艾利丹尼森 (AVY) 2008 Q3 法說會逐字稿

Welcome to Avery Dennison's earnings conference call for the third quarter ended September 27, 2008. This call is being recorded and will be available for replay at 2 PM Pacific time today through midnight Pacific time October 24th, 2008. To access the replay, please dial 800-633-8284 and 402-977-9140 for international callers. The conference ID number is 21356709.

I would now like to turn the call over to Eric Leeds, Avery Dennison's Head of Investor Relations.

Thank you. Welcome everyone. Our discussion today will reference the earnings release that we issued earlier along with the slide presentation titled Third Quarter 2008 Financial Review and Analysis. Both documents were furnished today with our 8-K and posted at the Investors section of our website at www.investors.AveryDennison.com. Our news release references GAAP operating margin, which includes interest expense, restructuring, and other charges included in the Other expense line of our P&L. Also referenced are transition costs associated with acquisition integrations. Restructuring charges and integration transition costs tend to be fairly disparate in amount, frequency and timing, and later the nature of these items will focus our margin commentary on pretax results before their effect and before interest expense. This detail is in schedules A2 to A6 of the financial statements accompanying today's earnings release. Slide 16 of the presentation contains a reconciliation of the effects of acquisition integration costs.

We also remind you that we'll make certain predictive statements that reflect our current views and estimates about our future performance and financial results. These statements are based on certain assumptions and expectations of future events that are subject to uncertainty. The Safe Harbor statement included in the documents that we published today, along with our recent Forms 10-K and 10-Q, address the most important risk factors that could cause actual results to differ from our expectations. Here today are Dean Scarborough, President and CEO; Dan O'Bryant, Executive Vice President and CFO; and Mitch Butier, Corporate Vice President, Global Finance. I'll now turn the call over to Dean.

Thanks, Eric, and good morning. As all of you know, the economic and market challenges that we faced during the first two quarters have worsened. As we navigate this economic storm, I am confident we're taking the steps that will enable us to continue to strengthen the foundations of our business for the long term and in the near term to increase our free cash flow to record levels. Our strong cash flow gives us the flexibility to invest in future growth platforms and to pay down debt. Importantly, despite the difficult credit markets, our access to capital remains good.

As we look at the road ahead, we are reducing our outlook for the balance of the year. This mainly reflects rapidly rising raw material costs and our expectation of further deterioration in economic conditions. Reviewing our business segments, we saw a sequential slowing in the growth of pressure sensitive materials. Emerging markets continued to grow and in the quarter more than offset the decline in US sales and a flat European market. The weakness in the quarter was partly due to packaged goods companies holding off on new product launches and redesigns. We do expect this activity to resume when consumer confidence increases and the economy begins to rebound. In addition, raw material inflation continued to escalate for our pressure sensitive business, outpacing price increases, restructuring, and other productivity initiatives. We are raising prices again this quarter and at the beginning of the year in several of our businesses.

Despite the recent decline in oil prices, inflationary pressures have not abated. Reduced capacity in specialty papers and hurricane-related shortages in some specialty chemicals have continued to drive higher raw material costs. Retail information services was again impacted by slow retail conditions in North America, as well as a further slowing in Europe. Retailers are responding to slow apparel sales by dramatic reductions in their inventories. This impact caused an unprecedented 7% drop in sales for the quarter. We are taking additional actions to reduce fixed costs in this business as well as raising prices. Despite the extraordinary downturn in the apparel market, RIS continues to build competitive advantages in data management, its global footprint, quality, and customization. We do expect this business to deliver strong growth with expanding margins when the US and European apparel markets return to normal.

Turning to office products, our team had a challenging quarter. It faced continued market softness, with organic sales declining by approximately 4%. This decline reflected weak consumer demand in retail, and slowing in the commercial channel. The back-to-school season, which spans across the second and third quarters, was down year-over-year. Inflation also impacted office products. This inflation was partially offset by price increases and increased productivity. Additional price increases will take effect on January 1st. Despite a tough environment for office products, the business continues to leverage its powerful Avery brand and proprietary products to be an outstanding cash flow generator with low capital requirements. In our other specialty materials and converting businesses, which comprised less than 10% of our revenue, we saw sales declines because of softness in automotive and housing construction.

The RFID business continues to grow rapidly. Revenues for RFID inlays tripled in the quarter, driven primarily by orders for item level tracking and apparel as well as other supply chain programs. We do continue to see growing interest in RFID, mainly in the retail industry, where we have approximately 15 pilot programs currently underway.

We continue to push ahead with the Paxar integration. It remains on track to deliver $120 million in cost savings. Although RIS currently faces a difficult operating environment, the Paxar deal offers clear cost advantages and a more effective and efficient global footprint. The acquisition remains an important strategic move that has extended our market presence and solidified our leadership position.

Our priorities in this environment are fixed cost reduction and improving cash flow. ELS is building momentum across the organization, and we expect our rate of productivity to further accelerate. We're further trimming capital expenditures and working capital and we're planning additional cost reduction actions, including reduced work hours and reduced spending in most areas. But we also continue to invest in the future, focusing on promising growth platforms, such as emerging markets, retail information services, and RFID, which will help position us solidly for the economic recovery. For example, we recently announced a new pressure sensitive materials distribution center in Japan to leverage our low cost Asia manufacturing platform.

Now I'll turn the call over to Dan for a more detailed review of our third quarter financial results and our revised outlook for the remainder of the year.

Thanks, Dean. Let's begin with the financial review on slides five and six of the handout. Net sales were up 2.6% due to the benefits of the DM label acquisition and currency translation. On an organic basis, sales declined 2.4% compared to the prior year, and I'll provide some color on that in just a few moments. Operating margin before charges and transition costs declined by 240 basis points versus prior year. The year on year decline in margin reflects raw material inflation and reduced fixed cost leverage, partially offset by productivity improvements and pricing actions. We anticipate continued declines in operating margin in the fourth quarter, which I'll discuss more in the context of our guidance. Our annual tax rate is now expected to be in the 8% to 10% range for 2008, subject to changes in our geographic income mix. We believe tax rate in the range of 17% to 19% will be sustainable for at least the next few years, reflecting our geographic income mix and other efforts.

Let me walk you through the story on top line sales on slide seven. As I said, reported sales were up 2.6% compared to the prior year. Currency translation added 4.5 points of top line growth and $0.03 of earnings to the quarter. Looking at organic growth trends on a regional basis, sales in the US declined approximately 5.5%. In Europe, sales before currency were down 3%. Sales in Asia grew just over 0.5% on an organic basis, slower than in Q2, primarily due to the weakness in apparel exports to the US and Europe that impacted retail information services. Our raw materials business in Asia grew double-digit, but its growth did slow sequentially, reflecting the global nature of the current economic environment. Sales in Latin America were up 5% versus the prior year on an organic basis, which is in line with the growth rate of the second quarter.

Taking a look at margins on slide eight, on an adjusted basis operating margin declined by 240 basis points. Slide nine summarizes the key factors driving the change in company operating margin. Excluding integration costs, gross margin declined by 270 basis points compared to the prior year. Primary driver has been the rapid raw material inflation that we've been talking about all year. While our selling prices are now on the rise in just about every business, increased raw material inflation continues to outpace our price increases. And of course we're feeling the effects of reduced fix cost leverage while we continue to accelerate productivity improvements. This is a time when our Enterprise Lean Sigma process really makes a difference, but even with our best efforts, we won't be able to completely offset the level of inflation we're experiencing. We're well underway in the planning for additional cost reductions. We estimate that raw material costs were up about $40 million in the quarter, compared to the same period last year. For 2008, we have raised our estimates for raw material inflation from last quarter's $110 million, to a current estimate of approximately $125 million, with most of the increase impacting the fourth quarter. And I'll comment further on that when I talk about our earnings guidance.

Turning now to operating expenses, before integration costs, MG&A expenses as a percentage of sales improved by 20 basis points compared to the prior year, which partially offset the gross margin decline. Absolute spending on MG&A was up about $4 million before integration expense. The combination of currency translation, MG&A related to the DM label acquisition, and incremental amortization of acquisition intangibles represented more than the entire increase. We offset a portion of these higher costs along with general inflationary pressure through our productivity efforts.

Turning to segments on slide 10, pressure sensitive materials reported revenue growth of 8% to $936 million. Organic sales growth was approximately 1%, reflective of economic conditions, and a reduction in new product launches and redesigns by packaged goods companies consistent with the weak retail environment. Looking at organic sales growth trends for the roll materials business, North America declined low single digit and Europe was flat versus last year. The majority of this business right now is in Western Europe and North America. Europe was accelerating in the first half of the year, but in Q3 it slowed and we expect that slowing to continue. Most of our emerging market businesses delivered solid growth, but the trend is weakening, reflective of the global impact of economic softness. The graphics and reflective business was down mid single digits before currency. This business is more cyclical than the others, with the US market slowing the most. Excluding restructuring and other items, operating margin for our pressure sensitive materials business declined 260 basis points versus the prior year to 6.9%. The decline in pressure sensitive materials margin reflected increased cost inflation and negative product mix that more than offset the initial benefits of this year's price increases, as well as restructuring and other productivity initiatives. Now, as we said last quarter, we believe that there was a substantial risk of more inflation in the future and that has been the case. While we continue to raise prices, we no longer expect that our pricing will have caught up with inflation by the end of the year.

Now, let's turn to retail information services on slide 11. Reported sales for retail information services were $379 million. Organic sales, as Dean said, were down about 7%, mainly due to continued weakness in the domestic apparel market and a slowdown in Europe. Our major concern here is the decline in consumer confidence. Retail information services has very high variable margins, so volume declines have a big impact on our bottom line. Operating margin before transition costs, restructuring, and asset impairment charges declined 170 basis points to 1.6%. Integration savings along with other productivity actions were more than offset by the combined effect of reduced fixed cost leverage from lower revenues, employee related and raw material cost inflation, and about $2 million in incremental intangible amortization.

Now, on slide 12 we've already discussed much of what's impacted our office and consumer business. As reported, sales were down 2% from a year ago and organic sales were down approximately 4%, reflecting soft end market demand at retail and in our commercial business. Corporate belt tightening does impact this segment. Of course, this year's back-to-school season was soft, although we did fare relatively well in mass market retail. Ex restructuring charges and other items, operating margins declined 150 basis points to 17%. While the environment is working against us, this business continues to benefit from its strong competitive advantages and operational efficiency. Here too, pricing remains behind inflation. Additional price increases are scheduled to take effect January 1st.

Let me move on to slide 13 for a look at our cash flow. Using our strong free cash flow, we reduced indebtedness approximately $100 million in the quarter. Because currency translation had an offsetting effect on shareholder equity in the quarter, our ratio of debt to total capital on September 27th was again 51.9%. We continue to reduce working capital, which is helping us in the current demand slowdown. Year-to-date cash from operations has improved by nearly $80 million. In addition to working capital improvement, year-to-date capital expenditures were reduced by nearly $40 million, offset by about $10 million of higher software spend.

Now, on slides 14 and 15 we've set out our revised outlook for the remainder of the year. As a result of increased inflation, weaker segment mix, and our expectation that third quarter trends will continue into the fourth quarter, we have recalculated adjusted EPS for the full year to a range of $3.15 to $3.35 a share. The key issues for the balance of the year will be demand, inflation, and our price increases. We obviously still have a price inflation gap. Factored into this guidance are productivity increases, Paxar synergies, and restructuring benefits. We are expecting operating margins around 7%. Currency benefits our top line for the year by 4%, and we've lowered the tax rate for the full year guidance to 8% to 10%. Net of currency and acquisitions, we now expect 2008 sales to be down approximately 2%. A 2% revenue decline with 7% operating margins is nothing we're proud of and not reflective of what this company has delivered, nor is it what we expect it will deliver under normal market conditions. Nonetheless, when we consider the current extraordinary environment and factor in our expectation that we'll deliver record free cash flow this year, it makes us feel good about the very hard work of all of our employees and the enormous resilience of the Avery Dennison franchise. Now, with that, let me turn the call back to Dean for some additional thoughts.

Thanks, Dan. We will continue taking steps to navigate the near-term challenges of a weakening global economy. We are aggressively adjusting pricing to reflect the rising cost environment, and although we still have a gap between cost increases and price realization, we are getting increases without losing market share and I remain confident that we'll close the gap. We are accelerating our Enterprise Lean Sigma program, which is enabling us to both reduce costs and to serve customers better. We significantly tightened our belts, reducing hours and discretionary spending, and if this environment persists, we will accelerate structural cost reductions to further reduce fixed costs.

As a result of these efforts and reflecting the underlying strength of our core businesses, we are achieving record free cash flow. This strong cash flow gives us greater financial flexibility in this environment, and enables us to better adapt to the rapidly-evolving economic situation. Our near-term focus will be on enhancing cash flow and improving margins in this environment. We will use this cash flow primarily to reduce debt and to invest in critical growth programs such as RFID and emerging markets. We have a strong global presence and reputation, and as I've said in the past, the tougher times get, the more customers rely on strong partners and the more opportunity we have to attract new customers even while overall volume may decline. Now we're happy to take your questions.

(OPERATOR INSTRUCTIONS). Your first question comes from the line of Jeffrey Zekauskas with JPMorgan.

Good afternoon, this is Silke Kueck for Jeff. How are you?

Hi, Silke.

I have a couple of questions. Can you speak about how much pricing you've achieved year-over-year or how much was price out of the organic growth, maybe for the company as a whole and maybe you can also clarify this on a segment basis?

We have gotten price increases through, not as much as we would like to have seen, but prices are rising. We had about $15 million, roughly, in the quarter of price increases across our businesses. It happened in office products and several of our materials business. It was really spread throughout most of the company. And as we speak, we're still in the process of implementing some of those increases, with more planned in January.

Secondly, on the RIS business, the -- do you have any read yet on forward or apparent -- I understand it's questioned every quarter and now it's difficult to tell, but you're going to your seasonally stronger quarter in the fourth quarter. And is there any improvement at all or should we just be very cautious for the fourth quarter and also going into next year or the next six months?

For US business, in other words business that's sourced from Asia primarily going into the US, we actually saw quarter-over-quarter it was about flat. In other words, we didn't see additional reductions during the third quarter. Where we did see additional weakness was in Europe. So our forecast certainly for the fourth quarter basically anticipates about the same level of weakness that we saw in Q3 going forward into Q4.

Okay. And last question. On your short-term debt, the $726 million outstanding short-term debt, how much of that is commercial paper still at this point and what's (inaudible) offshore?

We still have between $200 million and $300 million roughly in commercial paper outstanding right now, so we're in the market. It's been a rough market, but we've been able to still achieve our funding most days.

Okay. Thanks very much. I'll get back into queue.

Your next question comes from the line Reik Read with Robert Baird & Co.

Can you guys talk a little bit more about the raw material inflation and I guess a couple of questions out of that is -- Dean, I think as part of your comments you mentioned specialty paper capacity had come down. Can you talk about what's happening there and what might be the pace of the paper changes when that might level out? And then with oil coming down, when might you think that you would see some relief in that category?

Sure. Remember, in terms of our total raw material costs, about half is paper and then maybe a little higher than that, and then we have about 25% films and then the balance are specialty chemicals and resins. So in the US specifically, a lot of specialty paper capacities come out of the marketplace with a number of consolidations and capacity take-downs. So we still are seeing price increases in that sector and expect it going forward as well. And then in the specialty chemical and resin area, we did see some hurricane-related shortages show up. I think that will be a blip as capacity comes back online. It will probably take a couple of quarters to sort out.

And I just think there's a lag effect on the oil-based commodities. We do expect to start to see some relief on oil-based commodities, especially around films, I would say going forward. Oil prices went up so fast, I think a lot of the suppliers never really recovered back to a normal margin level, so we're still seeing that. Now, this may seem a little counter-intuitive, but as far as paper prices going up, I think that's actually a good thing for us in that pressure sensitive business, because everyone in the marketplace is feeling those pressures. And frankly, it gives us encouragement that the additional price increases that we announced will go forward.

With oil having come down as much as it has, as quickly as it has, has there been any buildup in resistance to those price increases, understanding what you just said about paper?

Well, sure. I mean, the kneejerk reaction by every customer is oil prices are down and therefore you shouldn't have to raise prices. But the reality is again, remember, that films against the oil based process, is only about 25% of our spend.

Okay. And then just one more question from me. You had mentioned a couple of times that the mix in PSM has been fairly negative. Can you talk a little bit about what's been driving that and when have you seen historically that that mix -- that that negative mix shift tends to bottom?

Well, the mix is towards -- I should say the highest margin part of the portfolio are squeezable films that are used mainly in consumer packaged goods. And generally we see an uptick when we see more package and brand redesigns, which a lot of people have just frankly put on hold. So generally, once the economy starts to rebound and people do package changes and rebranding, we see an uptick. So it's usually pretty much a coincident indicator with the economy.

Okay. Great. Thanks.

Your next question comes from the line of Joseph Naya with UBS.

Hey, I was just wondering if you might be able to comment on what you saw in terms of any changes in demand throughout the quarter, maybe what you've seen so far in October, if you've seen any trends or shifts there?

Well, it certainly slowed in September. We came out mid-September and said it had been fairly slow in July and August, the slowest we had seen in quite some time, in fact. It slowed significantly more in September. September has been the newsiest month on the economic front in a long, long time. Everybody has reacted to that simultaneously. We saw things slow in September, continuing into October, and our expectation is that the fourth quarter is going to be pretty tough.

In fact, softer overall in terms of volume than the third quarter. So we expect customers to continue to significantly reduce inventories and be very cautious about what they buy. Just some anecdotal things from some of our customers in the label converting business -- they are saying that customers are ordering in smaller lots even more frequently than ever before. So being very cautious about any type of inventory builds.

So you are to a certain extent maybe seeing some continued destocking there or at least very careful management?

Absolutely.

Just one last quick one, on capital spending, what should we be looking for going forward?

Well, we haven't locked down the 2009 year yet. This year, we've continued to reduce capital. We'll be in the $160 million to $170 million range with both fixed capital and IT capital this year, significantly lower than we expected to spend, coming into the year. I suspect we'll be able to keep it something like that or better in '09.

Okay. Thanks a lot.

Your next question comes from the line of Ghansham Panjabi with Wachovia.

Hi, guys.

Hi.

Can you talk about whether you're taking increased down time in the fourth quarter as you try to match your inventory levels with what's actually occurring at the end market level? It seems like this downturn has just become self-fulfilling and customers are reacting towards an expected lousy holiday shopping season and changing their order patterns simultaneously. I'm just curious on your manufacturing side if you're adapting to the same environment.

Absolutely. We've been in the process of not only doing that, but we're reducing our own inventory. So our working capital is also improving and that's certainly what we're planning for the fourth quarter. We're being very conservative, reducing work hours, down shifts, et cetera, et cetera, pretty much across the board.

In terms of the slowdown across the emerging markets, was that tilted towards September? Was it sort of consistent throughout the quarter? Any thoughts there?

I think it was pretty consistent across the quarter. I was in Asia a couple of weeks ago, and our businesses there are feeling essentially the same impacts that the US is feeling, albeit on a different scale. So sales have definitely slowed down and customers are reporting softer business conditions, and they're starting to feel the impact of inflation as well.

Okay. Great. Thanks so much.

Your next question comes from the line of John Roberts with Buckingham Research.

Good afternoon, guys.

Hi, John.

In your short-term debt or any long-term debt that moves into short-term debt, are there any resets or restrictions that we need to think about if the business were to weaken materially further?

Let me start by [restating] what I said to Silke -- our commercial paper was about $130 million at the end of the quarter. We paid down a lot during the quarter. But we don't have any issues in the short-term that would concern us. We have minimal debt, about $50 million that comes new due in the fourth quarter. We don't anticipate any issues with that. Our bank covenants from where we stand now are fine. You ended your question if things get materially worse. If things get materially worse -- it's a matter of how much worse. From what we can see in the outlook and the current run rates, we're comfortable with our covenants over the next year.

The tax rate reduction from 14% to 16% down to 8% to 10% and then the sustainability of something in the mid-teens for the next few years, what are some of the other factors that are playing into that?

Well, in the short-term, a good part of it is simply geographic income mix. The US has high tax rate relative to most of the rest of the world and the US economy is feeling the punch the worst right now. So that's part of it. And part of it continues to be the effect of tax planning that we've done in other parts of the world and the [accounting] regimes of today recognize those things in a lumpy way, so we're never recognizing the whole year's effect until we get into the fourth quarter. So the lumpiness will continue in our rate, but the combination of where we earn our profits and the structural things we've done give us pretty good confidence over the next two or three to four years, that we'll be in the high teens. And it will be volatile as we go. So there will be more quarters like the current quarter where we have exceptionally low rates.

US and Europe will both be above the high teens, won't they?

Well, the US statutory rate certainly is. Europe depends on the country. Most places are higher than the teens. Most places are in the 20s, but not everywhere is. And again, it depends on how we've structured ourselves, where we have our debts. There's a lot of factors that play into the actual rate.

Okay. Thank you.

(OPERATOR INSTRUCTIONS) The next question comes from the line of George Staphos with Banc of America.

Thanks, hi, everyone. Good morning. I just wanted to take another swag at the volume question. Would it be safe to say that aside from RIS domestically and RFID, pretty much all the other businesses slowed from third quarter average into the fourth quarter? Would that be fair or how would you correct that?

Yes, actually, I think with the exception maybe of RFID, and the Asian materials businesses, most of the businesses slowed quite a bit. India was still pretty good.

We saw some slowing in the materials business in Asia, but it still was double digits. But it has slowed down a little bit from where we were the last couple of quarters.

Now, is that impacting your ability to keep up with inflation? In other words, is demand decline or deceleration, to be fair, affecting your ability to get pricing leverage?

Well, we're being cautious in the sense that we're trying not to lose market share and we've been successful so far and the -- for example, in our office products business, we were going to raise prices pretty significantly during the end of the third quarter and decided that we were better off not doing a mid-cycle increase and taking most of that increase in the first quarter when our customers would be able to pass it on. So there's an example of being smart about something. We're going to get the increase. It's just going to come three months later. In the materials businesses, frankly, I feel good about our trajectory, but the inflation keeps accelerating a little faster than we can keep up with it and now we're on our third increase this year. So -- and we're seeing good competitive support for those price increases at the same time because they're clearly feeling the same cost pressures that we are. So it's just a matter of timing, and I think it will catch up and it may take one or two more quarters longer than we expected it to.

Dean, what was the last price increase you took on paper in the materials business? Because most of the grades appear to be flattening out.

Well, again, remember we're buying specialty paper.

I understand.

Liners being in -- the super calendar kraft and [glassy] liners being the number one, I don't know exactly. But we've taken one or two increases this year at least.

Okay. All right. Fair enough. Last question, I'll turn it over. Are you suggesting perhaps that there may be more restructuring ahead as we look out to 2009? I forget what the comment was in your formal remarks or in the press release, or the presentation, but you're going to take additional actions depending on the market -- so could we see further cost reductions, capacity reduction, closures?

We're certainly reviewing that now. In the fourth quarter we're definitely tightening the belt and we're reducing shifts, et cetera, et cetera and we will look at other additional restructuring and cost actions. And we're going to do that over the next couple of weeks, and if conditions materially decline, we'll definitely have more restructuring ideas on the table.

Okay. Thanks. I'll turn it over.

Your next question comes from the line of Robert Felice with Gabelli & Company.

Hey, guys, most of my questions have been answered. Just one or two. Where do you anticipate finishing the year in terms of your price cost gap and if the current environment persists, at what point do you anticipate having enough pricing in place to close that delta?

Well, we had come into the quarter hoping to get enough during Q4 to close that gap. We've seen another $10 million or so of inflation impacting Q4. Q3 was about like we expected, but we're getting more in Q4, and pricing came in about $10 million lower. So that gap is slightly less than $20 million in Q4. I think we'll make up a good chunk of that in the first quarter. I do think that inflation pressures will ease as we go, and our pricing will catch up with it. I don't know if we'll make up the whole gap in Q1, but I think we'll make pretty good progress against it.

Sounds like you should be able to offset the bulk of the gap in 2009.

That's the expectation along with the January 1st increases happening in some of our businesses. That's an important part of it too.

What's the magnitude of that increase?

It varies by business, but it's enough if it all goes through to close that gap down in the first quarter, if we don't get any more inflation.

Okay. And then I guess, lastly, in terms of the PSM or RIS businesses, have you reached a point yet where you feel warranted taking capacity out of the system? And maybe to that end you can talk about managing through the downturn here and the actions that are being taken to alleviate some of the fixed cost pressures and restore margins?

Yes, it's really different by business. In pressure sensitive materials over the last three years, we've taken quite a bit of non-productive capacity out of the system. So basically reducing slower, narrower coating lines and moving the volume to our higher, more high speed coatings lines. There's still more of that that we can do that we're going to be reviewing here during the fourth quarter. But volume growth has still been okay, and we do expect that -- even a bad quarter, pressure sensitive volumes look like only decline 1% or 2% at the most, and then we'll see a pretty sharp rebound. We want to make sure we've got enough capacity, even if it's idle, that we can fire up when the economy rebounds. And in that business, we have the ability to reduce shifts and working hours, et cetera, so it's not like a paper machine where you have to run it 24/7, 365. In RIS, we actually have significant opportunity over the next couple of years to take our fixed costs down, but a lot of that comes from process redesign and investment in information systems. It's pretty labor-intensive business. We made a lot of progress this year. We've taken $120 million out of the business. It's hard to find with volumes being down. But I'm confident that we can take a lot more fixed costs out of that business as we go forward and you'll definitely be seeing that going forward.

Barring a substantial turnaround in volumes here, then is it fair to say that the path back up to 9% to 10% margins in this business will be more of a slow, steady one as you take some of that fixed cost out or rework the capacity there?

Well --

Or do you think we'll see a step change?

Well, I think it will be slower with no volume growth, clearly, because, again, this business has extremely high variable margins and here's what I expect to happen. We will continue to reduce our fixed costs in that business and improve our internal processes. And then once consumer confidence returns, what's going to happen is we're going to see a double impact. We'll see the impact of retail sales going up and then we'll start to see inventory building at the same time. And when that happens, you'll see a spike in the operating margins for that business. The difficult part at this point is trying to predict when that will happen.

You think we're at bottom at this point here?

I still think we might have a couple more quarters of softness, because I'm not sure Europe has hit the bottom yet.

Okay. That's helpful. Thanks for taking my questions.

Your next question comes from the line of Reik Read with Robert Baird & Co.

Quick followup on the RFID business. What's your expectation that some of the good pilot activity that you're seeing gets delayed due the macro weakness? And in particular, given that you're seeing incremental weakness in European apparel, which is where a lot of that activity seems to be taking place, how do you size that up?

It's difficult to handicap right now. I think we'll know a lot more over the next quarter or two, because there are a couple of fairly large retailers that are going to make some decisions. I do expect if they take decisions to go forward, they will implement it slowly and not invest a lot of money, given the current economic conditions.

It's interesting, though. There seems to be more interest in the technology during the downturn because of the ability not only to drive sales increases, but to manage their inventories much more closely than before.

And how do you -- I mean, given all of that, how do you think about your investment? I mean you said that you want to keep that up because of the activity that you're seeing. If it does slow up, do you invest? Do you slow down that investment? Or going back to what you just said, if there's some good prospects longer term, do you keep that up?

Well, even in today's world, I mean, our volumes are tripling. So if it goes down to doubling instead of tripling, we still have -- we have some ways to offset some of that. But we're still in a growth market here, that's the good news.

Okay. Thanks.

At this time, there are no further questions in queue.

All right. Thank you. That will conclude the call. See you next quarter.

Thank you for joining today's conference. You may now disconnect.