Avient Corp (AVNT) 2011 Q3 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to the PolyOne Corporation third-quarter 2011 conference call. My name is Katina, and I will be your operator for today. At this time, all participants are in a listen-only mode. We will have a question-and-answer session at the end of the conference. As a reminder, this conference is being recorded for replay purposes.

At this time, I would like to turn the call over to Joe Kelley, Vice President of Planning and Investor Relations. Please proceed.

Thank you, Katina. Good morning, and welcome to everyone joining us on the call today.

Before beginning, we would like to remind you that statements made during this conference call which are not historical facts, may be considered forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements are based on management's expectations, and involve a number of business risks and uncertainties. Some of these risks and uncertainties can be found in the Company's filings with the Securities and Exchange Commission, as well as in today's press release.

During the discussion today, the Company will use both GAAP and non-GAAP financial measures. Please refer to the earnings release posted on the PolyOne website, where the Company describes the non-GAAP measures, and provides a reconciliation of them to the most comparable GAAP financial measures.

Operating results referenced during today's call will be comparing the third quarter of 2011 to the third quarter of 2010, unless otherwise stated. All prior-year financial references will be based on restated financial statements for the change in pension accounting to mark-to-market method adopted by the Company effective January 1, 2011.

Joining me today on the call is our Chairman, President, and Chief Executive Officer, Steve Newlin; Executive Vice President and Chief Financial Officer, Bob Patterson; and President of our Global Color, Additives, and Inks business platform, John Van Hulle. Now I will turn the call over to Bob, who will review the quarterly results.

Thanks, Joe, and to everyone who is joining us on the call this morning. Before I begin, let me provide a brief overview of our agenda. First, I will review our third-quarter performance, provide some additional details regarding our capital structure, and update you on our expanded share repurchase authorization. Next, Steve will offer some commentary on our strategic progress, including an introduction to the ColorMatrix acquisition, and why we are so excited about the value they bring to PolyOne. Finally, you will hear from John Van Hulle, who runs our Global Color, Additives, and Inks business. John is going to provide a deeper look at ColorMatrix, its unique positions in the marketplace, and how we plan to accelerate growth with the addition of their talented management team, superior technology, and world-class customer service model.

For your reference, at our website at www.polyone.com/investor we have posted slides with relevant background and strategic rationale for our planned acquisition of ColorMatrix, and we will allow extra time today for questions. With that, let's begin.

You'll remember from our second-quarter call that we forecasted upcoming sluggishness in the economy, and this became a reality. Versus our expectations at the end of the second quarter, we also experienced a weakening of the euro in September, higher taxes, and increased bad debt expense. Further, the competitive dynamics in our PP&S platform continue to worsen, as housing starts remain at 50-year lows. Despite these challenges, adjusted EPS of $0.26 was 10% higher than we reported last year, and within the range of guidance we provided at the end of our second-quarter call.

Consolidated revenues for the quarter grew 8% year over year, and each platform recorded increased sales. Specialty revenues increased 5% over the prior year to $286 million, driven primarily by higher selling prices associated with raw material inflation. I will remind you that selective reduction of less specialized, transaction-only business continues to be an important part of our transformation toward a more sustainable and higher-margin portfolio. Driven by inflation, the most significant of these actions were taken earlier this year, and we expect they will lap themselves in the next 6 to 9 months.

Note that excluding pruning, our same-store sales in specialty declined 10%, but we were successful in offsetting a portion of this with a 7% increase from net new customer gains. This is the first time this year we saw same-store sales decline. We have not lost this business; but rather, we believe this reflects the previously described global economic slowdown, which has caused some modest levels of destocking and reduced average order sizes.

As we break down the specialty platform into its 2 business segments, you can clearly see the benefits of shifting the sales mix to higher-value applications, as our Global Color, Additives, and Inks business expanded gross margins 170 basis points over the prior-year third quarter. This led to a 10% increase in operating income for Color in the third quarter.

The story in Specialty Engineered Materials segment is different, however, where the global economic slowdown impacted us disproportionately in our higher-margin product lines. For example, demand for our premier ECCOH wire and cable products continue to be negatively impacted by lower orders in solar and nuclear applications, as these markets have slowed substantially.

GLS saw a decline in certain higher-end TPE consumer applications. We infer from this that consumers are simply more cautious about the economy, and stretching out their home good purchases longer than they were a year ago. Simply said, and for example, this means they are using their disposable razors for an extra week or two.

I also remind our investors and analysts that while we did slow down hiring in the third quarter this year, we have invested in commercial resources over the past several quarters. In total for PolyOne, we have added 152 professionals, representing an annualized investment of approximately $25 million, 80% of which is in our Specialty platform. We have hired some of the best and brightest sales, marketing, and technical resources around the world; and while some of them are already having an impact, it takes 12 to 36 months, depending on the business, before we see the sustained effect of their efforts. And I have no doubt these investments will prove to be a competitive differentiator for us in the mid to long term.

These investments, combined with a $1 million reversal of bad debt expense in the prior year, and the impact from the global economic slowdown, led to a year-over-year decline in operating income in Specialty. If we had it to do all over again, we would make the same choices, because we believe in our strategy, and we need these resources to profitably grow our business for the long term.

We have also invested in our Distribution platform, where we achieved a nearly 17% increase in operating income on a 7% increase in revenues. This profitability expansion was driven primarily by an increase in sales, due to improved mix, and higher prices associated with raw material cost inflation. But most notably, POD grew their healthcare sales 20%, and healthcare now represents 21% of POD sales.

Performance Products and Solutions expanded revenues 14% versus the prior year, to $226 million. The revenue growth was driven primarily by higher selling prices associated with raw material cost increases. This marks the third consecutive quarter that this business has experienced significant sequential increases in raw material costs, and the competitive pressure we are experiencing is higher than we can recall in recent history. This, coupled with vinyl industry practice of indexing contracts to base resin costs with a 60- to 90-day lag, has challenged PP&S to expand profitability in an inflationary environment.

And when comparing third-quarter 2011 to third-quarter 2010, I would point out that the market conditions were the exact opposite last year. During the third quarter of 2010, resin costs actually declined approximately 9%. And as price decreases lagged, gross margins expanded. With this dramatic shift in base resin cost dynamics, and continued TI02 and plasticizer cost increases, PP&S third-quarter operating income declined 7% versus the prior year to $16.7 million, or 7.4% of sales. When you consider that housing starts remain below 600,000, this is respectable performance, and very close to our minimum target margin expectation of 8% by 2012, which was based on 1.2 million housing starts.

Shifting topics from our 3 business platforms to other P&L items -- corporate and other costs before special items decreased $4.8 million from last year, almost entirely due to lower incentive costs. The tax rate for the quarter, excluding special items and 1-time adjustments, was 35.9%, due to foreign currency fluctuation. This is higher than we normally forecast, and we believe 34% is an appropriate rate to use for modeling future periods. During the third quarter, we generated $20 million in free cash flow, and ended the quarter with $410 million of cash. Cash dividends paid in the quarter totaled $3.7 million, and we spent $24.6 million to repurchase 2 million shares in the open market at an average price of $12.31 per share.

On October 11, our Board of Directors authorized an additional 5.25 million shares available for repurchase, bringing the total number of shares currently authorized to 10 million. We continue to believe that dividends and share repurchases provide a balanced means for rewarding our shareholders.

This concludes my prepared remarks on the quarter, and I will now turn the call over to our Chairman, President, and CEO, Steve Newlin.

Thanks, Bob. Good morning, everyone. We faced a number of headwinds this quarter; and in light of those, we turned in a decent performance. While we are facing some softening in our markets, this current environment is nothing like we saw in 2008 and 2009. In addition, as we reflect on our position during that downturn, we are financially much stronger today than we were then, and we have an improved earnings mix that limits the downside effect of the recent pullback in the economy. For example, healthcare revenues grew 20% in the third quarter to over $70 million, and represented almost 10% of our total revenues.

Our management team continues to strengthen and gel, and this is a very talented group. Their commitment is focused and genuine, and it's creating a measured confidence we are using to deliver. And that's good for our customers, and it's also good for our shareholders.

As a result of slower economic growth, a weakening euro, competitive pressure in our PP&S platform, and potentially higher taxes, we expect EPS for the fourth quarter of 2011 to meet or come in just short of the $0.15 we reported last year. This does not include any benefit from ColorMatrix, which we expect to close prior to year end. I can tell you that after 8 quarters in a row of strong year-over-year EPS growth, I'm not pleased about this, and we will do everything we can to win new business and continue to outperform the competition.

It's in times like this, when economic conditions and end-market demand weakens, that companies are tempted to chase volume, sign long-term detrimental contracts, and bring on incremental low-margin business. This practice and mentality has plagued our industry for years, and we are not going to participate. This is the wrong answer for us, and we will not destroy all the progress we have made improving our revenue mix just to show improved earnings in 1 quarter.

Even with this level of fourth-quarter performance, this will conclude yet another record earnings year for PolyOne, with year-over-year EPS expansion exceeding 20%. I have never been more bullish about our mid- to long-term prospects. We will remain focused on executing our strategy, and this means prudently investing in our future, and growing our Specialty platform, just as we are doing with the ColorMatrix acquisition. So, let me spend a few minutes talking about this key acquisition, because among the multitude of opportunities we review, this was by far the best.

ColorMatrix is a true specialty company, with unrivaled capabilities and potential in additives, liquid colorant, and fluoropolymer products and services. Led by John Gelp, Mark Frost, Celio Andrino, and others, they have a great management team. And a relentless focus on innovation and customer service has allowed them to expand organic sales and EBITDA at a 10% and 16% compound annual growth rate, respectively, over the last 8 years -- and that's inclusive of the recession years of 2008 and 2009.

As we said in our press release announcing this acquisition, this is a game changer for PolyOne -- much like our acquisition of GLS was in 2008. And just as we did with GLS, we are paying a fair price for ColorMatrix, in line with specialty company multiples. Specialty companies trade at substantially higher multiples than commodity companies, as you know, because they offer differentiated products and services, with high barriers to entry. And they possess solid double-digit earnings growth trajectories. I have personal experience with this, having spent 27 years with Nalco and Ecolab, two excellent specialty companies that trade at these multiples.

I want to remind our investors and analysts that through 2010, GLS, a specialty company that we acquired at an even higher multiple than ColorMatrix when calculated based on EBITDA less CapEx, has grown its underlying earnings nearly threefold from the date of acquisition less than 4 years ago. This growth is attributable to 3 primary reasons -- 1, we acquired a company with a solid foundation, unique technology, superb customer service, and a great business model. Second, GLS has a spirited and driven group of associates who share a passion for innovation and customer service. And 3, we made select investments to strengthen the commercial organization, expand their global scale, and leverage best practices between our 2 companies. This is the same model of success that applies with ColorMatrix. We plan to let the existing management team run the business, but take advantage of synergies and increased investment.

We expect to finance the acquisition with cash on hand, and approximately $300 million of long-term debt. Our announced EPS accretion estimates of $0.02 to $0.03 in 2012, and $0.10 to $0.12 in 2013, reflect the costs of incremental investments, as well as interest expense associated with our acquisition financing. As with GLS, however, we expect the most substantial accretion benefits to accrue to PolyOne in years 3 and beyond -- sooner, if we can.

Now, I know you have all seen and heard the success rates on mergers and acquisition deals. Often, companies make acquisitions for the wrong reasons, and then they fail to hit cost-cutting targets. Well, ColorMatrix is not a cost play or capacity rationalization strategy. It is a tremendous growth opportunity, and a game changer for PolyOne. We have had our eyes on this prized asset for 5 years, as did many others, as it was a competitive bidding process.

For the associates at ColorMatrix who are soon to become a part of PolyOne, I look forward to welcoming you into our family forever. I assure you this is not a buy-and-flip story, but a long-term investment in our future, and the next generation of additive and color and technologies that will soon become a cornerstone of our Specialty growth strategy.

I just have to tell you, in my 33 years in the chemical industry, I have never been more excited about an acquisition than I am about ColorMatrix. So, let me share with you just a few of the reasons why. Their technology and intellectual property is second to none; others just can't touch what ColorMatrix has done, or the breadth of which they have done it. The outstanding management team has created a culture that lives and breathes innovation. Their employees thrive in their environment, which delivers sustainable growth. The ColorMatrix brand is strong and respected, and customer retention levels are the highest I've ever seen, at 98%.

Their solutions create real and measurable value for their clients; and yet their cost is a very small component of the overall customer product. They are well-positioned in the fastest growing markets and regions of the world, and they are poised to take advantage of outsized growth for megatrends, such as conversion of packaging materials from glass, aluminum, and other materials, to plastic. The explosive growth of PET bottling in eastern Europe, Russia, and Asia is a great example.

And there are very difficult barriers to entry in this space. In fact, PolyOne has been trying for 12 years to get into liquid color, with very little success. Not only have we achieved entry with this acquisition, but we have done so with the clear and undisputed industry leader. So, if you can't tell, I'm extremely excited about what this means for PolyOne and our shareholders.

And with that as our acquisition rationale, I will now turn the call over to John Van Hulle, who will provide a more in-depth overview of ColorMatrix. John?

Thanks, Steve. It's really a pleasure to be able to talk to our investors and analysts today about ColorMatrix, which is indeed an exciting opportunity for PolyOne. ColorMatrix is a highly specialized company, with a premier suite of additive technologies, and leading positions in liquid colorants, and fluoropolymer and silicone colorants and additives. With an intellectual property portfolio of 162 patents and 107 pending applications worldwide, ColorMatrix has a strong reputation for innovative technology, in addition to excellent customer service and a strong management team.

In addition, over 70% of ColorMatrix sales are outside of North America; and as such, this acquisition is in perfect alignment with our strategy of growing our Specialty business with new technologies in high-growth emerging markets. With 38% of revenue in specialty additives, ColorMatrix has a leading position in barrier technology for packaging, and offers significant performance benefits for customers. Barrier technologies provide increased product shelf life, case preservation, improved recyclability, reduced weight, and UV protection for packaged products. More specifically, ColorMatrix has leveraged this technology to become the leading global supplier of additives for PET containers, which continue to gain significant share, replacing aluminum and glass in food and beverage packaging.

Another key technology that we gained with the ColorMatrix acquisition is an advanced line of fluoropolymer and silicone colorants and additives. Fluoropolymers are high-performance materials with unique properties of chemical and high temperature resistance. ColorMatrix fluoropolymers are used in healthcare for cardioscopy tubing, dental instruments, and pacemakers, as well as high-temperature, under-the-hood automotive applications. In addition, they are used in aerospace wire and cable systems, and fiber optic systems, to name a few.

Silicones are another specialty formulation, which maintain their structural integrity under extreme temperature ranges. This characteristic, combined with soft-touch tactile properties, make them ideal for a wide variety of healthcare and high-temperature applications. For example, in healthcare, silicones are used for sterilization pads, catheters, and prosthetics. In military and aerospace, they are used in high-temperature hoses and gaskets. Silicones are also used extensively in consumer applications, including kitchen bakeware and utensils, and infant care products such as baby bottle nipples and pacifiers.

While PolyOne has a small presence in liquid color, ColorMatrix is the industry leader in this space, and liquid colorants generate 42% of their revenues. Liquid color can be used in a variety of applications, and selection is dependent upon a customer's application and process. Liquid color is commonly used in packaging for water, soft drinks, juice, and beer -- markets where PET has a limited but growing presence today. In these cases, the package is tinted or colored, but still transparent; and liquid color provides the most efficient and cost-effective way to impart color. Where low concentrations of color are needed, liquid color evenly disperses in a short period of time, improving overall aesthetic quality.

ColorMatrix color matching, dispensing technologies, products and services are second to none in the industry, particularly in PET bottle applications. This is a new high-growth market for PolyOne. Globally, the PET rigid packaging market is forecast to grow 6% annually. However, in regions such as Asia and eastern Europe, PET growth ranges from 9% to 14%. The size of the market will also grow based upon the conversion of alternative packaging materials to PET, for goods such as milk, beer, and food containers.

ColorMatrix has established an exceptional portfolio of technological break-throughs, including the first fully recyclable oxygen scavenger and light-blocking UV technologies for packaging, break-through automated color-matching systems capable of reducing customer match time from days to minutes, and a family of processing additives which improve product performance and reduce customer processing costs. With 37% of 2010 revenues generated from new products, ColorMatrix has established itself as a technology leader.

But the ColorMatrix story isn't only about technology -- it's about customer service, and ColorMatrix offers unparalleled services and solutions to their customers. For example, 95% of liquid color customers use ColorMatrix's proprietary dosing equipment, which improves dosing accuracy, cycle times, and reduces waste. With this razor and razor blades approach, they have achieved an enviable 98% customer retention rate, and 77% of their customers buy multiple products.

PolyOne will benefit from ColorMatrix capabilities by leveraging their additives know-how and technology to a number of additional PolyOne products and applications, including those provided by our Specialty Engineered Materials Business -- an area where ColorMatrix has had limited participation. With over 500 sellers and marketers trained in customer-based service and product specialization, PolyOne will be able to substantially enhance ColorMatrix's speed to market with their unique product offerings.

Finally, the acquisition of ColorMatrix provides increased geographic penetration in Russia and South Africa, regions where PolyOne has very limited participation. And their other sales and manufacturing locations complement our growth efforts in Brazil, India, and Southeast Asia. These are areas that are experiencing explosive growth in plastics consumption, particularly with PET bottles. By expanding the ColorMatrix customer relationships and markets on a global basis, together we will provide a premier source of specialty additive and colorant systems, and fluoropolymer and silicone solutions. So, we really are pleased to have ColorMatrix, and I'm very excited about the potential. We expect to accelerate their already high growth rate, and ultimately grow earnings 25%-plus year over year.

That concludes my prepared remarks, and I will now turn the call back to Joe Kelley.

Thanks, John. At this time, we are going to open the lines for questions. And we will allow extra time to address any questions you have regarding ColorMatrix. Following the Q&A session, please stay on the line, as Steve Newlin will make some summary comments to close the call.

Operator, we are ready for the first question.

Thank you. (Operator Instructions) Frank Mitsch, Wells Fargo Securities.

Just a simple math question on the ColorMatrix deal -- you're expecting a couple pennies of accretion next year. What sort of embedded interest rate do you have on the debt there?

It's about 7%.

And as you look at the spin here, obviously you ramped up your share repurchase materially in Q3, and you announced that you were increasing the level of buyback. A couple questions regarding that. Is this -- the pace in Q3, is that something that we should expect going forward? And what sort of indications have you received from the rating agencies, in terms of the level of cash that you can spend on such shareholder-friendly actions as share buyback and the dividend?

At this point, we are not making any forecasts with respect to how many shares we plan to buy in the future. We just reiterate that we will continue to do so opportunistically. And so far, we have received no negative reaction from the rating agencies, both who recently issued their ratings on the debt we expect to issue in connection with ColorMatrix. At this point, I think we've been buying back shares at a measured pace, and it hasn't caused any concern with them, and I don't expect it to in the future.

Thank you. You outline a rather compelling case in terms of the specialty nature of ColorMatrix. But it's hard to avoid that it has 36% of sales in Europe. Can you give us your thoughts on what your expectations are for the PolyOne and the ColorMatrix business in that part of the world?

Yes. The first thing I would point out, Frank -- and you can grab this on the website if you haven't had a chance to look at it yet, though, is that there is included in that obviously Eastern Europe, which is 7%, Russia is 6%, and so -- and Western Europe is 29%. So, we do have exposure to higher-growth regions than just what you would capture if all that were ascribed to Western Europe. With respect to what our plans are for growing that business, I think John outlined that in his observations, and I'll let him make another remark here to follow mine -- which is that we do intend to leverage their technologies to our own products, and that's true everywhere in the world. And at the same time, leverage our global scale for synergies and to accelerate their pace to market.

Frank, I guess the piece I'd add that's most exciting to me in the business is the emerging markets where ColorMatrix already has locations that we can jump right into. And I mentioned Russia and South Africa, just to name two. There's just really an exciting overlap in the locations that I think will help us grow.

All right. Thank you.

Saul Ludwig, Northcoast Research.

Just a question about the third-quarter and fourth-quarter outlook. With the third quarter, could you comment on the corporate expense decline, which fell sharply when you back out the special items? You talked about the bad debt expense hitting you. To what degree was that? And then, finally, your comments about Engineered Materials and why their results were as weak as they were -- and in your outlook for the fourth quarter, how are you shaping up within the engineered materials sector?

We try to capture all of those. I think there were four items -- number one was --

Corporate expense.

Yes, year-over-year on corporate expenses. That's entirely related to incentive cost reductions. And the best way to think about that is, we've been accruing at a certain pace through the first part of this year -- obviously, with our growth decelerating in the second half. That results in less incentive expense in the second half of this year than what we had in the first half. And when you compare that to last year, we were still seeing earnings momentum even into the third quarter; and as a result, had higher incentive expense last year than this year.

Secondly, was on bad debt expense -- and really, there's one item to speak of, and that is that we had a $1 million expense reversal -- or reserve reversal, in the third quarter of last year, and that was in Specialty Engineered Materials. I think your third question was on year-over-year performance for Specialty Engineered Materials, which obviously is impacted $1 million by that bad debt reversal last year. That accounts for one-third of the year-over-year operating decline.

The balance of that is almost entirely attributable, Saul, to the negative mix implications of this economic slowdown, which has disproportionately affected our ECCOH and GLS brands, while at the same time we have seen some pickup in US wire and cable and auto, which are at lower margins. And then, fourth, I think, was -- how do we view that going into the fourth quarter? And I think that I would just say that the same challenges exist here for the near term. That doesn't mean that we have a poorer outlook on the mid to long term; in fact, quite the opposite is true. But certainly, over the next quarter, we think these same conditions are going to persist.

And my follow-up is -- raw material cost, resins, et cetera, appear to be trending lower. And the lag in -- which hurt you in a rising environment, do you expect some benefit as raws go the other way?

I think that we continue to wait for that to happen, and it hasn't yet. And I'd say that while there may have been some headlines about resin costs declining in the third quarter, I would say that we still experienced increased costs as a result of announced pricing at the end of the second quarter. What I would tell you is, is that to the extent that raw material costs do decline in the fourth quarter and our PP&S business benefits from that as a result of the lag in our contracts, that will be overshadowed by the decline in volume that simply comes with seasonality in that business in the fourth quarter.

And I think we -- Saul, I would just add a little color. We do expect PVC resin to decline slightly in Q4 of this year. And probably that will carry at least into Q1, perhaps Q2, of next year. So, we'll get some help from that, and ultimate recovery. PVC, of course, as you know, is being impacted by the cost of feedstock for PVC, like ethylene and chlorine; and those are expected to come down in Q4 of this year, just due to lower demand. So I think we have a good opportunity to get some relief in here. And it will be nice to take a little breather on this long and extrapolated run of raw material increases that we have been enduring.

Thank you, guys.

Dmitry Silversteyn, Longbow Research.

Just a couple of questions, if I may. Number one -- on the pricing front -- with the slowdown that you are seeing in your end markets, you still have some raw material pass-throughs to take care of -- sounds like, at least, through the second quarter. Is your pricing power being impacted by weaker volumes? Or are you still confident that you will be able to get -- to close the raw material gap in the fourth quarter, perhaps early in the first quarter?

Well, I think one observation we'd make relative to volumes and pricing power is that we see the most competitive pressure in our Performance Products and Solutions platform -- which, Dmitry, as you know, is connected to US housing in our PVC markets. And I think with housing starts staying below 600,000, that continues to put pressure in the market and makes it more difficult to get pricing increases. And as volume comes down, it makes that even more challenging.

Yes, I think, Dmitry, I would just add that we are proactively monitoring raw material prices. We have a really good grip on where these things are going and the potential supply/demand conditions that are going to have an impact on our sales margins. And our sourcing and commercial organizations work hand in hand to implement the necessary increase where it's appropriate to do so and be careful not to have adverse margins.

I will tell you, however, the rivalry in the PP&S segment is intensifying, and it is a very challenging environment out there. I think there are some in the industry that have different margin requirements than we do and expectations; and so, we get a premium, we continue to get a premium, but there are limits to the gap that you can maintain over someone else. So, we don't want to be foolish. I think we want to be aggressive, but measured, in how we approach the marketplace from a pricing standpoint.

I would just make one other observation about margins -- and that's -- particularly in our PP&S platform, again, as we are most challenged, you can see the impact of the lag just by looking at gross margins last year at 15.3% versus this year at 12.7%. So, they can be impacted significantly by the movement in prices and competitive pressure in that market.

Sure. And then, one final question. You talked about inventory correction among your customers as a driver of lower volumes. Obviously, the -- or not obviously -- but I'm assuming the end market demand did not decline as much as your revenues did. How do you see the inventory in your supply chain now? And have we run the course of correction, or do you expect to continue -- for your customers to delever their inventories going forward?

That's a great question -- and it's a difficult one for us to answer, because of the lack of real transparency into the window of the customers' inventory levels at all times. I think it's going to depend on where this economy heads. If we start to see some settling and this -- sort of some clarity around where things are headed, I think you'll see less caution by our customers. But they are being very, very careful, particularly in Europe and here right now -- and even to a certain degree in Asia, for the first time in quite some time, there is just a degree of uncertainty around the near-term future that our customers are sharing with us. And therefore, they are going to be more cautious. And sometimes we have hurt ourselves a little bit by our extraordinary delivery performance, in that we are a lot of their safety stock; and they are increasingly dependent on us to deliver quickly, because they have become accustomed to it. So, they can run down a little bit here.

I think the other thing is -- in a deflationary environment, which we may be facing or starting to face in some of these raws, customers are smart, they're very smart. And they're going to not keep any more inventory than they need on hand, if they have a perception or any fundamental belief that you're going to see some reduction in prices of raw materials. So, we are kind of facing all of those things right now. The key for us is driving new business growth, because our new business that we're going after -- it is priced right. We don't go after transactional business any longer.

So, when we bring new business flow into the Company, it's all very accretive and helpful to us. And it's the kind of business that is done on a value-added basis with customers. You know, our new business flow remains solid, our lost business hasn't taken any dramatic upticks, other than the selective pruning that we have been talking about. So, we think we're -- fundamentals are in good shape, but we just have to get through this period of cautionary behavior by our customers.

Okay, okay. Thank you very much.

Mike Sison, KeyBanc Capital.

Nice quarter in difficult times. And I'm just curious -- the ColorMatrix business, being in Cleveland, it's certainly a very, very good business here. Can you give us any update on how they are doing here in the third and the fourth quarter, in slowing conditions? Are they having issues with raw materials? Just maybe a little bit of color there.

Yes, I'll just provide a brief update. Their performance year over year in the third quarter had slight uptick in revenues; relatively flat EBITDA, principally just due to a September decline in PET consumption, almost entirely in Europe, with unseasonably cool weather. And that is actually almost entirely recovered in October. On an LTM basis, their EBITDA is actually up year over year -- about $3 million. So, they are continuing to do well, even in these tough environments. And like us, they, I think, do their best to manage raw material inflation to the best that they can.

Okay. Great. And a quick one for John. I noticed your market share in liquid colorants is great, and looks like there is good opportunity for performance additives and fluoropolymers. Is that an area that you could maybe do more acquisitions over time, to build up those businesses?

Well, I'll leave the acquisition comment to Steve and Bob. But really, one of the things that really struck me the more we learned about ColorMatrix -- and we have been looking at ColorMatrix for quite some time -- is their ability to color some very challenging engineered materials. This fluoropolymer business that they have, the silicone business that they have, just are great technologies that are areas for growth. So, we really do see some advantages there in unique materials and the tie to engineered materials business that we have here.

Yes, Mike, this is Steve. I will tackle the acquisition question. I mean, if the opportunities emerge, certainly we would be on it. But I will tell you that I don't see anything out there that's going to give us any technological advantage, or even be on par with what we just acquired. These markets are growing very nicely, and we expect them to continue. We expect continued conversion into those higher-end materials. So, I think it's more about investing in the platform we have. We have the best available. It's more about getting more feet on the street out there and getting the story out and penetrating these markets that are already in place and growing nicely. So, would we hesitate to take on an acquisition? If it were priced right, I'm sure we'd consider it. But we've won the prize in this thing, and now we have to go make it work for us.

Great. And last question -- when you look to 2012, what type of growth do you see ColorMatrix providing? And if you think about the size of your sales organization and the breadth that you have there, could you see sales maybe accelerate, given your commercial organization longer term?

I would say that we think it's entirely reasonable that we could see double-digit revenue growth next year. But if I may convert that into an underlying EPS expectation, I would also add that we do plan to invest in this business. There are commercial resources that we would like to add. So, as you think about those incremental sales yielding higher level of EBIT in years one and two, that is muted to a certain extent by these incremental investments, which will drive growth at disproportionately higher rate, as we said in the call, in years three and beyond.

Great. Thank you.

Steve Schwartz, First Analysis.

I guess if we could talk a little bit about the pruning. To what extent did that help your gross margin? And is it okay to expect that, or are there other factors behind -- that you are looking for, coming from the pruning?

I think the most significant impact that we have seen from that, Steve, has been in our Color business. And we have expanded gross margins year over year from 23.4% to 25.1%. And a lot of that is assignable to those pruning actions, where we've exited low-margin business. I think that pruning is always going to be part of our strategy, going forward. It's difficult to say what the impact is, going forward, on any of our businesses; but you can clearly see it in Color this quarter.

Okay. And --

I think as -- Steve, just to add is -- as the raw material inflation slows, I think our pruning actions will slow, as well, because the confrontational discussion about pricing and the reality -- the inevitable reality of dealing with the transactional customer who has to pay up for these added costs, that the catalysts for that will subside. So, that doesn't mean we will stop pruning. I think it's, as I've said for a couple of years now, it's an iterative process; but it is certainly accelerated during periods of high raw material inflation, by design.

Okay. And then, just as a follow-up, if we could talk a little bit about PP&S pressure. My understanding is that even that business, while it's not Specialty, you are selling into some engineered applications with automotive and so forth. So, I want to believe that the weakness there, the pressure you're seeing, is something that's more than just somebody stealing a one-time order from you. Can you help us understand that, and maybe where my perspective is off?

Let me take a crack at this, and then, Bob, feel free to follow up. There are elements of PP&S -- the last three to four years, we have directed a sales force for new applications to work on certain Specialty applications. But they're very low volume. And it takes -- when you have been running a business that was semi-commoditized, it takes a really long time to penetrate markets when the volumes are so small. And so, yes, we have certain segments in the business that aren't succumbing to price pressure, that maybe aren't as desirable by volume-based competitors.

But I will tell you, where you have big-volume accounts -- and that is still the very guts of our business, the heart of our business is in big-volume accounts, there is constant pressure that has been exacerbated by this increasing raw material inflation. And I don't know that this is new to PolyOne, I think we've been fighting it for quite some time. But we are seeing it surface in a bigger way of late. Now, we are hanging in there; but sometimes we are forced to make some very, very difficult decisions. And we are not losing a lot of business, but it really does affect our ability to get the appropriate pricing when raw materials are on the increase.

So, I think that, coupled with the chronic lag of two to three months in pricing, are the very reasons why PP&S isn't performing at the level we had hoped. But I think in the setting that we are in --and you have to go back and look at the history of what it took to be successful in that business, and what profitability degree we had when we had housing, the biggest market segment that they serve, working in our favor, and now it's a headwind. I am pleased with how they are doing. I have to tell you -- I wish they were doing better, but when you look at the end market demand that they have, I think they're doing a great job.

Okay. It sounds like it's not like you are losing an automotive platform, and you have to wait out a three- or four-year cycle before you might get some of this back. It sounds like, that given the change in the economic environment, you might be gaining some of this business back on a quick turn.

I would tell you that we are not seeing any increased levels of lost business. What we are seeing are some subsidence in same-store sales; but really, pain in the housing-related end markets. And where we are seeing the most pain in PP&S is in our ability -- in our inability to get pricing through in this environment. It's not a volume issue for us there, it's price.

Okay, that's great. Thank you, Steve.

Christopher Butler, Sidoti & Company.

I apologize -- I had some trouble connecting right in the beginning, so if this has been covered, I apologize. But did you give us any sense on the volumes that you did in each of the segments here for the quarter?

We actually added that into our 10-Q, so I'd refer you to that, just for ease of administration. But you can get that by each one of the segments in there, Chris.

Okay. And just an interesting question that came up for me was -- with your customers getting a little choppier with their orders and more likely to give you a last-minute large order, is that something that you can benefit from, as far as increased prices offset some of the disruption that it causes you on a production level? Or is that something that you just have to deal with in this environment?

We try. And we have -- for rush orders, we have expediting fees -- I think it always comes down to being very situational. And our customers do pay us a different price for a smaller volume, which that's offset by the cost of a shorter run for us. And the way this kind of maps out, it's sort of a push. So, I wish we could turn it to our advantage; but the facts are, first and foremost, we are going to keep our customers happy and keep them in supply. And to the degree that there are incremental costs that are associated with doing that, we will expect them to pay for those. But I wouldn't say it's something that we could really turn to our advantage.

And, shifting gears, your CapEx came up a little bit in the quarter. Could you give us a sense on what you're working on there? And any guidance for next year, with ColorMatrix being added in there?

Yes, I think we are still going towards a number that's probably close to $50 million this year, ex any ColorMatrix effect. ColorMatrix will probably add somewhere between, let's say, $5 million to $7 million to that number next year, with what I would describe as some incremental investments to help support the growth, as we talked about earlier.

I appreciate your time.

(Operator Instructions) Roger Spitz, Bank of America Merrill Lynch.

For ColorMatrix, can you give us a sense of synergies -- timing to obtain the synergies and cost to get the synergies?

Well, it's not a cost synergy play, Roger. Really, it is -- pardon? And really, as we articulate our strategy going forward with the acquisition, it's about expanding the top line, leveraging their technologies, and accelerating growth. So, I actually can't make any observations about cost synergies.

And I think what we have said is, Roger, is that we expect over the next three years to be driving this thing, well into the mid-20%s growth rate for earnings. And some of that's -- and that's on ColorMatrix's own front. We also would expect -- we will go as fast as we can here, but we are going to expect on the same time horizon that we will begin, probably in the next year and a half or so, to see growth in PolyOne's camp, based on the technology that leverages through our master batch operations.

I am hopeful and optimistic we can make that happen sooner rather than later. But you have heard our guidance for the next two years, and that's about -- it gets kind of fuzzy after that, other than it looks really good long-term for us on both the ColorMatrix front, as well as the PolyOne synergy side. But there won't be any -- there are no plans to remove cost from this business. There is no public company board or any governance issues like that. We're not moving their headquarters. They're going to be a standalone business unit. So, our focus is going to be on the fun part, which is growth, and accelerating that.

Excellent. Can you give a sense of cash tax guidance for the full year? You had mentioned at least book taxes in the press release.

34% is actually a pretty good number. Historically, it wasn't because we had NOLs, but we effectively burned through those with the SunBelt deal this year. So, that's a pretty good number to use for cash taxes, as well.

Oh, perfect. Thank you very much.

Bill Hoffmann, RBC Capital Markets.

I just wonder if we -- on the ColorMatrix side, you could talk a little bit about what the market penetration is in some of these major regions, and whether this higher growth rate is -- maybe by geographic region, like in Europe, Asia, and North America, et cetera. And then, also, maybe in the emerging markets, where the business stands versus what its opportunities are there.

Yes, let's have John answer that question. He has been living with this, and it's pretty exciting news. So, John?

Hi, Bill. As we talked about earlier, certainly Western Europe is a strong area for ColorMatrix. They have about 29% of their sales there. I guess the thing that excites me the most is seeing how the team, after roughly ten months of focus on the sale process, has jumped off onto airplanes and already started looking at the growth. And I know some of the guys over there have been down to South Africa, there's a group in India, and that's really where the exciting areas for growth are.

If you compare it to PolyOne, for example, about 4% of our products go into PET bottles, where ColorMatrix is the undisputed leader in additives and colorants for PET bottles. And you see these in things like water bottles, the blue-tinted water bottles, for example, and juice containers we talked about. And the real growth for those are in these emerging markets. And that's where I see the real benefit occurring.

I think the liquid colorant growth rate, John, the global growth rate, is 6% to 8% annually. Is that correct?

That's correct. And the thing that -- I don't want to lose sight of, not only is ColorMatrix a liquid colorant supplier, but they're also very, very strong, more than half of their business is in additives. And that's so important to tie together with the colorants that go into these products.

I'd also add, the fluoropolymer growth rate is 9% to 10% a year, and this is without the muscle of a large company in this space behind them. So, we think that we can create incremental growth opportunities on that front, as well. And the silicone business, what -- that's growing 7% or 8% per year.

7% or 8%. And again, that's in North American business only. So, we think we can really help expand that globally.

So, the thought here is that with PolyOne -- obviously, Steve, and you guys have been doing over the last number of years, with more feet on the ground, broadening the target market, you can pick up these growth rates even further from a penetration standpoint?

Yes, we think we can help accelerate growth of the fundamental ColorMatrix growth rates -- which, by the way, again, they have averaged 10% of revenues, 16% in earnings, even through that recession. Not many people in this space have been able to do that, when you put that '08, '09 numbers in there. But in addition to that, they are going to help PolyOne grow, as well, because of some of the technologies that we can migrate into some of our color master batch and additives business, as well.

Excellent. Thank you. And then, just one other question. With regards to the Distribution business, I wonder if you can help us -- a little bit of guidance on how that looks coming into the fourth quarter here. You talked about the inventory destocking by some of the customers. But in Distribution, do you guys see -- what's the visibility there, and what's it look like for the fourth quarter? Is it going to be higher than normal seasonal downturn?

I would say Distribution, they are really on a really fine trajectory right now. And while their same-store sales are down, just as everyone else is, because customers are producing less goods, they are having a lot of new application expansion, new business that's coming in. So, we feel pretty good about the continuance of growth in our POD platform. And they'll just have to make sure -- and we have invested in sellers there, and we will have to make sure that the same-store sales are more than offset by new growth rate. And that's what has to happen in that business.

We also have an opportunity to grow a little bit in Asia. As you know, we've expanded in the third quarter and opened a warehouse in Asia. We collected our first order this quarter for that business. That's not enough to move the needle, but it's a combination of this and the execution, I think, on the North American front that will cause them to grow. And they'll be -- the typical fourth-quarter downturn, but from the standpoint of fundamentals, I think they're still in very good shape.

But just for a little bit more on the typical fourth-quarter downturn. Are you expecting to see it higher than normal this year? Or any sense of what that's going to look like?

I think we'll see -- to some extent, I think that seasonality could be exacerbated a bit by early in the year higher than probably reasonable expectations about where housing was going to be. And so, there could be a little bit of pullback there, when you just compare first half versus second half. But otherwise, I don't know that there's anything unusual to report about seasonality.

I think what will drive a lot of the same-store sales results for Distribution will be the anticipation, or lack thereof, of price increases by these customers. And again, to a certain degree, we create a bit of a problem by virtue of our speed of responsiveness with our delivery. And so, if they -- if customers anticipate that prices are going to be declining in those products in their portfolio, that POD has in their portfolio, they will wait until the last minute and run their inventory down to the very last box of pallets, if they can, to obtain better pricing.

So, if we start to see a lot of movement -- further movement in pricing, it could affect them within a month. Hopefully, over a quarterly period it evens out, unless there is a belief at the end of the year that January 1 is somehow suddenly going to create a major change in pricing. And then, that could certainly affect same-store sales. So, pretty difficult to predict from the standpoint of the pricing impact, but it's certainly out there.

Great. Thank you for your help.

Rosemarie Morbelli, Gabelli & Company.

I apologize if you have talked about this, as I also had difficulties getting onto the call. Did you -- could you give us a better feel as to what your expectations are regarding the joint venture you are setting up in the Middle East?

Actually, Rosemarie, thanks for asking. We didn't spend as much time on that, because it kind of pales in comparison to the ColorMatrix opportunity. But we're still excited about it. This is a great opportunity for us to get into a market that we think will grow at a solid double-digit rate. It is -- the Middle East has a relatively small market size at this time, and we have about $3 million of sales into the region. But this opportunity to work with Juffali as a terrific joint venture partner, I think is going to help us accelerate our sales and position us better. Because as you've probably all heard and know, a lot of multinational companies are positioning themselves in the Middle East.

Juffali has been a sales agent for several years; they've been in business since the late '40s. They have successful joint ventures with over 20 multinational companies, like Dow Chemical, DuPont, Mercedes, IBM and Electrolux. So, we think -- we are very pleased that we have gotten, we think, the best partner we could possibly find in Saudi. And again, it's a 51%/49% joint venture. So, we're going to start in that business with our color additives business, and that will be our entry point into Saudi Arabia.

And this is an area, I am assuming, where you will introduce the liquid colors from ColorMatrix?

Well, eventually we will. But again, as a joint venture partnership, we are starting in a very finite and well-defined area, and that is our master batch color additives business. And we will have to evaluate whether the liquid technology is converted into this joint venture. Again, we like the partnership, and we like sharing, but we haven't carved out an agreement yet around our liquid color in that region.

And -- okay, thank you. And on the ColorMatrix, if I understood, probably earnings have grown at 16%. We are talking about operating earnings, or are we talking about net income?

That's EBITDA.

EBITDA. Okay. And -- I mean, there is nothing to sneeze about on EBITDA growth of 16%. And yet, you are looking at 25%. Is that solely because of what -- more feet on the ground from PolyOne? Or are there other factors that I have missed somehow on the call?

Well, I think the first thing I'd say is that that is a longer-term trajectory of what we see from a growth standpoint. I'd remind you, Rosemarie, next year we see $0.02 to $0.03 EPS accretion, $0.10 to $0.12 in 2013. But the growth opportunities are -- as you just mentioned, where we can leverage our global scale and presence. But we also see opportunities to leverage their technologies across our own product portfolio and offerings. And I think those are probably the two most substantial drivers. We also plan to make investments in the business, from a commercial resource standpoint, as well as expansion outside the US.

I will also tell you that they have a really nice technological pipeline, and we would expect the conchronic reduction in ramping up of new products that could continue to come out of their pipeline now. And we are familiar with, to a certain degree, what they have in there. So, they have a next-generation barrier coating that we think is very exciting.

So, there are a lot of reasons to be optimistic that this business can turn EBITDA of 25% plus. And that's really fundamentally what happened with GLS, and then some, when we had our chance to make the right investments and provide a little synergistic coaching on things like procurement, et cetera, and let them still run the business in the way they know best. So, I feel confident we can do the same thing in this space.

So, is it fair to say that this EBITDA growth of 16%, let's call it 16% to 17%, will continue for the foreseeable future? And that by maybe 2015, you would have had the opportunity of the -- introducing new products and pushing the product lines for your own channels, and by then it could translate into a 25% growth rate?

Well, we're not going to project, I think, as specifically as that. I'll tell you that if it takes us until 2015 to get that done, I will be most disappointed. So, we'll see how it goes, but we're not --

Okay.

We're just going to give you the next two years.

Okay. Thanks, that's very helpful.

Katina, we have time for one more question, after which Steve will make some closing remarks.

Gregory Macosko, Lord Abbott.

Thank you, my questions are answered.

Well, thanks. Thanks, Katina, and I want to thank you all for your participation today and your continued interest in PolyOne. I do have a few remarks I would like to make in closing. Prior to embarking on our journey to become a specialty Company, I think those of you who have known us for a long time know our earnings sort of lived and died by our equity investments and our PP&S segment. And as housing and automotive markets and commodity raw materials swung wildly, that's kind of how PolyOne did. It was an unpredictable and volatile situation, and no one really enjoyed it -- not to mention it did nothing to take advantage of our deep core knowledge and technical competency in material design and formulation.

And today, it's extremely different. Now, we certainly still participate in these markets, but we are far less dependent on them. And we have shed our joint ventures and grown our sales in less volatile end markets. With the addition of ColorMatrix, more than half of our operating income will come from Specialty. But I want you to know we didn't just agree to buy ColorMatrix so we could check a box related to our goals. We acquired ColorMatrix because it's at the very heart of our four-pillar strategy. And by now, you all know this is not a paper strategy; it's become part of the fabric of our Company. It drives our investment strategy, our M&A activity, and our overall decision making. And speaking of goals, we're putting the finishing touches on our goals through 2015, and plan to share those with you early next year. And I assure you, you won't be disappointed with our aspirations and our expectations.

I personally feel more strongly than ever that PolyOne remains undervalued, and I am convinced that as we continue to improve our underlying mix of earnings and become a specialty company, we expect our valuation will rise accordingly. As Bob mentioned during his remarks, we continue to believe dividends and share repurchases provide a balanced means for rewarding our shareholders. However, as long as the valuation of our equity fails to appropriately reflect the improved earnings mix and the growth profile of our cash flow and earnings, we will opportunistically buy back shares at accelerated pace. I appreciate all of your time today, and we look forward to seeing many of you at our Investor Day early next year. Thank you again, and this concludes our call.

Ladies and gentlemen, thank you for your participation in today's conference. This concludes the presentation. You may now disconnect. Good day.