPANY

(Exact name of registrant as specified in its charter)



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Pennsylvania
        
        23-2553000(State or other jurisdication ofincorporation or organization)
        
        (I.R.S. Employer Identificaton No.)




2401 Pleasant Valley RoadYork, Pennsylvania
        
        17402(Address of principal executive offices)
        
        (Zip Code)




(717) 849-8500(Registrants telephone number, including area code)




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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.

YesxNo  o.

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, or a non-accelerated filer.  See definition of accelerated filer and large accelerated filer in Rule 12b-2 of the Exchange Act. (Check one):

Large accelerated filer o    Accelerated filer o    Non- accelerated filerx

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).

Yes o    Nox




GRAHAM PACKAGING HOLDINGS COMPANY



INDEX





Page NumberPART I.  FINANCIAL INFORMATIONItem
        1:
        Financial Statements:CONDENSED CONSOLIDATED BALANCE SHEETS (Unaudited)   At September 30, 2006 and December 31, 2005
        3CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS (Unaudited)   For the three and nine months ended September 30, 2006 and 2005
        4CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)   For the nine months ended September 30, 2006 and 2005
        5NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)
        6Item
        2:
        Managements Discussion and Analysis of Financial Condition and Results of Operations
        27Item
        3:
        Quantitative and Qualitative Disclosures About Market Risk
        39Item
        4:
        Controls and Procedures
        40




PART II. OTHER INFORMATIONItem
        1A:
        Risk Factors
        42Item
        6:
        Exhibits
        42Signature
        43








2



PART I.  FINANCIAL INFORMATION

Item 1. Financial Statements



GRAHAM PACKAGING HOLDINGS COMPANY

CONDENSED CONSOLIDATED BALANCE SHEETS

(Unaudited)





September 30,2006
        
        December 31,2005(In thousands)ASSETSCurrent assets:Cash and cash equivalents
        
        $
        19,265
        
        $
        26,684Accounts receivable, net
        
        
        281,024
        
        
        251,357Inventories
        
        
        239,327
        
        
        287,810Deferred income taxes
        
        
        12,286
        
        
        13,069Prepaid expenses and other current assets
        
        
        56,447
        
        
        50,997Total current assets
        
        
        608,349
        
        
        629,917Property, plant and equipment, net
        
        
        1,444,295
        
        
        1,443,460Intangible assets, net
        
        
        80,153
        
        
        81,633Goodwill
        
        
        316,988
        
        
        317,171Other non-current assets
        
        
        71,953
        
        
        90,197Total assets
        
        $
        2,521,738
        
        $
        2,562,378LIABILITIES AND PARTNERS CAPITAL (DEFICIT)Current liabilities:Accounts payable
        
        $
        208,263
        
        $
        177,600Accrued expenses
        
        
        222,312
        
        
        176,432Current portion of long-term debt
        
        
        27,623
        
        
        27,859Total current liabilities
        
        
        458,198
        
        
        381,891Long-term debt
        
        
        2,521,758
        
        
        2,610,481Deferred income taxes
        
        
        21,612
        
        
        22,593Other non-current liabilities
        
        
        46,241
        
        
        41,123Commitments and contingent liabilities (see Notes 11 and 12)
        
        
        
        
        
        Partners capital (deficit):General partners
        
        
        (26,958
        )
        
        (24,946
        )Limited partners
        
        
        (516,591
        )
        
        (478,513
        )Notes and interest receivable for ownership interests
        
        
        (3,247
        )
        
        (3,102
        )Accumulated other comprehensive income
        
        
        20,725
        
        
        12,851Total partners capital (deficit)
        
        
        (526,071
        )
        
        (493,710
        )Total liabilities and partners capital (deficit)
        
        $
        2,521,738
        
        $
        2,562,378








See accompanying notes to condensed consolidated financial statements.



3





GRAHAM PACKAGING HOLDINGS COMPANY

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

(Unaudited)







Three Months EndedSeptember 30,
        
        Nine Months EndedSeptember 30,2006
        
        2005
        
        2006
        
        2005(In thousands)Net sales
        
        $
        643,037
        
        $
        615,056
        
        $
        1,941,326
        
        $
        1,880,326Cost of goods sold
        
        
        573,968
        
        
        535,830
        
        
        1,720,351
        
        
        1,644,325Gross profit
        
        
        69,069
        
        
        79,226
        
        
        220,975
        
        
        236,001Selling, general and administrative expenses
        
        
        29,081
        
        
        29,300
        
        
        93,392
        
        
        95,661Impairment charges
        
        
        
        
        
        198
        
        
        1,112
        
        
        1,802Operating income
        
        
        39,988
        
        
        49,728
        
        
        126,471
        
        
        138,538Interest expense, net
        
        
        48,286
        
        
        47,394
        
        
        152,696
        
        
        133,624Other expense (income), net
        
        
        45
        
        
        (36
        )
        
        133
        
        
        430(Loss) income before income taxes and minority interest
        
        
        (8,343
        )
        
        2,370
        
        
        (26,358
        )
        
        4,484Income tax provision
        
        
        6,642
        
        
        4,594
        
        
        13,879
        
        
        13,369Minority interest
        
        
        
        
        
        
        
        
        
        
        
        728Net loss
        
        $
        (14,985
        )
        $
        (2,224
        )
        $
        (40,237
        )
        $
        (9,613
        )Net loss allocated to general partners
        
        $
        (749
        )
        $
        (111
        )
        $
        (2,012
        )
        $
        (481
        )Net loss allocated to limited partners
        
        $
        (14,236
        )
        $
        (2,113
        )
        $
        (38,225
        )
        $
        (9,132
        )








See accompanying notes to condensed consolidated financial statements.



4



GRAHAM PACKAGING HOLDINGS COMPANY

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

(Unaudited)





Nine Months EndedSeptember 30,2006
        
        2005(In thousands)Operating activities:Net loss
        
        $
        (40,237
        )
        $
        (9,613
        )Adjustments to reconcile net loss to net cash provided by operating activities:Depreciation and amortization
        
        
        152,275
        
        
        146,657Amortization of debt issuance fees
        
        
        9,896
        
        
        7,790Net loss on disposal of fixed assets
        
        
        4,001
        
        
        6,404Impairment charges
        
        
        1,112
        
        
        1,802Stock compensation expense
        
        
        146
        
        
        138Minority interest
        
        
        
        
        
        728Foreign currency transaction (gain) loss
        
        
        (616
        )
        
        464Interest receivable for ownership interests
        
        
        (145
        )
        
        (136
        )Changes in operating assets and liabilities, net of acquisitions of businesses:Accounts receivable
        
        
        (27,563
        )
        
        (47,414
        )Inventories
        
        
        49,508
        
        
        14,290Prepaid expenses and other current assets
        
        
        (3,904
        )
        
        12,046Other non-current assets
        
        
        1,924
        
        
        (1,412
        )Other non-current liabilities
        
        
        3,351
        
        
        (3,211
        )Accounts payable and accrued expenses
        
        
        72,300
        
        
        16,540Net cash provided by operating activities
        
        
        222,048
        
        
        145,073Investing activities:Cash paid for property, plant and equipment
        
        
        (143,571
        )
        
        (205,492
        )Proceeds from sale of property, plant and equipment
        
        
        9,751
        
        
        669Acquisitions of/investments in businesses, net of cash acquired
        
        
        (1,426
        )
        
        (18,320
        )Net cash used in investing activities
        
        
        (135,246
        )
        
        (223,143
        )Financing activities:Proceeds from issuance of long-term debt
        
        
        616,584
        
        
        768,263Payment of long-term debt
        
        
        (710,208
        )
        
        (694,833
        )Debt issuance fees
        
        
        (1,005
        )
        
        (1,187
        )Net cash (used in) provided by financing activities
        
        
        (94,629
        )
        
        72,243Effect of exchange rate changes
        
        
        408
        
        
        (1,727
        )Decrease in cash and cash equivalents
        
        
        (7,419
        )
        
        (7,554
        )Cash and cash equivalents at beginning of period
        
        
        26,684
        
        
        22,131Cash and cash equivalents at end of period
        
        $
        19,265
        
        $
        14,577Supplemental disclosuresCash paid for interest, net of amounts capitalized
        
        $
        113,784
        
        $
        101,102Cash paid for taxes
        
        
        12,348
        
        
        5,782Non-cash investing and financing activities:Capital leases
        
        
        4,319
        
        
        9,217






See accompanying notes to condensed consolidated financial statements.

5



GRAHAM PACKAGING HOLDINGS COMPANY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)



1.
        Basis of Presentation


The accompanying unaudited condensed consolidated financial statements of Graham Packaging Holdings Company (Holdings), a Pennsylvania limited partnership, have been prepared in accordance with accounting principles generally accepted in the United States of America (generally accepted accounting principles) for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X and therefore do not include all of the information and footnotes required by generally accepted accounting principles for complete annual financial statements.  All entities and assets owned by Holdings are referred to collectively with Holdings as the Company.  Graham Packaging Company, L.P., Holdings wholly-owned subsidiary, is referred to as the Operating Company.  In the opinion of the management of the Company
(Management), all adjustments (consisting only of usual recurring adjustments considered necessary for a fair presentation) are reflected in the condensed consolidated financial statements.  The condensed consolidated balance sheet as of December 31, 2005 is derived from audited financial statements.  The condensed consolidated financial statements and notes included in this report should be read in conjunction with the audited consolidated financial statements and notes for the year ended December 31, 2005.  The results of operations for the nine months ended September 30, 2006 are not necessarily indicative of the results to be expected for the full year ending December 31, 2006.

Recent Accounting Pronouncements

In June 2006, the Financial Accounting Standards Board (FASB) issued FASB Interpretation No. (FIN) 48  Accounting for Uncertainty in Income Taxes  an interpretation of FASB Statement No. 109.  FIN 48 prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return.  FIN 48 also provides guidance on accounting for derecognition, interest, penalties, accounting in interim periods, disclosure and classification of matters related to uncertainty in income taxes and transitional requirements upon adoption of FIN 48.  FIN 48 is effective for fiscal years beginning after December 15, 2006.  The Company is currently in the process of assessing the impact that adoption of FIN 48 will have on its financial statements.

In September 2006, the FASB issued Statement of Financial Accounting Standards (SFAS) 157, Fair Value Measurements.  This statement establishes a single authoritative definition of fair value, sets out a framework to classify the source of information used in fair value measurements, identifies additional factors that must be disclosed about assets and liabilities measured at fair value based on their placement in the new framework and modifies the long-standing accounting presumption that the transaction price of an asset or liability equals its initial fair value.  SFAS 157 is effective for fiscal years beginning after November 15, 2007.  The Company is currently in the process of assessing the impact that adoption of SFAS 157 will have on its financial statements.

In September 2006, the FASB issued SFAS 158, Employers Accounting For Defined Benefit Pension and Other Postretirement Plans  an amendment of FASB Statements  No. 87, 88, 106, and 132 (R).   Under SFAS 158, companies are required to (1) recognize in its statement of financial position an asset for a plans over funded status or a liability for a plans under funded status, (2) measure a plans assets and its obligations that determine its funded status as of the end of the companys fiscal year and (3) recognize changes in the funded status of a defined benefit postretirement plan in the year in which the changes occur.  Those changes will be reported in comprehensive income.  The requirement to recognize the funded status of a benefit plan for the Company, which does not have publicly traded equity securities, is effective as of the end of the
fiscal year ending after June 15, 2007, while certain disclosure requirements are effective as of the end of the fiscal year ending after December 15, 2006.  The requirement to measure plan assets and benefit obligations as of the date of the Companys fiscal year end statement of financial position is effective for fiscal years ending after December 15, 2008.  The Company is currently in the process of assessing the impact that adoption of SFAS 158 will have on its financial statements.

In September 2006, the Securities and Exchange Commission issued Staff Accounting Bulletin (SAB) 108, Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements.  SAB 108 requires companies to quantify misstatements using both the balance sheet and income statement approaches and to evaluate whether either approach results in quantifying an error that is material in light of relevant quantitative and qualitative factors.  The requirements are effective for annual financial statements covering the first fiscal year ending after November 15, 2006.  Management does not believe that adoption of SAB 108 will have a significant impact on the Companys financial statements.

6



GRAHAM PACKAGING HOLDINGS COMPANY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)-Continued



Derivatives

During 2004, the Company entered into four interest rate swap agreements, under which the Company receives variable interest based on the Eurodollar rate and pays fixed interest at a weighted average rate of 3.89%, on $700.0 million of term loans. During 2005, the Company entered into three additional interest rate swap agreements, under which the Company receives variable interest based on the Eurodollar rate and pays fixed interest at a weighted average rate of 4.43%, on $225.0 million of term loans. During 2006, the Company entered into three forward rate agreements, under which the Company receives variable interest based on the Eurodollar rate and pays fixed interest at a weighted average rate of 5.33%, on $895.2 million of term loans.  The interest rate swaps and forward rate agreements are accounted for as cash flow hedges. The hedges are highly effective as defined in SFAS 133,
Accounting for Derivative Instruments and Hedging Activities.  The effective portion of the cash flow hedges is recorded in other comprehensive income (OCI) and was an unrealized loss of $8.5 million for the three months ended September 30, 2006 as compared to an unrealized gain of $7.6 million for the three months ended September 30, 2005, and was an unrealized loss of $3.0 million for the nine months ended September 30, 2006 as compared to an unrealized gain of $9.2 million for the nine months ended September 30, 2005.  Failure to properly document the Companys interest rate swaps as effective hedges would result in income statement recognition of all or part of the cumulative $11.5 million unrealized gain recorded in accumulated OCI as of September 30, 2006.  Approximately 82% of the amount recorded within OCI as of September 30, 2006 is expected to be recognized in interest expense in the next twelve months.

Comprehensive Income (Loss)

Changes in fair value of derivatives designated and accounted for as cash flow hedges, additional minimum pension liability adjustments and foreign currency translation adjustments are included in OCI and added with net loss to determine total comprehensive income (loss).

The components of accumulated other comprehensive income (loss) consisted of:



Cash FlowHedges
        
        AdditionalMinimum PensionLiability
        
        CumulativeTranslationAdjustments
        
        Total(In thousands)Balance at January 1, 2005
        
        $
        3,385
        
        $
        (4,275
        )
        $
        20,798
        
        $
        19,908Change
        
        
        11,129
        
        
        (1,060
        )
        
        (17,126
        )
        
        (7,057
        )Balance at December 31, 2005
        
        
        14,514
        
        
        (5,335
        )
        
        3,672
        
        
        12,851Change
        
        
        (3,041
        )
        
        (73
        )
        
        10,988
        
        
        7,874Balance at September 30, 2006
        
        $
        11,473
        
        $
        (5,408
        )
        $
        14,660
        
        $
        20,725




Option Plans

In 2004, the FASB issued SFAS 123(R), Share-Based Payment. SFAS 123(R) revises SFAS 123, Accounting for Stock-Based Compensation, and requires companies to expense the fair value of employee stock options and other forms of stock-based compensation. Under SFAS 123(R), companies are to (1) use fair value to measure stock-based compensation awards and (2) cease using the intrinsic value method of accounting, which Accounting Principles Board Opinion (APB) 25, Accounting for Stock Issued to Employees, allowed and resulted in no expense for many awards of stock options for which the exercise price of the option equaled the price of the underlying stock at the grant date. In addition, SFAS 123(R) retains the modified grant date model from SFAS 123. Under that model, compensation cost is measured at the fair value of an award on the grant
date and adjusted to reflect estimated forfeitures and the outcome of certain conditions over the requisite service period of the award. The fair value of an award is not re-measured after its initial estimation on the grant date (except in the case of a liability award or if the award is modified). The Company adopted SFAS 123(R) on January 1, 2006 using the prospective method.  In accordance with SFAS 123(R), the Company applied this statement prospectively to awards issued, modified, repurchased or cancelled after January 1, 2006.  The adoption of SFAS 123(R) has not had a significant impact on the Companys financial statements.



7



GRAHAM PACKAGING HOLDINGS COMPANY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)-Continued



The Company continued to account for equity based compensation to employees for awards outstanding as of January 1, 2006 using the intrinsic value method prescribed in APB 25.  SFAS 123 established accounting and disclosure requirements using a fair value based method of accounting for equity based employee compensation plans. The exercise prices of all units were equal to or greater than the fair market value of the units on the dates of the grants and, accordingly, no compensation cost has been recognized under the provisions of APB 25. Under SFAS 123, compensation cost is measured at the grant date based on the value of the award and is recognized over the service (or vesting) period. Had compensation cost for all option plans been determined under SFAS 123, based on the fair market value at the grant dates, the Companys pro forma net loss for the three and nine months ended
September 30, 2006 and 2005 would have been reflected as follows:





Three Months Ended
        
        Nine Months EndedSeptember 30,
        
        September 30,2006
        
        2005
        
        2006
        
        2005(In thousands)As reported
        
        $
        (14,985
        )
        $
        (2,224
        )
        $
        (40,237
        )
        $
        (9,613
        )Pro forma
        
        
        (15,228
        )
        
        (2,537
        )
        
        (41,006
        )
        
        (10,545
        )




There were no options granted during the nine months ended September 30, 2006.  The weighted average fair value at date of grant for options granted during the nine months ended September 30, 2005 was $7,748 per option.  The fair value of each option was estimated on the date of the grant using the Minimum Value option pricing model with the following weighted-average assumptions:



Nine Months EndedSeptember 30, 2005Dividend yield
        
        0
        %Expected volatility
        
        0
        %Risk free interest rate
        
        3.65
        %Expected option life (in years)
        
        4.5Forfeiture rate
        
        N/A




A summary of the changes in the option units outstanding under the option plans as of September 30, 2006 is as follows:



UnitsUnderOption
        
        WeightedAverageExercisePrice
        
        WeightedAverageRemainingContractual Term(in years)
        
        AggregateIntrinsic Value(in millions)Outstanding at January 1, 2006
        
        1,228.0
        
        $
        38,861Granted
        
        
        
        
        Exercised
        
        
        
        
        Forfeited
        
        (39.0
        )
        
        46,487Outstanding at September 30, 2006
        
        1,189.0
        
        
        38,611
        
        5.4
        
        $
        14.6Exercisable at September 30, 2006
        
        671.8
        
        
        32,291
        
        3.8
        
        
        N/A






8



GRAHAM PACKAGING HOLDINGS COMPANY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)-Continued





Inventory Cost

In 2004, the FASB issued SFAS 151, Inventory Costs  an amendment of APB No. 43, Chapter 4, which is the result of its efforts to converge U.S. accounting standards for inventories with International Accounting Standards. SFAS 151 requires abnormal amounts of idle facility expense, freight, handling costs and wasted material (spoilage) to be recognized as current-period charges. It also requires that allocation of fixed production overheads to the costs of conversion be based on the normal capacity of the production facilities.  The Company adopted SFAS 151 on January 1, 2006 and the adoption of SFAS 151 has not had a significant impact on its financial statements.

Retirement Obligations

In 2005, the FASB issued FIN 47, Accounting for Conditional Asset Retirement Obligations, an Interpretation of FASB No. 143.  This statement clarifies that an entity is required to recognize a liability for the fair value of a conditional asset retirement obligation when incurred, if the liabilitys fair value can be reasonably estimated.  The Company adopted FIN 47 on December 31, 2005 and the adoption of FIN 47 has not had a significant impact on its financial statements.

Reclassifications

Certain reclassifications have been made to the 2005 financial statements to conform to the 2006 presentation, including a reclassification to reflect as separate components of cash provided by operating activities, other non-current assets and other non-current liabilities, which were previously aggregated; accordingly, there was no impact on amounts presented for net cash provided by (used in) operating, investing and financing activities.



2.
        Debt Arrangements




Long-term debt consisted of the following:





September 30,2006
        
        December 31,2005(In thousands)Term loans
        
        $
        1,823,866
        
        $
        1,785,500Revolving Credit Facility
        
        
        65,000
        
        
        187,500Foreign and other revolving credit facilities
        
        
        3,135
        
        
        7,472Senior Notes
        
        
        250,000
        
        
        250,000Senior Subordinated Notes
        
        
        375,000
        
        
        375,000Capital leases
        
        
        31,073
        
        
        31,605Other
        
        
        1,307
        
        
        1,2632,549,381
        
        
        2,638,340Less amounts classified as current
        
        
        27,623
        
        
        27,859$
        2,521,758
        
        $
        2,610,481




In connection with the acquisition of the blow molded plastic container business of Owens-Illinois, Inc. (O-I Plastic) on October 7, 2004, the Operating Company, Holdings, GPC Capital Corp. I, Holdings wholly-owned subsidiary (CapCo I), and a syndicate of lenders entered into a first-lien credit agreement (the Credit Agreement) and a second-lien credit agreement (the Second-Lien Credit Agreement and, together with the Credit Agreement, the Credit Agreements). Pursuant to its terms, on April 18, 2006, the Credit Agreement was amended in order to, among other things, increase the Term Loan B facility provided under the Credit Agreement by $150.0 million.  Proceeds of the Amendment were used to pay down $100.0 million of the Second-Lien Credit Agreement, with the remaining $50.0 million being used to reduce outstanding borrowings
on the existing revolving credit facility provided for under the Credit Agreement.  The Credit Agreements consist of a senior secured Term Loan B to the Operating Company totaling $1,573.9 million, a second-lien term loan totaling $250.0 million (the Term Loans or Term Loan Facilities) and a $250.0 million revolving credit facility (the Revolving Credit Facility).



9



GRAHAM PACKAGING HOLDINGS COMPANY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)-Continued



The obligations of the Operating Company and CapCo I under the Credit Agreements are guaranteed by Holdings and certain other subsidiaries of Holdings.  The Term Loan B is payable in quarterly installments and requires payments of $15.6 million in 2006 and $16.0 million in each of 2007, 2008, 2009 and 2010 and $1,505.8 million in 2011. The second-lien term loan is payable in 2012. The Revolving Credit Facility expires on October 7, 2010. Interest on the Credit Agreement is payable at (a) the Alternate Base Rate (ABR) (the higher of the Prime Rate or the Federal Funds Rate plus 0.50%) plus a margin ranging from 1.25% to 1.75%; or (b) the Eurodollar Rate (the applicable interest rate offered to banks in the London interbank eurocurrency market) plus a margin ranging from 2.00% to 2.75%. A commitment fee of 0.50% is due on the unused portion of the Revolving Credit Facility.
Interest on the Second-Lien Credit Agreement is payable at (a) the ABR plus a margin of 3.25%; or (b) the Eurodollar Rate plus a margin of 4.25%. In addition, the Credit Agreements contain certain affirmative and negative covenants as to the operations and financial condition of the Company, as well as certain restrictions on the payment of dividends and other distributions to Holdings. As of September 30, 2006, the Company was in compliance with all covenants. The unused availability of the Revolving Credit Facility at September 30, 2006 was $175.6 million (as reduced by $9.4 million of outstanding letters of credit).

Substantially all domestic tangible and intangible assets of the Company are pledged as collateral pursuant to the terms of the Credit Agreements.

The acquisition of O-I Plastic and the related refinancing of the indebtedness of the Company also included the issuance of $250.0 million in Senior Notes of the Operating Company and $375.0 million in Senior Subordinated Notes of the Operating Company (collectively the Notes) (see Note 13). The Notes are unconditionally guaranteed, jointly and severally, by Holdings and domestic subsidiaries of the Operating Company and mature on October 7, 2012 (Senior Notes) and October 7, 2014 (Senior Subordinated Notes). Interest on the Senior Notes is payable semi-annually at 8.50% and interest on the Senior Subordinated Notes is payable semi-annually at 9.875%.



3.
        Accounts Receivable, Net


The Company had sales to one customer, PepsiCo, which exceeded 10% of total sales for the nine months ended September 30, 2006 and 2005.  The Companys sales to this customer were 18.0% and 19.3% of total sales for the nine months ended September 30, 2006 and 2005, respectively.  For the nine months ended September 30, 2006 and 2005, approximately 100% and 98%, respectively, of the sales to PepsiCo were made in North America.



4.
        Inventories


Inventories consisted of the following:





September 30,2006
        
        December 31,2005(In thousands)Finished goods
        
        $
        166,460
        
        $
        195,533Raw materials and parts
        
        
        72,867
        
        
        92,277$
        239,327
        
        $
        287,810




5.
        Impairment Charges


Due to changes in the ability to utilize certain assets in the United States in 2006 and the United States and Turkey in 2005, the Company evaluated the recoverability of these assets. For these assets to be held and used, the Company determined that the undiscounted cash flows were below the carrying value of these long-lived assets. Accordingly, the Company adjusted the carrying value of these long-lived assets to their estimated fair value in accordance with SFAS 144, Accounting for the Impairment or Disposal of Long-Lived Assets, resulting in impairment charges of $0.2 million for the three months ended September 30, 2005 and $1.1 million and $1.8 million for the nine months ended September 30, 2006 and 2005, respectively.

10  GRAHAM PACKAGING HOLDINGS COMPANY NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)-Continued 6.
        Intangible Assets, Net




The gross carrying amount and accumulated amortization of the Companys intangible assets subject to amortization as of September 30, 2006 were as follows:



Gross CarryingAmount
        
        AccumulatedAmortization
        
        Net
        
        Amortizationperiod(Dollar amounts in thousands)Patented technology
        
        $
        23,880
        
        $
        (4,447
        )
        $
        19,433
        
        9 to 13.5 yearsCustomer relationships
        
        
        41,751
        
        
        (4,863
        )
        
        36,888
        
        3.75 to 20 yearsLicensing agreements
        
        
        28,000
        
        
        (5,091
        )
        
        22,909
        
        11 yearsNon-compete agreements
        
        
        1,543
        
        
        (620
        )
        
        923
        
        3 to 5 yearsTotal
        
        $
        95,174
        
        $
        (15,021
        )
        $
        80,153




The gross carrying amount and accumulated amortization of the Companys intangible assets subject to amortization as of December 31, 2005 were as follows:



Gross CarryingAmount
        
        AccumulatedAmortization
        
        Net
        
        Amortizationperiod(Dollar amounts in thousands)Patented technology
        
        $
        23,169
        
        $
        (2,822
        )
        $
        20,347
        
        9 to 13.5 yearsCustomer relationships
        
        
        38,130
        
        
        (2,787
        )
        
        35,343
        
        3.75 to 20 yearsLicensing agreements
        
        
        28,000
        
        
        (3,182
        )
        
        24,818
        
        11 yearsNon-compete agreement
        
        
        1,500
        
        
        (375
        )
        
        1,125
        
        5 yearsTotal
        
        $
        90,799
        
        $
        (9,166
        )
        $
        81,633




Amortization expense for the nine months ended September 30, 2006 and 2005 was $5.8 million and $4.9 million, respectively.  Estimated aggregate amortization expense for 2006 and each of the next five years ending December 31 is as follows (in millions):





2006
        
        $
        7.72007
        
        
        7.52008
        
        
        7.42009
        
        
        7.32010
        
        
        7.12011
        
        
        7.0




7.
        Goodwill


The changes in the carrying amount of goodwill were as follows:



NorthAmericaSegment
        
        EuropeSegment
        
        SouthAmericaSegment
        
        Total(In thousands)Balance at December 31, 2005
        
        $
        288,158
        
        $
        17,278
        
        $
        11,735
        
        $
        317,171Foreign currency translation adjustments
        
        
        (1,061
        )
        
        931
        
        
        61
        
        
        (69
        )Other adjustments
        
        
        (114
        )
        
        
        
        
        
        
        
        (114
        )Balance at September 30, 2006
        
        $
        286,983
        
        $
        18,209
        
        $
        11,796
        
        $
        316,988






11



GRAHAM PACKAGING HOLDINGS COMPANY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)-Continued





8.
        Accrued Expenses


Accrued expenses consisted of the following:



September 30,2006
        
        December 31,2005(In thousands)Accrued employee compensation and benefits
        
        $
        57,993
        
        $
        60,748Accrued interest
        
        
        49,528
        
        
        20,281Accrued sales allowance
        
        
        22,836
        
        
        18,774Other
        
        
        91,955
        
        
        76,629$
        222,312
        
        $
        176,432




For the three and nine months ended September 30, 2006, the Company incurred costs of employee termination benefits in the United States of $1.5 million, which included the legal liability of severing 39 employees, all of which were terminated by September 30, 2006.  Substantially all of the cash payments for these termination benefits are expected to be made by September 30, 2007.  For the year ended December 31, 2005, the Company incurred costs of employee termination benefits in the United States of $2.3 million, which included the legal liability of severing 16 employees, all of which were terminated by September 30, 2006.  Substantially all of the cash payments for these termination benefits are expected to be made by December 31, 2007.  For the year ended December 31, 2005, the Company incurred costs of employee termination benefits in France of $3.8 million, which included the legal
liability of severing 35 employees, 29 of which were terminated by September 30, 2006.  Substantially all of the cash payments for these termination benefits are expected to be made by December 31, 2007.  Additional termination benefits were incurred in 2002 and 2003 in France and North America; the remaining cash payments for these benefits are expected to be made by December 31, 2007.

The following table reflects a rollforward of these costs, primarily included in accrued employee compensation and benefits (in thousands):



2002/2003FranceReductionin Force
        
        2003NorthAmericaReductionin Force
        
        2005UnitedStatesReductionin Force
        
        2005FranceReductionin Force
        
        2006UnitedStatesReductionin Force
        
        TotalReserves at December 31, 2005
        
        $
        399
        
        $
        472
        
        $
        1,571
        
        $
        3,845
        
        $
        
        
        $
        6,287Increase in reserves
        
        
        75
        
        
        
        
        
        101
        
        
        
        
        
        1,515
        
        
        1,691Cash payments
        
        
        (5
        )
        
        (169
        )
        
        (961
        )
        
        (2,064
        )
        
        (137
        )
        
        (3,336
        )Reserves at September 30, 2006
        
        $
        469
        
        $
        303
        
        $
        711
        
        $
        1,781
        
        $
        1,378
        
        $
        4,642




9.
        Income Taxes


Holdings and the Operating Company, as limited partnerships, do not pay U.S. federal income taxes under the provisions of the Internal Revenue Code, as the applicable income or loss is included in the tax returns of the partners. However, certain U.S. subsidiaries acquired as part of O-I Plastic are corporations and are subject to U.S. federal and state income taxes. The Companys foreign operations are subject to tax in their local jurisdictions. Deferred income tax assets and liabilities are recognized for the future tax consequences attributable to temporary differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and are measured using enacted tax rates expected to apply to taxable income in the years in which the temporary differences are expected to reverse.



12



GRAHAM PACKAGING HOLDINGS COMPANY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)-Continued





10.
        Acquisitions


Purchase of Certain Tetra-Pak Operations

On March 24, 2005, the Company acquired certain operations from Tetra-Pak Inc., Tetra Pak Moulded Packaging Systems Limited, Tetra Pak S.R.L., Tetra Pak MPS N.V., Tetra Pak LTDA and Tetra Pak Paketleme Sanayi Ve Ticaret A.S. for a total purchase price (including acquisition-related costs) of $36.8 million. The acquisition was recorded under the purchase method of accounting and, accordingly, the results of the acquired operation are included in the financial statements of the Company beginning on March 24, 2005. The purchase price has been allocated to assets acquired and liabilities assumed based on fair values. The allocated fair value of assets acquired and liabilities assumed is summarized as follows (in thousands):



Accounts receivable
        
        $
        2,916Inventories
        
        
        915Prepaid expenses and other current assets
        
        
        64Total current assets
        
        
        3,895Property, plant and equipment
        
        
        26,023Intangible assets
        
        
        3,980Goodwill
        
        
        4,676Total
        
        
        38,574Less liabilities assumed
        
        
        1,764Net cost of acquisition
        
        $
        36,810




Pro Forma Information

The following table sets forth unaudited pro forma results of operations, assuming that the above acquisition had taken place at the beginning of each period presented:



Three Months EndedSeptember 30, 2005
        
        Nine Months EndedSeptember 30, 2005(In millions)As reported  net sales
        
        $
        615
        
        $
        1,880Pro forma  net sales
        
        
        615
        
        
        1,886As reported  net (loss)
        
        
        (2
        )
        
        (10
        )Pro forma  net (loss)
        
        
        (2
        )
        
        (9
        )




These unaudited pro forma results have been prepared for comparative purposes only and include certain adjustments, such as adjustments to depreciation and amortization expense as a result of adjustments in the basis of fixed assets and intangible assets, increased interest expense on acquisition debt and related tax effects. They do not purport to be indicative of the results of operations which actually would have resulted had the combination been in effect at the beginning of each period presented, or of future results of operations of the entities.

In March 2005, the Company executed a Purchase and Sale of Equity Interest and Joint Venture Termination Agreement under which the Company terminated the joint venture agreement with Industrias Innopack, S.A. de C.V. and acquired all of the equity interests held by Industrias Innopack, S.A. de C.V. in Graham Innopack de Mexico, S. de R.L. de C.V. (Graham Innopack) and the operating companies thereunder.  Closing of this transaction occurred on May 9, 2005, resulting in a payment by the Company of $13.9 million for the 49% interest in Graham Innopack that it did not previously own.



13



GRAHAM PACKAGING HOLDINGS COMPANY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)-Continued





11.
        Lease Commitments


The Company is party to various capital and operating leases involving real property and equipment. Total rent expense for operating leases amounted to $12.4 million and $40.1 million for the three and nine months ended September 30, 2006, respectively, and $11.3 million and $35.6 million for the three and nine months ended September 30, 2005, respectively.



12.
        Contingencies


The Company is party to various litigation matters arising in the ordinary course of business. The ultimate legal and financial liability of the Company with respect to such litigation cannot be estimated with certainty, but management believes, based on its examination of these matters, experience to date and discussions with counsel, that ultimate liability from the Companys various litigation matters will not be material to the business, financial condition, results of operations or cash flows of the Company.

On July 9, 2002, the Company and Graham Engineering Corporation (Graham Engineering), an affiliated company, executed a First Amendment to the equipment sales, services and license agreement (the Equipment Sales Agreement) to, among other things, (i) permit the Company to purchase certain extrusion blow molding wheel systems from a third party under certain circumstances if Graham Engineering is provided the opportunity to bid on supplying the same equipment; (ii) clarify that the Companys exclusivity rights under the Equipment Sales Agreement do not apply to certain new generations of Graham Engineering equipment; (iii) in the event of the sale of Graham Engineering to a competitor, provide the Company the option to require the transfer of the existing agreement or obtain a perpetual, royalty-free license to make and use wheel equipment and components; (iv)
provide Graham Engineering with the ability to terminate the Equipment Sales Agreement if an arbitrator determines that the Company has purchased certain high output extrusion blow molding equipment from another supplier in breach of the Equipment Sales Agreement; and (v) obligate the Company, retroactive to January 1, 2002, and subject to certain credits and carry-forwards, to make payments for products and services to Graham Engineering in the amount of at least $12.0 million per calendar year, or else pay to Graham Engineering a shortfall payment.  The Company does not expect to be required to make a shortfall payment relative to its purchases for 2006.

Subsequently, on January 13, 2004, the parties executed a Second Amendment to the Equipment Sales Agreement.  Such amendment removed restrictions originally placed upon the Company with respect to the Companys use of Graham Engineering technology to manufacture containers at blow molding plants co-located with dairies or dairy-focused facilities.

The Equipment Sales Agreement terminates on December 31, 2007, unless mutually extended by the parties.



13.
        Condensed Guarantor Data


On October 7, 2004, the Operating Company and CapCo I co-issued $250.0 million aggregate principal amount of 8.5% Senior Notes due 2012 and $375.0 million aggregate principal amount of 9.875% Senior Subordinated Notes due 2014. The notes were issued under Indentures issued on October 7, 2004. Holdings and the domestic subsidiaries of the Operating Company have fully and unconditionally guaranteed these notes. These guarantees are both joint and several. Both the Operating Company and CapCo I are 100%-owned subsidiaries of Holdings.

The following unaudited condensed consolidating financial statements present the financial position, results of operations and cash flows of Holdings, the Operating Company, guarantor domestic subsidiaries of the Operating Company, non-guarantor subsidiaries and CapCo I.



14



GRAHAM PACKAGING HOLDINGS COMPANY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)-Continued



GRAHAM PACKAGING HOLDINGS COMPANY

CONDENSED CONSOLIDATING BALANCE SHEET

AS OF SEPTEMBER 30, 2006

(In thousands)





GrahamPackagingHoldingsCompany
        
        GrahamPackagingCompany,L.P.
        
        Guarantors
        
        Non-Guarantors
        
        CapCo I
        
        Eliminations
        
        ConsolidatedASSETSCurrent assets:Cash and cash equivalents
        
        $
        
        
        $
        8,901
        
        $
        1
        
        $
        10,363
        
        $
        
        
        $
        
        
        $
        19,265Accounts receivable, net
        
        
        
        
        
        96,436
        
        
        111,500
        
        
        73,088
        
        
        
        
        
        
        
        
        281,024Inventories
        
        
        
        
        
        87,290
        
        
        109,203
        
        
        42,834
        
        
        
        
        
        
        
        
        239,327Deferred income taxes
        
        
        
        
        
        
        
        
        8,730
        
        
        3,556
        
        
        
        
        
        
        
        
        12,286Prepaid expenses and other current assets
        
        
        
        
        
        17,604
        
        
        9,389
        
        
        29,454
        
        
        
        
        
        
        
        
        56,447Total current assets
        
        
        
        
        
        210,231
        
        
        238,823
        
        
        159,295
        
        
        
        
        
        
        
        
        608,349Property, plant and equipment, net
        
        
        
        
        
        575,334
        
        
        584,290
        
        
        284,671
        
        
        
        
        
        
        
        
        1,444,295Intangible assets, net
        
        
        
        
        
        4,686
        
        
        68,538
        
        
        6,929
        
        
        
        
        
        
        
        
        80,153Goodwill
        
        
        
        
        
        9,315
        
        
        236,921
        
        
        70,752
        
        
        
        
        
        
        
        
        316,988Net intercompany
        
        
        
        
        
        1,167,525
        
        
        
        
        
        
        
        
        
        
        
        (1,167,525
        )
        
        Investment in subsidiaries
        
        
        
        
        
        387,119
        
        
        290,001
        
        
        
        
        
        
        
        
        (677,120
        )
        
        Other non-current assets
        
        
        
        
        
        67,207
        
        
        617
        
        
        4,129
        
        
        
        
        
        
        
        
        71,953Total assets
        
        $
        
        
        $
        2,421,417
        
        $
        1,419,190
        
        $
        525,776
        
        $
        
        
        $
        (1,844,645
        )
        $
        2,521,738LIABILITIES AND PARTNERS CAPITAL (DEFICIT)Current liabilities:Accounts payable
        
        $
        
        
        $
        82,386
        
        $
        78,787
        
        $
        47,090
        
        $
        
        
        $
        
        
        $
        208,263Accrued expenses
        
        
        
        
        
        114,636
        
        
        53,496
        
        
        54,180
        
        
        
        
        
        
        
        
        222,312Current portion of long-term debt
        
        
        
        
        
        24,297
        
        
        
        
        
        3,326
        
        
        
        
        
        
        
        
        27,623Total current liabilities
        
        
        
        
        
        221,319
        
        
        132,283
        
        
        104,596
        
        
        
        
        
        
        
        
        458,198Long-term debt
        
        
        
        
        
        2,521,168
        
        
        
        
        
        590
        
        
        
        
        
        
        
        
        2,521,758Deferred income taxes
        
        
        
        
        
        
        
        
        9,305
        
        
        12,307
        
        
        
        
        
        
        
        
        21,612Other non-current liabilities
        
        
        
        
        
        17,911
        
        
        16,526
        
        
        11,804
        
        
        
        
        
        
        
        
        46,241Investment in subsidiaries
        
        
        338,981
        
        
        
        
        
        
        
        
        
        
        
        
        
        
        (338,981
        )
        
        Net intercompany
        
        
        187,090
        
        
        
        
        
        927,530
        
        
        52,905
        
        
        
        
        
        (1,167,525
        )
        
        Commitments and contingent liabilities
        
        
        
        
        
        
        
        
        
        
        
        
        
        
        
        
        
        
        
        
        Partners capital (deficit)
        
        
        (526,071
        )
        
        (338,981
        )
        
        333,546
        
        
        343,574
        
        
        
        
        
        (338,139
        )
        
        (526,071
        )Total liabilities and partners capital (deficit)
        
        $
        
        
        $
        2,421,417
        
        $
        1,419,190
        
        $
        525,776
        
        $
        
        
        $
        (1,844,645
        )
        $
        2,521,738






15



GRAHAM PACKAGING HOLDINGS COMPANY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)-Continued



GRAHAM PACKAGING HOLDINGS COMPANY

CONDENSED CONSOLIDATING BALANCE SHEET

AS OF DECEMBER 31, 2005

(In thousands)





Graham Packaging HoldingsCompany
        
        Graham PackagingCompany,L.P.
        
        Guarantors
        
        Non-Guarantors
        
        CapCo I
        
        Eliminations
        
        ConsolidatedASSETSCurrent assets:Cash and cash equivalents
        
        $
        
        
        $
        11,307
        
        $
        1
        
        $
        15,376
        
        $
        
        
        $
        
        
        $
        26,684Accounts receivable, net
        
        
        
        
        
        79,454
        
        
        102,758
        
        
        69,145
        
        
        
        
        
        
        
        
        251,357Inventories
        
        
        
        
        
        93,205
        
        
        145,121
        
        
        49,484
        
        
        
        
        
        
        
        
        287,810Deferred income taxes
        
        
        
        
        
        
        
        
        8,730
        
        
        4,339
        
        
        
        
        
        
        
        
        13,069Prepaid expenses and other current assets
        
        
        
        
        
        17,928
        
        
        11,257
        
        
        21,812
        
        
        
        
        
        
        
        
        50,997Total current assets
        
        
        
        
        
        201,894
        
        
        267,867
        
        
        160,156
        
        
        
        
        
        
        
        
        629,917Property, plant and equipment, net
        
        
        
        
        
        562,817
        
        
        597,196
        
        
        283,447
        
        
        
        
        
        
        
        
        1,443,460Intangible assets, net
        
        
        
        
        
        4,331
        
        
        73,212
        
        
        4,090
        
        
        
        
        
        
        
        
        81,633Goodwill
        
        
        
        
        
        9,240
        
        
        236,921
        
        
        71,010
        
        
        
        
        
        
        
        
        317,171Net intercompany
        
        
        
        
        
        1,221,017
        
        
        
        
        
        
        
        
        
        
        
        (1,221,017
        )
        
        Investment in subsidiaries
        
        
        
        
        
        413,433
        
        
        296,544
        
        
        
        
        
        
        
        
        (709,977
        )
        
        Other non-current assets
        
        
        
        
        
        82,306
        
        
        897
        
        
        6,994
        
        
        
        
        
        
        
        
        90,197Total assets
        
        $
        
        
        $
        2,495,038
        
        $
        1,472,637
        
        $
        525,697
        
        $
        
        
        $
        (1,930,994
        )
        $
        2,562,378LIABILITIES AND PARTNERS CAPITAL (DEFICIT)Current liabilities:Accounts payable
        
        $
        
        
        $
        68,294
        
        $
        49,471
        
        $
        59,835
        
        $
        
        
        $
        
        
        $
        177,600Accrued expenses
        
        
        
        
        
        85,270
        
        
        45,876
        
        
        45,286
        
        
        
        
        
        
        
        
        176,432Current portion of long-term debt
        
        
        
        
        
        21,025
        
        
        
        
        
        6,834
        
        
        
        
        
        
        
        
        27,859Total current liabilities
        
        
        
        
        
        174,589
        
        
        95,347
        
        
        111,955
        
        
        
        
        
        
        
        
        381,891Long-term debt
        
        
        
        
        
        2,609,618
        
        
        
        
        
        863
        
        
        
        
        
        
        
        
        2,610,481Deferred income taxes
        
        
        
        
        
        
        
        
        11,031
        
        
        11,562
        
        
        
        
        
        
        
        
        22,593Other non-current liabilities
        
        
        
        
        
        17,451
        
        
        12,626
        
        
        11,046
        
        
        
        
        
        
        
        
        41,123Investment in subsidiaries
        
        
        306,620
        
        
        
        
        
        
        
        
        
        
        
        
        
        
        (306,620
        )
        
        Net intercompany
        
        
        187,090
        
        
        
        
        
        988,412
        
        
        45,515
        
        
        
        
        
        (1,221,017
        )
        
        Commitments and contingent liabilities
        
        
        
        
        
        
        
        
        
        
        
        
        
        
        
        
        
        
        
        
        Partners capital (deficit)
        
        
        (493,710
        )
        
        (306,620
        )
        
        365,221
        
        
        344,756
        
        
        
        
        
        (403,357
        )
        
        (493,710
        )Total liabilities and partners capital (deficit)
        
        $
        
        
        $
        2,495,038
        
        $
        1,472,637
        
        $
        525,697
        
        $
        
        
        $
        (1,930,994
        )
        $
        2,562,378








16



GRAHAM PACKAGING HOLDINGS COMPANY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)-Continued



GRAHAM PACKAGING HOLDINGS COMPANY

CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS

FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2006

(In thousands)





GrahamPackagingHoldingsCompany
        
        GrahamPackagingCompany,L.P.
        
        Guarantors
        
        Non-Guarantors
        
        CapCo I
        
        Eliminations
        
        ConsolidatedNet sales
        
        $
        
        
        $
        272,420
        
        $
        273,533
        
        $
        119,682
        
        $
        
        
        $
        (22,598
        )
        $
        643,037Cost of goods sold
        
        
        
        
        
        233,944
        
        
        255,029
        
        
        107,593
        
        
        
        
        
        (22,598
        )
        
        573,968Gross profit
        
        
        
        
        
        38,476
        
        
        18,504
        
        
        12,089
        
        
        
        
        
        
        
        
        69,069Selling, general and administrative expenses
        
        
        
        
        
        14,323
        
        
        8,949
        
        
        5,809
        
        
        
        
        
        
        
        
        29,081Operating income
        
        
        
        
        
        24,153
        
        
        9,555
        
        
        6,280
        
        
        
        
        
        
        
        
        39,988Interest expense, net
        
        
        
        
        
        26,721
        
        
        20,212
        
        
        1,353
        
        
        
        
        
        
        
        
        48,286Other expense (income), net
        
        
        
        
        
        22,528
        
        
        (91
        )
        
        181
        
        
        
        
        
        (22,573
        )
        
        45Equity in loss (earnings) of subsidiaries
        
        
        14,985
        
        
        (10,697
        )
        
        4,711
        
        
        
        
        
        
        
        
        (8,999
        )
        
        (Loss) income before income taxes
        
        
        (14,985
        )
        
        (14,399
        )
        
        (15,277
        )
        
        4,746
        
        
        
        
        
        31,572
        
        
        (8,343
        )Income tax provision (benefit)
        
        
        
        
        
        586
        
        
        (564
        )
        
        6,620
        
        
        
        
        
        
        
        
        6,642Net (loss) income
        
        $
        (14,985
        )
        $
        (14,985
        )
        $
        (14,713
        )
        $
        (1,874
        )
        $
        
        
        $
        31,572
        
        $
        (14,985
        )






17



GRAHAM PACKAGING HOLDINGS COMPANY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)-Continued



GRAHAM PACKAGING HOLDINGS COMPANY

CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS

FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2006

(In thousands)





GrahamPackagingHoldingsCompany
        
        GrahamPackagingCompany,L.P.
        
        Guarantors
        
        Non-Guarantors
        
        CapCo I
        
        Eliminations
        
        ConsolidatedNet sales
        
        $
        
        
        $
        827,523
        
        $
        829,764
        
        $
        347,460
        
        $
        
        
        $
        (63,421
        )
        $
        1,941,326Cost of goods sold
        
        
        
        
        
        703,262
        
        
        769,444
        
        
        311,066
        
        
        
        
        
        (63,421
        )
        
        1,720,351Gross profit
        
        
        
        
        
        124,261
        
        
        60,320
        
        
        36,394
        
        
        
        
        
        
        
        
        220,975Selling, general and administrative expenses
        
        
        
        
        
        39,280
        
        
        35,075
        
        
        19,037
        
        
        
        
        
        
        
        
        93,392Impairment charges
        
        
        
        
        
        1,112
        
        
        
        
        
        
        
        
        
        
        
        
        
        
        1,112Operating income
        
        
        
        
        
        83,869
        
        
        25,245
        
        
        17,357
        
        
        
        
        
        
        
        
        126,471Interest expense, net
        
        
        
        
        
        91,111
        
        
        57,539
        
        
        4,046
        
        
        
        
        
        
        
        
        152,696Other expense (income), net
        
        
        
        
        
        21,640
        
        
        (649
        )
        
        1,714
        
        
        
        
        
        (22,572
        )
        
        133Equity in loss of subsidiaries
        
        
        40,237
        
        
        9,266
        
        
        10,091
        
        
        
        
        
        
        
        
        (59,594
        )
        
        (Loss) income before income taxes
        
        
        (40,237
        )
        
        (38,148
        )
        
        (41,736
        )
        
        11,597
        
        
        
        
        
        82,166
        
        
        (26,358
        )Income tax provision (benefit)
        
        
        
        
        
        2,089
        
        
        (1,695
        )
        
        13,485
        
        
        
        
        
        
        
        
        13,879Net (loss) income
        
        $
        (40,237
        )
        $
        (40,237
        )
        $
        (40,041
        )
        $
        (1,888
        )
        $
        
        
        $
        82,166
        
        $
        (40,237
        )






18



GRAHAM PACKAGING HOLDINGS COMPANY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)-Continued



GRAHAM PACKAGING HOLDINGS COMPANY

CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS

FOR THE THREE MONTHS ENDED SEPTEMBER 30, 2005

(In thousands)





GrahamPackagingHoldingsCompany
        
        GrahamPackagingCompany,L.P.
        
        Guarantors
        
        Non-Guarantors
        
        CapCo I
        
        Eliminations
        
        ConsolidatedNet sales
        
        $
        
        
        $
        256,582
        
        $
        266,412
        
        $
        111,687
        
        $
        
        
        $
        (19,625
        )
        $
        615,056Cost of goods sold
        
        
        
        
        
        222,779
        
        
        239,427
        
        
        93,249
        
        
        
        
        
        (19,625
        )
        
        535,830Gross profit
        
        
        
        
        
        33,803
        
        
        26,985
        
        
        18,438
        
        
        
        
        
        
        
        
        79,226Selling, general and administrative expenses
        
        
        
        
        
        13,702
        
        
        8,440
        
        
        7,158
        
        
        
        
        
        
        
        
        29,300Impairment charges
        
        
        
        
        
        
        
        
        
        
        
        198
        
        
        
        
        
        
        
        
        198Operating income
        
        
        
        
        
        20,101
        
        
        18,545
        
        
        11,082
        
        
        
        
        
        
        
        
        49,728Interest expense, net
        
        
        
        
        
        29,527
        
        
        16,812
        
        
        1,055
        
        
        
        
        
        
        
        
        47,394Other (income) expense, net
        
        
        
        
        
        (477
        )
        
        36
        
        
        405
        
        
        
        
        
        
        
        
        (36
        )Equity in loss (earnings) of subsidiaries
        
        
        2,224
        
        
        (6,769
        )
        
        (3,430
        )
        
        
        
        
        
        
        
        7,975
        
        
        (Loss) income before income taxes
        
        
        (2,224
        )
        
        (2,180
        )
        
        5,127
        
        
        9,622
        
        
        
        
        
        (7,975
        )
        
        2,370Income tax provision
        
        
        
        
        
        44
        
        
        385
        
        
        4,165
        
        
        
        
        
        
        
        
        4,594Net (loss) income
        
        $
        (2,224
        )
        $
        (2,224
        )
        $
        4,742
        
        $
        5,457
        
        $
        
        
        $
        (7,975
        )
        $
        (2,224
        )






19



GRAHAM PACKAGING HOLDINGS COMPANY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)-Continued



GRAHAM PACKAGING HOLDINGS COMPANY

CONDENSED CONSOLIDATING STATEMENT OF OPERATIONS

FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2005

(In thousands)





GrahamPackagingHoldingsCompany
        
        GrahamPackagingCompany,L.P.
        
        Guarantors
        
        Non-Guarantors
        
        CapCo I
        
        Eliminations
        
        ConsolidatedNet sales
        
        $
        
        
        $
        754,769
        
        $
        831,438
        
        $
        346,481
        
        $
        
        
        $
        (52,362
        )
        $
        1,880,326Cost of goods sold
        
        
        
        
        
        658,471
        
        
        744,000
        
        
        294,216
        
        
        
        
        
        (52,362
        )
        
        1,644,325Gross profit
        
        
        
        
        
        96,298
        
        
        87,438
        
        
        52,265
        
        
        
        
        
        
        
        
        236,001Selling, general and administrative expenses
        
        
        1
        
        
        41,010
        
        
        35,727
        
        
        18,923
        
        
        
        
        
        
        
        
        95,661Impairment charges
        
        
        
        
        
        1,605
        
        
        
        
        
        197
        
        
        
        
        
        
        
        
        1,802Operating (loss) income
        
        
        (1
        )
        
        53,683
        
        
        51,711
        
        
        33,145
        
        
        
        
        
        
        
        
        138,538Interest expense, net
        
        
        
        
        
        83,111
        
        
        47,626
        
        
        2,887
        
        
        
        
        
        
        
        
        133,624Other (income) expense, net
        
        
        
        
        
        (2,384
        )
        
        (747
        )
        
        537
        
        
        
        
        
        3,024
        
        
        430Equity in loss (earnings) of subsidiaries
        
        
        9,612
        
        
        (17,887
        )
        
        (10,615
        )
        
        
        
        
        
        
        
        18,890
        
        
        (Loss) income before income taxes and minority interest
        
        
        (9,613
        )
        
        (9,157
        )
        
        15,447
        
        
        29,721
        
        
        
        
        
        (21,914
        )
        
        4,484Income tax provision
        
        
        
        
        
        455
        
        
        1,365
        
        
        11,549
        
        
        
        
        
        
        
        
        13,369Minority interest
        
        
        
        
        
        
        
        
        
        
        
        728
        
        
        
        
        
        
        
        
        728Net (loss) income
        
        $
        (9,613
        )
        $
        (9,612
        )
        $
        14,082
        
        $
        17,444
        
        $
        
        
        $
        (21,914
        )
        $
        (9,613
        )






20



GRAHAM PACKAGING HOLDINGS COMPANY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)-Continued



GRAHAM PACKAGING HOLDINGS COMPANY

CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS

FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2006

(In thousands)





GrahamPackagingHoldingsCompany
        
        GrahamPackagingCompany,L.P.
        
        Guarantors
        
        Non-Guarantors
        
        CapCo I
        
        Eliminations
        
        ConsolidatedOperating activities:Net cash provided by operating activities
        
        $
        
        
        $
        150,802
        
        $
        43,601
        
        $
        27,645
        
        $
        
        
        $
        
        
        $
        222,048Investing activities:Net cash paid for property, plant and equipment
        
        
        
        
        
        (68,212
        )
        
        (46,252
        )
        
        (19,356
        )
        
        
        
        
        
        
        
        (133,820
        )Acquisition of/investment in a business, net of cash acquired
        
        
        
        
        
        5,507
        
        
        2,651
        
        
        (9,584
        )
        
        
        
        
        
        
        
        (1,426
        )Net cash used in investing activities
        
        
        
        
        
        (62,705
        )
        
        (43,601
        )
        
        (28,940
        )
        
        
        
        
        
        
        
        (135,246
        )Financing activities:Proceeds from issuance of long-term debt
        
        
        
        
        
        588,770
        
        
        
        
        
        27,814
        
        
        
        
        
        
        
        
        616,584Payment of long-term debt
        
        
        
        
        
        (678,268
        )
        
        
        
        
        (31,940
        )
        
        
        
        
        
        
        
        (710,208
        )Debt issuance fees
        
        
        
        
        
        (1,005
        )
        
        
        
        
        
        
        
        
        
        
        
        
        
        (1,005
        )Net cash used in financing activities
        
        
        
        
        
        (90,503
        )
        
        
        
        
        (4,126
        )
        
        
        
        
        
        
        
        (94,629
        )Effect of exchange rate changes
        
        
        
        
        
        
        
        
        
        
        
        408
        
        
        
        
        
        
        
        
        408Decrease in cash and cash equivalents
        
        
        
        
        
        (2,406
        )
        
        
        
        
        (5,013
        )
        
        
        
        
        
        
        
        (7,419
        )Cash and cash equivalents at beginning of period
        
        
        
        
        
        11,307
        
        
        1
        
        
        15,376
        
        
        
        
        
        
        
        
        26,684Cash and cash equivalents at end of period
        
        $
        
        
        $
        8,901
        
        $
        1
        
        $
        10,363
        
        $
        
        
        $
        
        
        $
        19,265








21



GRAHAM PACKAGING HOLDINGS COMPANY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)-Continued



GRAHAM PACKAGING HOLDINGS COMPANY

CONDENSED CONSOLIDATING STATEMENT OF CASH FLOWS

FOR THE NINE MONTHS ENDED SEPTEMBER 30, 2005

(In thousands)





GrahamPackagingHoldingsCompany
        
        GrahamPackagingCompany,L.P.
        
        Guarantors
        
        Non-Guarantors
        
        CapCo I
        
        Eliminations
        
        ConsolidatedOperating activities:Net cash provided by operating activities
        
        $
        
        
        $
        37,589
        
        $
        74,769
        
        $
        32,715
        
        $
        
        
        $
        
        
        $
        145,073Investing activities:Net cash paid for property, plant and equipment
        
        
        
        
        
        (95,853
        )
        
        (74,346
        )
        
        (34,624
        )
        
        
        
        
        
        
        
        (204,823
        )Acquisitions of/investments in businesses, net of cash acquired
        
        
        
        
        
        (13,327
        )
        
        (422
        )
        
        (4,571
        )
        
        
        
        
        
        
        
        (18,320
        )Net cash used in investing activities
        
        
        
        
        
        (109,180
        )
        
        (74,768
        )
        
        (39,195
        )
        
        
        
        
        
        
        
        (223,143
        )Financing activities:Proceeds from issuance of long-term debt
        
        
        
        
        
        732,299
        
        
        
        
        
        35,964
        
        
        
        
        
        
        
        
        768,263Payment of long-term debt
        
        
        
        
        
        (658,117
        )
        
        
        
        
        (36,716
        )
        
        
        
        
        
        
        
        (694,833
        )Debt issuance fees
        
        
        
        
        
        (1,187
        )
        
        
        
        
        
        
        
        
        
        
        
        
        
        (1,187
        )Net cash provided by  (used in) financing activities
        
        
        
        
        
        72,995
        
        
        
        
        
        (752
        )
        
        
        
        
        
        
        
        72,243Effect of exchange rate changes
        
        
        
        
        
        
        
        
        
        
        
        (1,727
        )
        
        
        
        
        
        
        
        (1,727
        )Increase (decrease) in cash and cash equivalents
        
        
        
        
        
        1,404
        
        
        1
        
        
        (8,959
        )
        
        
        
        
        
        
        
        (7,554
        )Cash and cash equivalents at beginning of period
        
        
        
        
        
        1,080
        
        
        
        
        
        21,051
        
        
        
        
        
        
        
        
        22,131Cash and cash equivalents at end of period
        
        $
        
        
        $
        2,484
        
        $
        1
        
        $
        12,092
        
        $
        
        
        $
        
        
        $
        14,577










22



GRAHAM PACKAGING HOLDINGS COMPANY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)-Continued



14.
        Comprehensive Income (Loss)


Comprehensive income (loss) for the three and nine months ended September 30, 2006 and 2005 was as follows:



Three Months Ended
        
        Nine Months EndedSeptember 30,
        
        September 30,2006
        
        2005
        
        2006
        
        2005(In thousands)Net loss
        
        $
        (14,985
        )
        $
        (2,224
        )
        $
        (40,237
        )
        $
        (9,613
        )Changes in fair value of derivatives
        
        
        (8,454
        )
        
        7,584
        
        
        (3,041
        )
        
        9,204Additional minimum pension liability
        
        
        1
        
        
        (59
        )
        
        (73
        )
        
        (44
        )Cumulative translation adjustments
        
        
        4,703
        
        
        1,238
        
        
        10,988
        
        
        (16,171
        )Comprehensive income (loss)
        
        $
        (18,735
        )
        $
        6,539
        
        $
        (32,363
        )
        $
        (16,624
        )






23



GRAHAM PACKAGING HOLDINGS COMPANY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)-Continued





15.
        Segment Information


The Company is organized and managed on a geographical basis in three operating segments:  North America, Europe and South America. Segment information for the three and nine months ended September 30, 2006 and 2005, representing the reportable segments currently utilized by the chief operating decision maker, was as follows:



NorthAmerica
        
        Europe
        
        SouthAmerica
        
        Eliminations
        
        Total(a)(In  thousands)Net sales (b) (c)
        
        Three  months ended September 30, 2006
        
        $
        566,660
        
        $
        59,308
        
        $
        17,181
        
        $
        (112
        )
        $
        643,037Three  months ended September 30, 2005
        
        
        542,452
        
        
        55,109
        
        
        17,495
        
        
        
        
        
        615,056Nine  months ended September 30, 2006
        
        
        1,718,985
        
        
        176,262
        
        
        46,304
        
        
        (225
        )
        
        1,941,326Nine  months ended September 30, 2005
        
        
        1,646,544
        
        
        185,530
        
        
        48,256
        
        
        (4
        )
        
        1,880,326Operating income
        
        Three  months ended September 30, 2006
        
        
        35,996
        
        
        2,682
        
        
        1,310
        
        
        
        
        
        39,988Three  months ended September 30, 2005
        
        
        40,289
        
        
        7,100
        
        
        2,339
        
        
        
        
        
        49,728Nine  months ended September 30, 2006
        
        
        111,485
        
        
        12,025
        
        
        2,961
        
        
        
        
        
        126,471Nine  months ended September 30, 2005
        
        
        114,868
        
        
        17,651
        
        
        6,019
        
        
        
        
        
        138,538Depreciation and
        
        Three  months ended September 30, 2006
        
        
        47,959
        
        
        4,951
        
        
        1,248
        
        
        
        
        
        54,158amortization (d)
        
        Three  months ended September 30, 2005
        
        
        37,422
        
        
        4,261
        
        
        1,127
        
        
        
        
        
        42,810Nine  months ended September 30, 2006
        
        
        143,698
        
        
        15,041
        
        
        3,432
        
        
        
        
        
        162,171Nine  months ended September 30, 2005
        
        
        137,514
        
        
        14,120
        
        
        2,813
        
        
        
        
        
        154,447Impairment charges
        
        Three  months ended September 30, 2006
        
        
        
        
        
        
        
        
        
        
        
        
        
        
        Three  months ended September 30, 2005
        
        
        
        
        
        198
        
        
        
        
        
        
        
        
        198Nine  months ended September 30, 2006
        
        
        1,112
        
        
        
        
        
        
        
        
        
        
        
        1,112Nine months  ended September 30, 2005
        
        
        1,605
        
        
        197
        
        
        
        
        
        
        
        
        1,802Interest expense, net (d)
        
        Three  months ended September 30, 2006
        
        
        47,293
        
        
        751
        
        
        242
        
        
        
        
        
        48,286Three  months ended September 30, 2005
        
        
        46,554
        
        
        598
        
        
        242
        
        
        
        
        
        47,394Nine  months ended September 30, 2006
        
        
        149,778
        
        
        2,267
        
        
        651
        
        
        
        
        
        152,696Nine  months ended September 30, 2005
        
        
        131,369
        
        
        1,490
        
        
        765
        
        
        
        
        
        133,624Other expense (income),
        
        Three  months ended September 30, 2006
        
        
        22,368
        
        
        128
        
        
        122
        
        
        (22,573
        )
        
        45net (e)
        
        Three  months ended September 30, 2005
        
        
        (376
        )
        
        (28
        )
        
        368
        
        
        
        
        
        (36
        )Nine  months ended September 30, 2006
        
        
        21,834
        
        
        503
        
        
        369
        
        
        (22,573
        )
        
        133Nine  months ended September 30, 2005
        
        
        (3,114
        )
        
        (432
        )
        
        950
        
        
        3,026
        
        
        430Income tax provision
        
        Three  months ended September 30, 2006
        
        
        5,008
        
        
        1,130
        
        
        504
        
        
        
        
        
        6,642Three  months ended September 30, 2005
        
        
        1,212
        
        
        2,995
        
        
        387
        
        
        
        
        
        4,594Nine  months ended September 30, 2006
        
        
        7,744
        
        
        5,116
        
        
        1,019
        
        
        
        
        
        13,879Nine months  ended September 30, 2005
        
        
        5,405
        
        
        6,835
        
        
        1,129
        
        
        
        
        
        13,369Identifiable assets (b)(c)
        
        As of  September 30, 2006
        
        
        2,540,078
        
        
        323,667
        
        
        73,516
        
        
        (415,523
        )
        
        2,521,738As of  December 31, 2005
        
        
        2,638,141
        
        
        298,318
        
        
        68,131
        
        
        (442,212
        )
        
        2,562,378Goodwill
        
        As of  September 30, 2006
        
        
        286,983
        
        
        18,209
        
        
        11,796
        
        
        
        
        
        316,988As of  December 31, 2005
        
        
        288,158
        
        
        17,278
        
        
        11,735
        
        
        
        
        
        317,171Net cash paid for property,
        
        Nine  months ended September 30, 2006
        
        
        117,510
        
        
        11,896
        
        
        4,418
        
        
        (4
        )
        
        133,820plant and equipment,  excluding acquisitions
        
        Nine  months ended September 30, 2005
        
        
        180,364
        
        
        19,577
        
        
        4,884
        
        
        (2
        )
        
        204,823






24



GRAHAM PACKAGING HOLDINGS COMPANY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)-Continued





(a)
        To eliminate intercompany balances, which include investments in the operating segments and inter-segment receivables and payables.(b)
        The Companys net sales for Europe include sales in France which totaled approximately $13.0 million and $13.3 million for the three months ended September 30, 2006 and 2005, respectively, and $39.1 million and $49.7 million for the nine months ended September 30, 2006 and 2005, respectively.  Identifiable assets in France totaled approximately $126.9 million and $114.1 million as of September 30, 2006 and December 31, 2005, respectively.(c)
        The Companys net sales for North America include sales in Mexico which totaled approximately $38.3 million and $34.9 million for the three months ended September 30, 2006 and 2005, respectively, and $108.2 million and $99.1 million for the nine months ended September 30, 2006 and 2005, respectively.  Identifiable assets in Mexico totaled approximately $147.6 million and $165.5 million as of September 30, 2006 and December 31, 2005, respectively. Approximately all of the North America reportable segments remaining net sales and identifiable assets are in the United States.(d)
        Includes amortization of debt issuance fees.(e)
        The three and nine months ended September 30, 2006 include the liquidation of the Companys German subsidiary.




Product Net Sales Information

The following is supplemental information on net sales by product category:



Three Months Ended
        
        Nine Months EndedSeptember 30,
        
        September 30,2006
        
        2005
        
        2006
        
        2005(In thousands)Food and Beverage
        
        $
        381,927
        
        $
        353,882
        
        $
        1,148,795
        
        $
        1,095,982Household
        
        
        129,922
        
        
        131,255
        
        
        386,421
        
        
        376,368Automotive Lubricants
        
        
        71,988
        
        
        65,102
        
        
        219,509
        
        
        206,148Personal Care/Specialty
        
        
        59,200
        
        
        64,817
        
        
        186,601
        
        
        201,828Total Net Sales
        
        $
        643,037
        
        $
        615,056
        
        $
        1,941,326
        
        $
        1,880,326




Note: Based upon a broader product offering and consolidation of production facilities resulting from the acquisition of O-I Plastic, the Company has reviewed and changed its traditional methodology for compiling product category data.  Reclassifications have been made to the 2005 product category data to conform to the 2006 presentation.



16.
        Pension Plans


The components of net periodic pension cost for the Companys U.S. defined benefit pension plans consisted of the following:



Three Months Ended
        
        Nine Months EndedSeptember 30,
        
        September 30,2006
        
        2005
        
        2006
        
        2005(In thousands)Components of net periodic pension cost:Service cost
        
        $
        2,597
        
        $
        2,527
        
        $
        7,790
        
        $
        7,581Interest cost
        
        
        1,061
        
        
        891
        
        
        3,184
        
        
        2,672Expected return on plan assets
        
        
        (994
        )
        
        (852
        )
        
        (2,983
        )
        
        (2,557
        )Net amortization and deferral
        
        
        285
        
        
        246
        
        
        855
        
        
        739Net periodic pension cost
        
        $
        2,949
        
        $
        2,812
        
        $
        8,846
        
        $
        8,435






25



GRAHAM PACKAGING HOLDINGS COMPANY

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)-Continued





The increase in net periodic pension cost in the first nine months of 2006 was primarily attributable to higher interest costs in 2006 as a result of a reduction in the discount rate, partially offset by higher expected returns on plan assets as a result of increased pension contributions in 2005.

The Company previously disclosed in its financial statements for the year ended December 31, 2005 that it expected to contribute $9.8 million to its pension plans in 2006. As of September 30, 2006, $9.9 million of contributions to its pension plans has been made, and the Company estimates additional contributions of $0.8 million to be made by December 31, 2006.

The Company recognized $0.8 million of expense for its 401(k) plans in the third quarter of 2006 and 2005, and $2.5 million in the first nine months of 2006 and 2005.



17.
        Subsequent Events


On October 31, 2006, the Company announced certain planned changes to its largest defined benefit pension plan, which covers substantially all salaried and non-union hourly employees in the United States.  Effective January 1, 2007, the Company intends to discontinue additional future benefit credits under the defined benefit pension plan and intends to increase the level of Company contributions to the 401(K) plans for the affected employees.

On November 3, 2006, the Company filed a complaint with the Supreme Court of the State of New York against Owen-Illinois, Inc. and OI Plastic Products FTS, Inc. (collectively, OI).  The complaint alleges certain misrepresentations by OI in connection with the Companys 2004 purchase of O-I Plastic and seeks damages in excess of $30 million.







26



Item 2. Managements Discussion and Analysis of Financial Condition and Results of Operations



CAUTIONARY STATEMENT REGARDING FORWARD-LOOKING STATEMENTS

All statements other than statements of historical facts included in this Report on Form 10-Q, including statements regarding the future financial position, economic performance and results of operations of the Company, as well as the Companys business strategy, budgets and projected costs and plans and objectives of management for future operations, and the information referred to under Quantitative and Qualitative Disclosures About Market Risk (Part I, Item 3), are forward-looking statements. In addition, forward-looking statements generally can be identified by the use of forward-looking terminology such as may, expect, intend, estimate, anticipate, believe, or continue or similar terminology. These forward-looking statements are not historical facts, and are based on current
expectations, estimates and projections about the Companys industry, managements beliefs and certain assumptions made by management, many of which, by their nature, are inherently uncertain and beyond the Companys control.  Accordingly, readers are cautioned that any such forward-looking statements are not guarantees of future performance and are subject to certain risks, uncertainties and assumptions that are difficult to predict.  Although the Company believes that the expectations reflected in such forward-looking statements are reasonable as of the date made, expectations may prove to have been materially different from the results expressed or implied by such forward-looking statements.  Unless otherwise required by law, the Company also disclaims any obligation to update its view of any such risks or uncertainties or to announce publicly the result of any revisions to the forward-looking statements made in this report.  Readers should carefully review the risks
and uncertainties under Risk Factors(Part I, Item 1A) in the Annual Report on Form 10-K of Graham Packaging Holdings Company (Holdings) for the fiscal year ended December 31, 2005. All forward-looking statements attributable to the Company, or persons acting on its behalf, are expressly qualified in their entirety by the cautionary statements set forth in this paragraph.



Overview

Management believes the Company is a worldwide leader in the design, manufacture and sale of customized blow molded plastic containers for the branded food and beverage, household, personal care/specialty and automotive lubricants product categories and, as of the end of September 2006, operated 85 manufacturing facilities throughout North America, Europe and South America. The Companys primary strategy is to operate in select markets that will position it to benefit from the growing conversion to value-added plastic packaging from more commodity packaging.

Management believes that critical success factors to the Companys business are its ability to:




        develop its own proprietary technologies that provide a meaningful competitive advantage in the marketplace;
        maintain relationships with and serve the complex packaging demands of its customers which include some of the worlds largest branded consumer products companies;
        forecast trends in the packaging industry across product lines and geographic territories (including those specific to the rapid conversion of packaging products from glass, metal and paper to plastic); and
        make investments in plant and technology necessary to satisfy the three factors mentioned above.






27



Management believes that the area with the greatest opportunity for growth continues to be in producing containers for the food and beverage product category because of the continued conversion to plastic packaging, including the demand for containers for juices, juice drinks, nutritional beverages, sports drinks, teas, yogurt drinks, snacks, beer and other food products. Since much of the growth in this area has been in the sale of smaller sized containers, over the past few years, the Company has experienced an overall mix shift toward smaller containers. Based on research prepared by Packaging Strategies and internal estimates, management believes the Company has become a leader in the value-added segment for hot-fill PET juice containers.  Management also believes the Company has recently become a leading participant in the rapidly growing market of yogurt drinks and nutritional
beverages where the Company manufactures containers using polyolefin resins. From the beginning of 2003 through September 30, 2006, the Company has invested over $1,085.0 million in capital expenditures, which includes approximately $658.0 million of purchase price allocations related to the acquisition of the blow molded plastic container business of Owens-Illinois, Inc. (O-I Plastic), in the food and beverage product category. For the last twelve months ended September 30, 2006, the Companys sales of containers for the food and beverage product category grew to $1,475.3 million from $573.0 million in 2003.

The Companys household container product category is a product category whose growth in prior years was fueled by conversions from powders to liquids for such products as detergents, household cleaners and automatic dishwashing detergent. Powdered products are typically packaged in paper based containers such as fiber wound cans and paperboard cartons. The growth of this product category now tends to follow gross domestic product (GDP) growth as liquids have gained a predominant share of these products. The Companys strongest position is in fabric care, where management believes the Company is a leader in plastic container design and manufacture. It should be noted the fabric care industry is now offering some brands in a concentrated formula which could affect the growth in this product category.  The Company has continually upgraded its machinery, principally in the
United States, to new, larger, more productive blow molders in order to standardize production lines, improve flexibility and reduce manufacturing costs.

The Companys North American one quart motor oil container product category is in a mature industry. Unit volume in the one quart motor oil industry decreased approximately 7% in 2005 as compared to 2004.  Prior to 2003 annual volumes declined an average of approximately 1% to 2%. Management believes that the future rate of decline of the domestic one quart motor oil container product category will be at a higher rate than the historical rate as the product category continues to migrate towards the quick-lube market and larger multi-quart packages.  The expected rate of decline in one quart motor oil containers is anticipated to be 8% to 10% per year over the next few years.

The Companys personal care/specialty product category is a product category that grows, in general, with GDP and is driven by new product launch and relaunch cycles.  Based on the volume of its sales to many major suppliers of personal care/specialty products, management believes the Company is among the leading suppliers in this product category which includes products for the hair care, skin care, oral care and specialty markets. Management believes that the Companys leading supply position results from its commitment to and reputation in new product development and flexible manufacturing processes and operations.

As of  September 30, 2006, the Company operated 29 manufacturing facilities outside of the United States in Argentina, Belgium, Brazil, Canada, Ecuador, England, Finland, France, Hungary, Mexico, the Netherlands, Poland, Spain, Turkey and Venezuela. Over the past few years, the Company has expanded its international operations with the addition of new plants in France, Belgium, Spain, Poland, Mexico and Argentina, as well as the acquisition of O-I Plastic, which included plants in Ecuador, England, Finland, Mexico, the Netherlands and Venezuela, and the acquisition of certain Tetra-Pak operations on March 24, 2005, which included plants in Brazil, Belgium and Turkey.

For the nine months ended September 30, 2006, 73.1% of the Companys net sales were generated by the top twenty customers.  The majority of the top twenty customers were under long-term contracts with terms up to ten years, while the balance of the top twenty customers represent customers with whom the Company has been doing business for over 20 years on average. Prices under these arrangements are typically tied to market standards and, therefore, vary with market conditions. In general, the contracts are requirements contracts that do not obligate the customer to purchase any given amount of product from the Company. The Company had sales to one customer, PepsiCo, which exceeded 10% of total sales for the nine months ended September 30, 2006 and 2005. The



28



Companys sales to PepsiCo were 18.0% and 19.3% of total sales for the nine months ended September 30, 2006 and 2005, respectively. For the nine months ended September 30, 2006 and 2005, approximately 100% and 98%, respectively, of the sales to PepsiCo were made in North America.

The largest component of the Companys cost of goods sold is resin costs.  Based on industry data, the following table summarizes average market prices per pound of polyethylene terephthalate (PET) and high-density polyethylene (HDPE) resins in the United States during the three and nine months ended September 2006 and 2005:



Three Months Ended
        
        Nine Months EndedSeptember
        
        September2006
        
        2005
        
        2006
        
        2005PET
        
        $
        0.80
        
        $
        0.77
        
        $
        0.75
        
        $
        0.76HDPE
        
        $
        0.73
        
        $
        0.59
        
        $
        0.71
        
        $
        0.60




Changes in the cost of resin are passed through to customers by means of corresponding changes in product pricing in accordance with the Companys agreements with its customers and industry practice.  As resin prices can fluctuate significantly, the Company believes that its gross profit, as well as certain expense items, should not be analyzed solely on a percentage of net sales basis.  A sustained increase in resin prices, to the extent that those costs are not passed on to the end-consumer, would make plastic containers less economical for the Companys customers and could result in a slower pace of conversions to plastic containers.

Holdings and Graham Packaging Company, L.P., Holdings wholly-owned subsidiary (the Operating Company), as limited partnerships, do not pay U.S. federal income taxes under the provisions of the Internal Revenue Code, as the applicable income or loss is included in the tax returns of the partners. However, certain U.S. subsidiaries acquired as part of O-I Plastic are corporations and are subject to U.S. federal and state income taxes. The Companys foreign operations are subject to tax in their local jurisdictions. Deferred income tax assets and liabilities are recognized for the future tax consequences attributable to temporary differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases and are measured using enacted tax rates expected to apply to taxable income in the years in which the temporary
differences are expected to reverse.



Results of Operations

The following tables set forth the major components of the Companys net sales and such net sales expressed as a percentage of total net sales:



Three Months Ended
        
        Nine Months EndedSeptember 30,
        
        September 30,2006
        
        2005
        
        2006
        
        2005(Dollars in millions)North America
        
        $
        566.5
        
        88.1
        %
        $
        542.5
        
        88.2
        %
        $
        1,718.8
        
        88.5
        %
        $
        1,646.5
        
        87.6
        %Europe
        
        
        59.3
        
        9.2
        
        
        55.1
        
        9.0
        
        
        176.2
        
        9.1
        
        
        185.5
        
        9.8South America
        
        
        17.2
        
        2.7
        
        
        17.5
        
        2.8
        
        
        46.3
        
        2.4
        
        
        48.3
        
        2.6Total Net Sales
        
        $
        643.0
        
        100.0
        %
        $
        615.1
        
        100.0
        %
        $
        1,941.3
        
        100.0
        %
        $
        1,880.3
        
        100.0
        %






29





Three Months Ended
        
        Nine Months EndedSeptember 30,
        
        September 30,2006
        
        2005
        
        2006
        
        2005(Dollars in millions)Food and Beverage
        
        $
        381.9
        
        59.4
        %
        $
        353.9
        
        57.5
        %
        $
        1,148.8
        
        59.2
        %
        $
        1,096.0
        
        58.3
        %Household
        
        
        129.9
        
        20.2
        
        
        131.3
        
        21.3
        
        
        386.4
        
        19.9
        
        
        376.4
        
        20.0Automotive Lubricants
        
        
        72.0
        
        11.2
        
        
        65.1
        
        10.6
        
        
        219.5
        
        11.3
        
        
        206.1
        
        11.0Personal Care/Specialty
        
        
        59.2
        
        9.2
        
        
        64.8
        
        10.6
        
        
        186.6
        
        9.6
        
        
        201.8
        
        10.7Total Net Sales
        
        $
        643.0
        
        100.0
        %
        $
        615.1
        
        100.0
        %
        $
        1,941.3
        
        100.0
        %
        $
        1,880.3
        
        100.0
        %




Note: Based upon a broader product offering and consolidation of production facilities resulting from the acquisition of O-I Plastic, the Company has reviewed and changed its traditional methodology for compiling product category data.  Reclassifications have been made to the 2005 product category data to conform to the 2006 presentation.



Three Months Ended September 30, 2006 Compared to Three Months Ended September 30, 2005

Net Sales.Net sales for the three months ended September 30, 2006 increased $27.9 million, or 4.5%, to $643.0 million from $615.1 million for the three months ended September 30, 2005. The increase in sales was primarily due to an increase in resin pricing and volume, net of changes in mix and price erosion. Container units sold increased 2.6%. On a geographic basis, sales for the three months ended September 30, 2006 in North America increased $24.0 million, or 4.4%, from the three months ended September 30, 2005, primarily due to an increase in resin pricing, net of changes in mix and price erosion. North America sales in the food and beverage, household and automotive lubricants product categories contributed $23.8 million, $1.1 million and $7.6 million, respectively, to the increase, while the personal care/specialty product category decreased $8.5 million.
Container units sold in North America increased in the food and beverage product category by 4.8% and decreased in the household, automotive lubricants and personal care/specialty product categories by 3.8%, 6.1%, and 16.4%, respectively. Sales for the three months ended September 30, 2006 in Europe increased $4.2 million, or 7.6% from the three months ended September 30, 2005. The increase in sales was primarily due to favorable exchange rate changes of $2.5 million and higher container units sold of 8.8% compared to the same period last year.  Sales for the three months ended September 30, 2006 in South America decreased $0.3 million, or 1.7%, from the three months ended September 30, 2005. The decrease in sales was primarily due to price erosion and an overall mix shift to smaller containers, partially offset by favorable exchanges rate changes of $0.7 million.

Gross Profit.Gross profit for the three months ended September 30, 2006 decreased $10.1 million to $69.1 million from $79.2 million for the three months ended September 30, 2005. Gross profit for the three months ended September 30, 2006 decreased in North America, Europe and South America by $3.7 million, $5.4 million and $1.0 million, respectively, when compared to the three months ended September 30, 2005.  The decrease in gross profit was primarily due to a reduction to depreciation expense in 2005 related to finalizing the fixed asset valuation for O-I Plastic of $11.5 million, a net increase in project costs of $1.6 million and a net decrease in gross profit related to ongoing business of $3.4 million, partially offset by a decrease in non-recurring charges of $2.7 million, a favorable impact from changes in foreign currency exchange rates of $0.5 million
and a net decrease in the loss on disposal of fixed assets of $3.2 million.  The decrease in gross profit related to ongoing business was primarily due to price erosion and increased inflationary pressures which are expected to increase operating costs in the foreseeable future, partially offset by operational improvements and volume.  The non-recurring charges included expenses incurred in 2006 and 2005 related to the integration of O-I Plastic and restructuring and other non-recurring expenses.

Selling, General & Administrative Expenses.Selling, general and administrative expenses for the three months ended September 30, 2006 decreased $0.2 million to $29.1 million from $29.3 million for the three months ended September 30, 2005. The decrease was primarily due to a decrease in non-recurring charges, partially offset by an increase in compensation-related expenses. The non-recurring charges were $1.1 million and $3.0 million for the three months ended September 30, 2006 and 2005, respectively, comprised of expenses relating to the



30



integration of O-I plastic, global reorganization costs and other costs.  Selling, general and administrative expenses as a percent of sales decreased to 4.5% of sales for the three months ended September 30, 2006 from 4.8% of sales for the three months ended September 30, 2005.

Impairment Charges.There were no impairment charges for the three months ended September 30, 2006 as compared to $0.2 million for the three months ended September 30, 2005.  In 2005, due to a change in the ability to utilize certain assets in Turkey, the Company evaluated the recoverability of these assets.  For these assets to be held and used, the Company determined that the undiscounted cash flows were below the carrying value of these long-lived assets.  Accordingly, the Company adjusted the carrying value of these long-lived assets to their estimated fair value in accordance with Statement of Financial Accounting Standards (SFAS) 144, Accounting for the Impairment or Disposal of Long-Lived Assets, resulting in impairment charges of $0.2 million for the three months ended September 30, 2005.

Interest Expense, Net. Interest expense, net increased $0.9 million to $48.3 million for the three months ended September 30, 2006 from $47.4 million for the three months ended September 30, 2005.  The increase was primarily related to an increase in interest rates (average 90-day LIBOR increased from 3.77% for the three months ended September 30, 2005 to 5.43% for the three months ended September 30, 2006).

Income Tax Provision.Income tax provision increased $2.0 million to $6.6 million for the three months ended September 30, 2006 from $4.6 million for the three months ended September 30, 2005.  The increase was primarily related to the establishment of a valuation allowance on a portion of the tax benefit due to taxable losses and tax credits in North America, partially offset by decreased earnings in North America and Europe.

Net Loss.Primarily as a result of the factors discussed above, net loss was $15.0 million for the three months ended September 30, 2006 compared to net loss of $2.2 million for the three months ended September 30, 2005.



Nine Months Ended September 30, 2006 Compared to Nine Months Ended September 30, 2005

Net Sales.Net sales for the nine months ended September 30, 2006 increased $61.0 million, or 3.2%, to $1,941.3 million from $1,880.3 million for the nine months ended September 30, 2005. The increase in sales was primarily due to an increase in resin pricing and volume, net of changes in mix and price erosion. Container units sold increased 4.2%. On a geographic basis, sales for the nine months ended September 30, 2006 in North America increased $72.3 million, or 4.4%, from the nine months ended September 30, 2005, primarily due to an increase in resin pricing and higher container units sold of 3.8%, net of changes in mix and price erosion.  North American sales in the food and beverage, household and automotive lubricants product categories contributed $57.4 million, $22.5 million and $15.5 million, respectively, to the increase, while the personal
care/specialty product category decreased $23.1 million.  Container units sold in North America increased in the food and beverage and household product categories by 8.7% and 8.4%, respectively, and decreased in the automotive lubricants and personal care/specialty product categories by 6.5% and 14.7%, respectively. Sales for the nine months ended September 30, 2006 in Europe decreased $9.3 million, or 5.0%, from the nine months ended September 30, 2005.  The decrease in sales was primarily due to unfavorable exchange rate changes of $1.3 million and an overall mix shift to smaller containers.  Container units sold in Europe increased 3.9% compared to the same period last year.  Sales for the nine months ended September 30, 2006 in South America decreased $2.0 million, or 4.1%, from the nine months ended September 30, 2005.  The decrease in sales was primarily due to an overall mix shift to smaller containers, partially offset by favorable exchange rate changes of $3.1 million.

Gross Profit.Gross profit for the nine months ended September 30, 2006 decreased $15.0 million to $221.0 million from $236.0 million for the nine months ended September 30, 2005. Gross profit for the nine months ended September 30, 2006 decreased $5.6 million, $6.8 million and $2.6 million in North America, Europe and South America, respectively, when compared to the nine months ended September 30, 2005. The positive impact on gross profit of added volume was offset by a loss of approximately $5.5 million due to the inability to recover all raw material costs related to extraordinary efforts during the Rita/Katrina hurricane events during the latter half of 2005 to procure PET raw materials and build unusually high inventory levels to make certain the Company met its customers requirements in the short term and build for the peak isotonic beverage demand in
the long term.  Gross



31



profit was also negatively impacted by a net increase of $0.6 million in non-recurring charges and a decrease in gross profit related to ongoing business of $10.1 million, partially offset by a net decrease in project costs of $1.2 million.  The decrease in gross profit related to ongoing business was primarily due to price erosion and increased inflationary pressures which are expected to increase operating costs in the foreseeable future, partially offset by operational improvements and volume.  The non-recurring charges included expenses incurred in 2006 and 2005 related to the integration of O-I Plastic and restructuring and other non-recurring expenses; additional expenses, primarily associated with ensuring an adequate supply of resin, were incurred in 2006 related to the hurricanes in the United States in the second half of 2005.

Selling, General & Administrative Expenses.Selling, general and administrative expenses for the nine months ended September 30, 2006 decreased $2.3 million to $93.4 million from $95.7 million for the nine months ended September 30, 2005. The decrease was primarily due to a decrease in non-recurring charges, partially offset by increases in professional fees, recruitment expenses and depreciation expenses.  The non-recurring charges were $8.0 million and $14.8 million for the nine months ended September 30, 2006 and 2005, respectively, comprised of expenses relating to aborted acquisitions, the integration of O-I Plastic, global reorganization costs and other costs.  Selling, general and administrative expenses as a percent of sales decreased to 4.8% of sales for the nine months ended September 30, 2006 from 5.1% of sales for the nine months ended September 30, 2005.

Impairment Charges.Impairment charges for the nine months ended September 30, 2006 were $1.1 million as compared to $1.8 million for the nine months ended September 30, 2005.  Due to changes in the ability to utilize certain assets in the United States in 2006 and the United States and Turkey in 2005, the Company evaluated the recoverability of these assets.  For these assets to be held and used, the Company determined that the undiscounted cash flows were below the carrying value of these long-lived assets.  Accordingly, the Company adjusted the carrying value of these long-lived assets to their estimated fair value in accordance with SFAS 144, Accounting for the Impairment or Disposal of Long-Lived Assets, resulting in impairment charges of $1.1 million and $1.8 million for the nine months ended September 30, 2006 and 2005, respectively.

Interest Expense, Net. Interest expense, net increased $19.1 million to $152.7 million for the nine months ended September 30, 2006 from $133.6 million for the nine months ended September 30, 2005.  The increase was primarily related to an increase in interest rates (average 90-day LIBOR increased from 3.30% for the first nine months of 2005 to 5.14% for the first nine months of 2006).

Income Tax Provision.Income tax provision increased $0.5 million to $13.9 million for the nine months ended September 30, 2006 from $13.4 million for the nine months ended September 30, 2005.  The increase was primarily related to the establishment of a valuation allowance on a portion of the tax benefit due to taxable losses and tax credits in North America, partially offset by decreased earnings in North America and Europe.

Net Loss.Primarily as a result of the factors discussed above, net loss was $40.2 million for the nine months ended September 30, 2006 compared to net loss of $9.6 million for the nine months ended September 30, 2005.



Effect of Changes in Exchange Rates

In general, the Companys results of operations are affected by changes in foreign exchange rates. Subject to market conditions, the Company prices its products in its foreign operations in local currencies. As a result, a decline in the value of the U.S. dollar relative to the local currencies of profitable foreign subsidiaries can have a favorable effect on the profitability of the Company, and an increase in the value of the U.S. dollar relative to the local currencies of profitable foreign subsidiaries can have a negative effect on the profitability of the Company. Exchange rate fluctuations increased comprehensive income by $4.7 million and $1.2 million for the three months ended September 30, 2006 and 2005, respectively, and increased comprehensive income by $11.0 million and decreased comprehensive income by $16.2 million for the nine months ended September 30, 2006 and 2005, respectively.



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Derivatives

During 2004, the Company entered into four interest rate swap agreements, under which the Company receives variable interest based on the Eurodollar rate and pays fixed interest at a weighted average rate of 3.89%, on $700.0 million of term loans. During 2005, the Company entered into three additional interest rate swap agreements, under which the Company receives variable interest based on the Eurodollar rate and pays fixed interest at a weighted average rate of 4.43%, on $225.0 million of term loans. During 2006, the Company entered into three forward rate agreements, under which the Company receives variable interest based on the Eurodollar rate and pays fixed interest at a weighted average rate of 5.33%, on $895.2 million of term loans.  The interest rate swaps and forward rate agreements are accounted for as cash flow hedges. The hedges are highly effective as defined in SFAS 133,
Accounting for Derivative Instruments and Hedging Activities.  The effective portion of the cash flow hedges is recorded in other comprehensive income (OCI) and was an unrealized loss of $8.5 million for the three months ended September 30, 2006 as compared to an unrealized gain of $7.6 million for the three months ended September 30, 2005, and was an unrealized loss of $3.0 million for the nine months ended September 30, 2006 as compared to an unrealized gain of $9.2 million for the nine months ended September 30, 2005.  Failure to properly document the Companys interest rate swaps as effective hedges would result in income statement recognition of all or part of the cumulative $11.5 million unrealized gain recorded in accumulated OCI as of September 30, 2006.  Approximately 82% of the amount recorded within OCI as of September 30, 2006 is expected to be recognized in interest expense in the next twelve months.

Liquidity and Capital Resources

In the nine months ended September 30, 2006, the Company funded, through its operating activities, $135.2 million of investing activities and $94.6 million of financing activities.  Included in the Companys operating activities was a decrease in inventories of $48.5 million from December 31, 2005 to September 30, 2006, primarily due to a seasonal drop in finished goods inventories and a decrease in raw material inventories that were established at the end of 2005 to mitigate the effects on the supply of raw materials caused by the hurricanes in the United States in the latter part of 2005.  Also included in the Companys operating activities was an increase in accounts payable and accrued expenses of $76.5 million, primarily due to the timing of payments to certain suppliers and interest payments to bondholders.

In connection with the acquisition of O-I Plastic on October 7, 2004, the Operating Company, Holdings, GPC Capital Corp. I, Holdings wholly-owned subsidiary (CapCo I), and a syndicate of lenders entered into a first-lien credit agreement (the Credit Agreement) and a second-lien credit agreement (the Second-Lien Credit Agreement and, together with the Credit Agreement, the Credit Agreements). Pursuant to its terms, on April 18, 2006, the Credit Agreement was amended in order to, among other things, increase the Term Loan B facility provided under the Credit Agreement by $150.0 million.  Proceeds of the Amendment were used to pay down $100.0 million of the Second-Lien Credit Agreement, with the remaining $50.0 million being used to reduce outstanding borrowings on the existing revolving credit facility provided for under the Credit
Agreement.  The Credit Agreements consist of a senior secured Term Loan B to the Operating Company totaling $1,573.9 million, a second-lien term loan totaling $250.0 million (the Term Loans or Term Loan Facilities) and a $250.0 million revolving credit facility (the Revolving Credit Facility). The unused availability of the Revolving Credit Facility at September 30, 2006 was $175.6 million (as reduced by $9.4 million of outstanding letters of credit).  The Term Loan B is payable in quarterly installments and requires payments of $15.6 million in 2006 and $16.0 million in each of 2007, 2008, 2009 and 2010 and $1,505.8 million in 2011. The Company expects to fund scheduled debt repayments from cash from operations and unused lines of credit. The Revolving Credit Facility expires on October 7, 2010. The second-lien term loan is payable on April 7, 2012. The obligations of the Operating Company and CapCo I under the Credit Agreements are guaranteed by
Holdings and certain other subsidiaries of Holdings. As of September 30, 2006, the Company was in compliance with all covenants.

The acquisition of O-I Plastic and the related refinancing of the indebtedness of the Company also included the issuance of $250.0 million in Senior Notes of the Operating Company and $375.0 million in Senior Subordinated Notes of the Operating Company (collectively the Notes). The Notes are unconditionally guaranteed, jointly and severally, by Holdings and domestic subsidiaries of the Operating Company and mature on October 7, 2012 (Senior Notes) and October 7, 2014 (Senior Subordinated Notes). Interest on the Senior Notes is payable semi-annually at 8.50% and interest on the Senior Subordinated Notes is payable semi-annually at 9.875%.



33





At September 30, 2006, the Companys total indebtedness was $2,549.4 million.

The Credit Agreements and the Notes contain a number of significant covenants.  The Company believes that these covenants are material terms of these agreements and that information about the covenants is material to an investors understanding of the Companys financial condition and liquidity. Covenant compliance EBITDA (as defined below) is used to determine the Companys compliance with many of these covenants.  Any breach of covenants in the Credit Agreements that are tied to financial ratios based on covenant compliance EBITDA could result in a default under the Credit Agreements and the lenders could elect to declare all amounts borrowed to be immediately due and payable. Any such acceleration would also result in a default under the Notes. Additionally, these covenants restrict the Companys ability to dispose of assets, repay other indebtedness, incur additional
indebtedness, pay dividends, prepay subordinated indebtedness, incur liens, make capital expenditures, investments or acquisitions, engage in mergers or consolidations, engage in transactions with affiliates and otherwise restrict the Companys activities. Under the Credit Agreements, the Company is required to satisfy specified financial ratios and tests beginning with the first quarter of 2005. As of September 30, 2006, the Company was in compliance with the financial ratios and tests specified in the Credit Agreements.

Covenant compliance EBITDA is defined as EBITDA (i.e., earnings before interest, taxes, depreciation and amortization) further adjusted to exclude non-recurring items, non-cash items and other adjustments required in calculating covenant compliance under the Credit Agreements and the Notes, as shown in the table below. Covenant compliance EBITDA is not intended to represent cash flow from operations as defined by generally accepted accounting principles and should not be used as an alternative to net income as an indicator of operating performance or to cash flow as a measure of liquidity. The Company believes that the inclusion of covenant compliance EBITDA in this quarterly report on Form 10-Q is appropriate to provide additional information to investors about the calculation of certain financial covenants in the Credit Agreements and the Notes. Because not all companies use identical
calculations, these presentations of covenant compliance EBITDA may not be comparable to other similarly titled measures of other companies. A reconciliation of net loss to covenant compliance EBITDA is as follows:



Reconciliation of net loss to EBITDA



Four Quarters EndedSeptember 30, 2006(In millions)Net loss
        
        $
        (83.3
        )Interest income
        
        
        (0.6
        )Interest expense
        
        
        204.0Income tax provision
        
        
        15.0Depreciation and amortization
        
        
        206.7EBITDA
        
        $
        341.8






34



Reconciliation of EBITDA to covenant compliance EBITDA



Four Quarters EndedSeptember 30, 2006(In millions)EBITDA
        
        $
        341.8Impairment charges
        
        
        6.6Other non-cash charges (a)
        
        
        11.2Fees related to monitoring agreements(b)
        
        
        5.0Non-recurring items(c)
        
        
        51.9Pro forma adjustments (d)
        
        
        9.0Covenant compliance EBITDA
        
        $
        425.5






(a)
        Represents the net loss on disposal of fixed assets.(b)
        Represents annual fees paid to Blackstone Management Partners III L.L.C. and a limited partner of Holdings under monitoring agreements.(c)
        The Company is required to adjust EBITDA, as defined above, for the non-recurring items in the table below:




Four Quarters EndedSeptember 30, 2006(In millions)Reorganization and other costs(i)
        
        $
        32.2Project startup costs(ii)
        
        
        19.7$
        51.9




(i)
        Represents non-recurring costs related to the integration of O-I Plastic, aborted acquisitions, expenses related to the hurricanes in the United States in the second half of 2005, global reorganization costs and other costs.(ii)
        Represents non-recurring costs associated with project startups.




(d)
        The Company is required to adjust EBITDA for synergy cost savings, as defined in the Credit Agreement.




Under the debt agreements, the Companys ability to engage in activities such as incurring additional indebtedness, making investments and paying dividends is also tied to ratios based on covenant compliance EBITDA. The Credit Agreement requires that the Company maintain a covenant compliance EBITDA to cash interest ratio starting at a minimum of 1.90x and increasing in increments of .05 to 2.20x in 2010 and a net debt to covenant compliance EBITDA ratio starting at a maximum of 6.75x and decreasing in increments of .25 to 5.00x in 2010, in each case for the most recent four quarter period. The Second-Lien Credit Agreement requires that the Company maintain a covenant compliance EBITDA to cash interest ratio starting at a minimum of 1.65x and increasing in increments of .05 to 1.95x in 2010 and a net debt to covenant compliance EBITDA ratio starting at a maximum of 7.35x and decreasing
in increments of .25 to 5.60x in 2010, in each case for the most recent four quarter period. For the four quarters ended September 30, 2006, the Operating Companys covenant compliance EBITDA was $425.5 million, which includes $9.0 million of certain required adjustments in accordance with the Companys Credit Agreements. The covenant compliance EBITDA to cash interest ratio and net debt to covenant compliance EBITDA ratio were 2.12x and 5.95x, respectively, for the four quarters ended September 30, 2006. The ability of the Operating Company to incur additional debt and make certain restricted payments under its Notes is tied to a covenant compliance EBITDA to interest expense ratio of 2.0 to 1, except that the Operating Company may incur certain debt and make certain restricted payments without regard to the ratio, such as up to $2.2 billion under the Credit Agreements and investments equal to 7.5% of the Operating Companys total assets.



35



Substantially all of the Companys domestic tangible and intangible assets are pledged as collateral pursuant to the terms of the Credit Agreements.

Under the Credit Agreements, the Operating Company is subject to restrictions on the payment of dividends or other distributions to Holdings; provided that, subject to certain limitations, the Operating Company may pay dividends or other distributions to Holdings:




        in respect of overhead, tax liabilities, legal, accounting and other professional fees and expenses;  and
        to fund purchases and redemptions of equity interests of Holdings or BMP/Graham Holdings Corporation held by then present or former officers or employees of Holdings, the Operating Company or their subsidiaries or by any employee stock ownership plan upon that persons death, disability, retirement or termination of employment or other circumstances with annual dollar limitations.




As market conditions warrant, the Company and its major equityholders, including Blackstone Capital Partners III Merchant Bank Fund L.P. and its affiliates, may from time to time repurchase debt securities issued by the Company, in privately negotiated or open market transactions, by tender offer or otherwise.

Cash paid for property, plant and equipment, net of proceeds on sales of property, plant and equipment and excluding acquisitions, for the nine months ended September 30, 2006 was $133.8 million. Management believes that capital investment to maintain and upgrade property, plant and equipment is important to remain competitive. Management estimates that on average the annual capital expenditures required to maintain the Companys current facilities are approximately $55.0 million per year. Additional capital expenditures beyond this amount will be required to expand capacity or improve the cost structure.

For the fiscal year 2006, the Company expects to incur approximately $190.0 million of capital investments.  For the fiscal year 2007, the Company expects to incur approximately $150.0 million of capital investments, reflecting a more measured approach to capital spending given the overall general economic conditions combined with a more balanced focus on filling idle capacity and making necessary improvements to the Companys base business.  However, total capital investments will depend on the size and timing of growth related opportunities.  2006 capital investments include restructuring expenditures which are excluded from the capital expenditure covenant in the Credit Agreement.  The Companys principal sources of cash to fund ongoing operations and capital requirements have been and are expected to continue to be net cash provided by operating activities and borrowings under
the Credit Agreement.  Management believes that these sources will be sufficient to fund the Companys ongoing operations and its foreseeable capital requirements.

On July 9, 2002, the Company and Graham Engineering Corporation (Graham Engineering), an affiliated company, executed a First Amendment to the equipment sales, services and license agreement (the Equipment Sales Agreement) to, among other things, (i) permit the Company to purchase certain extrusion blow molding wheel systems from a third party under certain circumstances if Graham Engineering is provided the opportunity to bid on supplying the same equipment; (ii) clarify that the Companys exclusivity rights under the Equipment Sales Agreement do not apply to certain new generations of Graham Engineering equipment; (iii) in the event of the sale of Graham Engineering to a competitor, provide the Company the option to require the transfer of the existing agreement or obtain a perpetual, royalty-free license to make and use wheel equipment and components; (iv)
provide Graham Engineering with the ability to terminate the Equipment Sales Agreement if an arbitrator determines that the Company has purchased certain high output extrusion blow molding equipment from another supplier in breach of the Equipment Sales Agreement; and (v) obligate the Company, retroactive to January 1, 2002, and subject to certain credits and carry-forwards, to make payments for products and services to Graham Engineering in the amount of at least $12.0 million per calendar year, or else pay to Graham Engineering a shortfall payment. The Company does not expect to be required to make a shortfall payment relative to its purchases for 2006.



36



Subsequently, on January 13, 2004, the parties executed a Second Amendment to the Equipment Sales Agreement.  Such amendment removed restrictions originally placed upon the Company with respect to the Companys use of Graham Engineering technology to manufacture containers at blow molding plants co-located with dairies or dairy-focused facilities.

The Equipments Sales Agreement terminates on December 31, 2007, unless mutually extended by the parties.



Off-Balance Sheet Arrangements

Other than operating leases, as of September 30, 2006, the Company did not have any off-balance sheet arrangements as defined in Item 303(a)(4)(ii) of SEC Regulation S-K.



Recent Accounting Pronouncements

In June 2006, the Financial Accounting Standards Board (FASB) issued FASB Interpretation No. (FIN) 48  Accounting for Uncertainty in Income Taxes  an interpretation of FASB Statement No. 109.  FIN 48 prescribes a recognition threshold and measurement attribute for the financial statement recognition and measurement of a tax position taken or expected to be taken in a tax return.  FIN 48 also provides guidance on accounting for derecognition, interest, penalties, accounting in interim periods, disclosure and classification of matters related to uncertainty in income taxes and transitional requirements upon adoption of FIN 48.  FIN 48 is effective for fiscal years beginning after December 15, 2006.  The Company is currently in the process of assessing the impact that adoption of FIN 48 will have on its financial statements.

In September 2006, the FASB issued SFAS 157, Fair Value Measurements.  This statement establishes a single authoritative definition of fair value, sets out a framework to classify the source of information used in fair value measurements, identifies additional factors that must be disclosed about assets and liabilities measured at fair value based on their placement in the new framework and modifies the long-standing accounting presumption that the transaction price of an asset or liability equals its initial fair value.  SFAS 157 is effective for fiscal years beginning after November 15, 2007.  The Company is currently in the process of assessing the impact that adoption of SFAS 157 will have on its financial statements.

In September 2006, the FASB issued SFAS 158, Employers Accounting For Defined Benefit Pension and Other Postretirement Plans  an amendment of FASB Statements  No. 87, 88, 106, and 132 (R).   Under SFAS 158, companies are required to (1) recognize in its statement of financial position an asset for a plans over funded status or a liability for a plans under funded status, (2) measure a plans assets and its obligations that determine its funded status as of the end of the companys fiscal year and (3) recognize changes in the funded status of a defined benefit postretirement plan in the year in which the changes occur.  Those changes will be reported in comprehensive income.  The requirement to recognize the funded status of a benefit plan for the Company, which does not have publicly traded equity securities, is effective as of the end of the
fiscal year ending after June 15, 2007, while certain disclosure requirements are effective as of the end of the fiscal year ending after December 15, 2006.  The requirement to measure plan assets and benefit obligations as of the date of the Companys fiscal year end statement of financial position is effective for fiscal years ending after December 15, 2008.  The Company is currently in the process of assessing the impact that adoption of SFAS 158 will have on its financial statements.

In September 2006, the Securities and Exchange Commission issued Staff Accounting Bulletin (SAB) 108, Considering the Effects of Prior Year Misstatements when Quantifying Misstatements in Current Year Financial Statements.  SAB 108 requires companies to quantify misstatements using both the balance sheet and income statement approaches and to evaluate whether either approach results in quantifying an error that is material in light of relevant quantitative and qualitative factors.  The requirements are effective for annual financial statements covering the first fiscal year ending after November 15, 2006.  Management does not believe that adoption of SAB 108 will have a significant impact on the Companys financial statements.



37





Subsequent Events

On October 31, 2006, the Company announced certain planned changes to its largest defined benefit pension plan, which covers substantially all salaried and non-union hourly employees in the United States.  Effective January 1, 2007, the Company intends to discontinue additional future benefit credits under the defined benefit pension plan and intends to increase the level of Company contributions to the 401(K) plans for the affected employees.

On November 3, 2006, the Company filed a complaint with the Supreme Court of the State of New York against Owen-Illinois, Inc. and OI Plastic Products FTS, Inc. (collectively, OI).  The complaint alleges certain misrepresentations by OI in connection with the Companys 2004 purchase of O-I Plastic and seeks damages in excess of $30 million.



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Item 3. Quantitative and Qualitative Disclosures About Market Risk

The following table provides disclosure as of September 30, 2006 for financial instruments that have experienced material changes in fair value since December 31, 2005.





Expected Maturity Date of Interest Rate Swap Agreements at September 30, 2006
        
        Fair Value2006
        
        2007
        
        2008
        
        2009
        
        2010
        
        Thereafter
        
        Total
        
        September 30,2006(Dollars in thousands)Derivatives matched against liabilitiesPay fixed swaps
        $
        
        
        $
        650,000
        
        $
        275,000
        
        $
        
        $
        
        $
        
        $
        925,000
        
        $
        11,661Pay rate
        
        
        
        
        3.98
        %
        
        4.11
        %
        
        
        
        
        
        
        
        4.02
        %Receive rate
        
        
        
        
        5.13
        %
        
        4.98
        %
        
        
        
        
        
        
        
        5.09
        %






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Item 4.
        Controls and Procedures(a)
        Evaluation of Disclosure Controls and ProceduresThe Companys principal executive officer and principal financial officer evaluated the effectiveness of the Companys disclosure controls and procedures (as defined in rules 13a-15(e) and 15d-15(e) under the Exchange Act) as of the end of the period covered by this report.  Disclosure controls and procedures are controls and other procedures that are designed to ensure that information required to be disclosed in the Companys report filed or submitted under the Exchange Act is recorded, processed, summarized and reported, within the time periods specified in the Securities and Exchange Commissions rules and forms.  Disclosure controls and procedures include, without limitation, controls and procedures designed to ensure that information required to be disclosed in the Companys reports filed under the Exchange Act is
accumulated and communicated to management, including the Companys principal executive officer and principal financial officer as appropriate, to allow timely decisions regarding required disclosure.  Based on their evaluation and a material weakness in the Companys internal controls as described below, the Companys principal executive officer and principal financial officer have concluded the Companys system of disclosure controls and procedures was ineffective as of September 30, 2006.
The Company identified a material weakness in its internal controls related to its income tax accounting.  The Companys tax structure is complex with significant tax jurisdictions located outside of the United States and the acquisition of O-I Plastic added to the complexity of the tax structure, involved significant issues with regard to purchase
accounting and the income tax implications of purchase accounting and significantly added to the Companys operations in Mexico.  The Company has insufficient, qualified resources to determine that income tax accounting complies with generally accepted accounting principles, particularly as it relates to the tax accounting for the O-I Plastic acquisition and the tax accounting for its Mexican operations.  This deficiency in the design and operation of internal controls could result in misstatements in the reported amount of deferred income tax balances and in the required disclosures of income tax amounts.
In response to the above determination, the Company is examining the issue and plans to implement certain remedies, including, among other items, the deployment of greater resources in the area of international income tax accounting and the engaging of qualified
outside consultants in Mexico and the United States to oversee the local tax return preparation and filing, and the tax accounting reconciliations for the subsidiaries in Mexico.  During the first quarter of 2006 the Company added two tax professionals to its staff in Mexico who assisted in the preparation of the third quarter provision to ensure accuracy of the provision.  The Company subjected the third quarter Mexico tax provision to rigorous accounting management review to ensure accuracy of the provision and allow these professionals adequate time to fully assume the tax accounting responsibility in Mexico.  Finalization in the third quarter of 2006 of the 2005 Mexico return-to-provision adjustments were overseen by two highly qualified outside consulting firms.  Additionally, the Company is recruiting a manager of international tax to oversee its international income tax accounting.






40





At this time, the Company is not required to issue a report on its internal control over financial reporting, or receive an attestation report on its internal control over financial reporting from its independent registered public accounting firm.  The Company currently anticipates it will be required to report on its internal control over financial reporting in its December 31, 2007 Form 10-K  In connection with this anticipated requirement, the Company is in the process of reviewing various internal processes and the related controls.  As a result of the ongoing review work, the Company has noted certain potential issues relating to matters such as segregation of duties, computer system access, approval processes and compliance with certain policies.  As these and other matters are identified, the Company is implementing process or control changes in
order to remediate them.  Should the Company not be successful in implementing the changes, management has not determined whether any of these matters might result in material weaknesses that would require disclosure in connection with the anticipated 2007 year-end report.(b)
        Changes in Internal ControlsOther than those changes discussed in Item 4 (a) above, there are no changes that could materially affect or reasonably likely to materially affect the Companys internal control over financial reporting.






41





PART II.
        OTHER INFORMATIONItem 1A.
        Risk FactorsIn addition to the other information set forth in this report, you should carefully consider the factors discussed in Part I, Item 1A. Risk Factors in Holdings Annual Report on Form 10-K for the year ended December 31, 2005, which could materially affect the Companys business, financial condition or future results.  The risk factors in Holdings Annual Report on Form 10-K have not materially changed.  The risks described in Holdings Annual Report on Form 10-K are not the only risks facing the Company.  Additional risks and uncertainties not currently known to the Company or that the Company currently deems to be immaterial also may materially adversely affect the Companys business, financial condition and/or operating results.Item 6.
        ExhibitsExhibit 31.1
        Certification required by Rule 15d-14(a).Exhibit 31.2
        Certification required by Rule 15d-14(a).Exhibit 32.1
        Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.Exhibit 32.2
        Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.






42





SIGNATURE





Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed by the undersigned, thereunto duly authorized.



Dated:  November 13, 2006





GRAHAM PACKAGING HOLDINGS COMPANY(Registrant)By:
        /s/ John E. HamiltonJohn E. HamiltonChief Financial Officer(chief accounting officer and duly authorized officer)










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