艾利丹尼森 (AVY) 2017 Q2 法說會逐字稿

Ladies and gentlemen, thank you for standing by. Welcome to Avery Dennison earnings call -- conference call for second quarter ended July 1, 2017. This call is being recorded and will be available for replay from 11:00 a.m. Pacific time today through midnight Pacific time July 28. To access the replay, please dial (800) 633-8284 or (402) 977-9140 for international callers. The conference ID number is 21820266. (Operator Instructions)

I'd now like to turn the call over to Garrett Gabel, Avery Dennison's Vice President of Finance and Investor Relations. Please go ahead, sir.

Thank you, [Pamela]. Today, we will discuss our preliminary unaudited second quarter results. The non-GAAP financial measures that we use are defined, qualified and reconciled with GAAP on Schedules A-4 to A-8 of the financial statements accompanying today's earnings release.

We remind you that we will make certain predictive statements that reflect our current views and estimates about our future performance and financial results. These forward-looking statements are made subject to the safe harbor statement included in today's earnings release.

On the call today are Mitch Butier, President and Chief Executive Officer and Greg Lovins, Senior Vice President and Chief Financial Officer. Also joining us today is Cindy Guenther, who has recently picked up responsibility for the treasury function for the company and will also be resuming her former role as IRO, while I take on the divisional CFO role for the Label and Graphic Materials segment.

I'll now turn the call over to Mitch.

Good day, everyone. And Garrett, congratulations on your new role as Head of Finance for LGM. You've done a great job leading Investor Relations and FP&A over the last few quarters. And Cindy, welcome back. Greg and I and the rest of the investment community, I know, are looking forward to partnering with you again.

Thanks a lot. It's good to be back.

Thank you, Mitch. Thanks.

Now focusing on our results. Q2 was another strong quarter, with excellent progress on many strategic fronts in each of our operating segments. Adjusted EPS was up 20% for the quarter, and we raised our earnings guidance to also reflect a 20% increase for the year, reflecting both strong operating performance and a sustainably lower tax rate.

Our continued strong performance speaks to the strength of our market positions and the strategic foundations we have laid. LGM, our largest business, continues to exhibit strong profitability and solid sales growth. The transformation at RBS is clearly resonating with customers and delivering solid sales growth while we accelerate the pace of margin expansion, as promised. And we are building a stronger position in IHM, which offers great promise for long-term value creation as we leverage LGM's strength to target attractive end markets where we are underpenetrated.

As you know, M&A is becoming a more important part of our story as we use it to accelerate our strategy to expand in high-value segments. To that end, we completed 2 acquisitions in the quarter: Yongle, an industrial tapes business in China that serves global markets; and Finesse, a small supplier of advanced wound care products in Ireland. These acquisitions are consistent with our stated strategy: expanding our position in high-growth segments that offer above-average profitability and leverage our core capabilities.

Now let me give you the headlines for the last quarter for each of the segments. LGM delivered nearly 7% sales growth ex currency, including the benefit of the Mactac and Hanita acquisitions. Consistent with our strategy, LGM's high-value product lines continue to grow faster than the base business, with broad-based strength in specialty and durable labels, with modest growth in graphics. We also had modest growth within our base businesses in the quarter.

In aggregate, following a strong Q1, the pace of organic top line growth moderated in the quarter. Now we believe this moderation will be short-lived, reflecting a few factors that caused sales to shift into both the first and third quarters. Greg will give more color on that here in a moment. We do expect a near-term rebound and have, in fact, already seen a pickup over the last few weeks. Importantly, particularly in light of the sales contribution from acquisitions, operating margin for the segment remained strong, in line with last year's Q2 result.

Shifting now to RBIS. The team delivered outstanding results across the board in Q2. Organic sales growth accelerated to 6%, reflecting strong growth of RFID products as well as solid above-market growth for the base business. Adjusted operating margin expanded by an impressive 120 basis points. These strong results reflect the success of our business model transformation, becoming more competitive, faster and simpler. The team continues to execute extremely well on this transformation, enabling market share gains while driving significant margin expansion. Specifically, we have moved decision-making closer to the market and improved local accountability. Speed and flexibility for our customers are now competitive advantages, and we continue to build a more cost-effective cost structure.

And finally, turning to the IHM segment. As mentioned, we completed 2 acquisitions in the quarter, bringing our annual sales run rate to roughly $680 million in this segment. While operating margins will be below our long-term target in the near term, we continue to see great opportunity for profitable growth in this segment. For the quarter, operating profit came in line with our expectations, with revenue stronger and margins softer than we had anticipated. Organic sales growth for the industrial categories continued at a strong pace, offsetting the anticipated sales decline in the health care categories. We expect this segment to return to solid organic growth here in the second half, as we've discussed before, as the bulk of these headwinds in health care are now behind us.

Now operating margin declined by 4 points in the segment, largely reflecting the health care category headwinds. While most of this decline was anticipated, we are a bit behind on the productivity front. But I'm confident that we'll overcome these challenges by leveraging the strength of LGM's execution capabilities.

Coming back to the total company view. We anticipate sequentially stronger growth, both ex currency and organically, as we move into the second half of the year, with healthy profitability. This continued strong performance, as well as the benefit from the lower tax rate, supports the $0.25 increase in the midpoint of our adjusted EPS guidance for the year.

We are highly confident in our ability to consistently deliver exceptional value over the long run based on the execution of our 4 key strategies, that is, driving outsized growth in high-value product categories, growing profitably in our base businesses, relentlessly pursuing productivity improvement and remaining disciplined in our approach to capital management.

Now another key to our success has been and will continue to be the depth of talent we have in the company. And Greg's promotion to CFO, as well as the other organizational moves we made over the last couple of years, attest to the depth and strength of that talent pool. Greg, it's great to have you on the senior leadership team. The rest of the team and I are looking forward to partnering with you in the years ahead. So congratulations.

Thanks, Mitch. I appreciate that. And I'm really excited to be in the role, and I'm looking forward to continuing partnering with you and the rest of our leadership as well. And hello to everybody on the call. And with that, let me jump into the quarter.

As Mitch mentioned, we delivered another solid quarter, with earnings coming in ahead of our expectations. We grew sales by 7% excluding currency and 3% on an organic basis, and we delivered a 20% increase in adjusted earnings per share. Strong operating performance and a lower tax rate both contributed to the year-on-year change. Currency translation reduced reported sales by about 1% in the second quarter, with an approximately $0.02 negative impact to EPS.

Our adjusted operating margin in the second quarter of 10.8% was up slightly versus prior year as productivity and higher volumes more than offset higher employee-related costs and a modest headwind from the net impact of pricing and raw material costs. Productivity gains this quarter included approximately $15 million of net restructuring savings, most of which benefited the RBS segment.

Our adjusted tax rate was 26% in the quarter, down from 30% in the first quarter and reflective of our revised expectation of 28% for the full year. The reduction to the full year tax rate is driven by continued favorable geographic income mix and a net favorability from discrete items. We now expect our sustainable tax rate to be in the upper 20s, largely reflecting a continued favorable geographic mix.

Year-to-date, we've generated free cash flow of $93 million, $59 million less than the same period last year as 2016 included a significant improvement in our working capital ratio. While we have largely sustained last year's working capital efficiency gain, the cash flow benefit from that improvement doesn't repeat. Higher capital spending also contributed to lower free cash flow relative to prior year, and we continue to expect free cash flow conversion for the year of nearly 100% of GAAP net income.

Our balance sheet remains strong. And we have ample capacity to invest in the business, including funding our M&A strategy as well as continuing to return cash to shareholders in a disciplined manner. On that note, in late April, we raised our quarterly dividend rate by 10% and received authorization from our board to repurchase an additional $650 million of stock. In the quarter, we repurchased approximately 400,000 shares at an aggregate cost of $36 million, and our share count declined modestly. We also paid $40 million in dividends in the quarter.

On the acquisition front, we closed the previously announced Yongle deal in June, and the integration of that business is underway. While we expect this acquisition to have an immaterial impact on EPS for the full year, onetime transition costs will have a meaningful impact on margins in the IHM segment in the third quarter. As Mitch mentioned, we also acquired Finesse Medical, an Ireland-based wound care manufacturer with approximately EUR 15 million in annual revenue. And we continue to expect that Mactac will contribute close to $0.10 of EPS improvement in 2017, and we expect the newly completed deals to contribute more than $0.10 to EPS next year. Following the acquisitions, our net debt-to-EBITDA ratio temporarily increased and is now closer to the high end of our target range. With that said, we have ample capacity to continue pursuing our disciplined capital allocation strategy.

So let me turn to the segment results for the quarter. Label and Graphic Materials sales were up 7% excluding currency, bolstered by the Mactac and Hanita acquisitions. Organic sales growth was 2% in the quarter, with high-value categories up mid-single digits and modest growth in base categories. As Mitch indicated, this represented a moderation of our performance over the last few quarters, largely reflecting timing effects, including the Q1 benefit from the pull-forward of sales due to the price increase in China, which we discussed last quarter, as well as the timing of various holidays between quarters and inventory destocking related to the implementation of the new goods and services tax in India.

In looking at the regions. In North America, we grew in low single digits, which we believe was due to a modest pickup in demand and some share gain. This represents an improvement of our trend from previous quarters. Growth in emerging markets moderated to a low single-digit rate in the quarter as well, largely reflecting the timing issues that I outlined as well as the challenging prior year comparison for Eastern Europe. So while we did see some softening of our growth rate in pockets of our business in Q2, we are confident in a return to roughly 4% organic growth for the segment in the third quarter.

LGM's adjusted operating margin of 13.6% was unchanged from the relatively high level we saw last year as the benefits from productivity and higher volume offset higher employee-related costs and a modest negative net impact from price and raw material costs. As anticipated, aggregate commodity costs increased sequentially then eased toward the end of the quarter on a global basis. Of course, we see raw material cost trends differ across regions and individual commodities, and we continue to monitor these movements within each market and adjust our prices as necessary.

So let me shift to Retail Branding and Information Solutions. RBIS sales were up 6% organically, driven largely by the performance athletic and premium fashion segments within the base business as well as strong growth of RFID, with RFID products up more than 20% in the quarter. We continue to see volume growth outpace apparel unit imports, and at the same time, the headwind from strategic price actions we started implementing over a year ago, which were designed to improve competitiveness in our base business, are largely behind us.

RBIS' operating margin improvement reflected the benefits of productivity initiatives and higher volume, which are partly offset by higher employee-related costs. We anticipate continued margin expansion in the back half of the year as the team continues to execute the business model transformation and we benefit from the reduction in amortization that we've previously discussed.

Sales in our Industrial and Healthcare Materials segment were up 10% excluding currency. While sales were flat on an organic basis, they actually came in better than expected, due largely to the strength in industrial categories, which were up low double digits for the quarter.

Our operating margin declined in this business largely as expected, due primarily to the decline in health care categories, including the impact of certain contractual payments we received last year that did not repeat. Acquisition and integration costs and a modest negative effect from the net impact of price and raw material costs, consistent with what we are seeing in LGM, also contributed to the decline.

As I mentioned earlier, acquisition-related costs, such as inventory step-up, amortization and other transition costs, related to the Yongle acquisition will temporarily reduce IHM margins in the back half of this year. We are focused on improving our profitability in this segment while investing to support growth and expect to see operating margin expand to LGM's level or better over the long term.

So let me now turn to the balance for the outlook of the year. We have raised the midpoint of our guidance for adjusted earnings per share by $0.25 to an updated range of $4.75 to $4.90. Roughly $0.10 of this increase reflects stronger operating results, and $0.15 comes from the combination of a lower tax rate and a modest net benefit from currency and share count. We outlined some of the key contributing factors to our EPS guidance on Slide 9 of our supplemental presentation materials.

Focusing on the factors that have changed from our previous outlook, we now expect reported sales growth of 7% to 8% for the full year, reflecting the impact of the Yongle and Finesse acquisitions and a smaller currency headwind.

At recent foreign exchange rates, we estimate that currency translation will reduce net sales by less than 0.5% and reduce pretax earnings by roughly $4 million. We now also expect incremental restructuring savings from $45 million to $50 million, at the high end of the previously communicated range. And as discussed, we're now expecting a tax rate of approximately 28%, compared to our previous assumption of 30%, again reflecting our new anticipated annual run rate. And we expect average shares outstanding, assuming dilution, of approximately 89.5 million to 90 million shares. Our other key assumptions remain unchanged from what we shared last quarter.

So to wrap up, we are pleased to report another solid quarter of continued progress against our long-term strategic and financial objectives.

And with that, we'll now open up the call for your questions.

(Operator Instructions) Our first question comes from the line of Ghansham Panjabi from Robert W. Baird.

I'm not really sure who to congratulate first, so congratulations to all of you in your new roles, and Cindy, welcome back. I guess, first off, what's driving the confidence between the expected 3Q rebound in LGM, given that you historically have not had a ton of visibility on volumes in that segment? Maybe you can give us the cadence of core sales growth during the second quarter and maybe what you're seeing in July, more specifically.

Yes. So specifically, if you -- there's a number of factors that Greg talked about. One is around the holidays, that are impacting things. So Easter had a negative impact in Q2, benefited Q1. We saw that in Q1. We talked about the impact of the pull forward from the price increase in China that benefited Q1, and we anticipated that would hit Q2. And then between Q2 and Q3, the move forward of Ramadan has an impact in Middle East and North Africa as well as South Asia. That should benefit Q3 and hurt -- and it did hurt Q2. And then combined with just what we're seeing in our businesses trending through June was better than the other months as we went through the quarter. And if you look -- our shipments the first 3 weeks, we have very limited forward visibility, as you know. But first 3 weeks were up mid-single digits across LGM as well. So a combination of factors, trends within the quarter. Discrete holidays and timing matters that we can point to around pricing or holidays is really what's driving us to that, Ghansham. Now that's -- I think your overall point of we have limited forward visibility is spot on. That's why the full range of our guidance, we still have a full point of top line growth range built into our model reflecting that, but we wanted to communicate what we're seeing within the quarter and going into Q3.

Okay. And just on RBIS, the margins -- the volumes came in much higher than we forecasted for the quarter. Did margins come in where you thought they would? Wondering why there was not a bit more operating leverage on there, on the quarter.

Yes. Operating margins did come in where we expected them to be relative to the growth. And the growth is coming in strong in both RFID as well as strength within the base. Now if you're looking for more operating leverage on year-over-year comp matter, comparisons, that is, we do have more compensation accruals, incentive compensation accruals built in this year than we did last year. So you're getting the normal flow through, and we're incentivizing the management to hit the aggressive stretch target that we built within this business. And so we have more compensation expense in the quarter than we otherwise would.

Okay, that's helpful. And just one final one in terms of Europe. I'm not sure if you commented on how Europe progressed for LGM during the quarter. And then also RBIS.

Yes. During the quarter, as Mitch mentioned, overall, Europe also picked up as we moved through the quarter. Overall, our growth rate in Europe was in the low single-digit range, similar to North America. And -- but Europe was impacted a little bit more by the holidays with the Easter timing as well as, as Mitch mentioned, some of the Muslim holidays at the end of the period as well. So we do expect to see that return a little bit closer to where we had been previously as well.

Our next question comes from the line of Scott Louis Gaffner from Barclays Capital.

Congrats, Greg, Cindy and Garrett. Nice to have you guys around. First question was a bit of a follow-up. Just, Greg, I think in your prepared remarks, I couldn't hear it, but I think you said either $0.05 to $0.10 better on the guidance relative to operations. And with that -- so if you could just clarify that. And then if I look at it, obviously, the volume is the same as it was before from an organic perspective. Is that -- so that leads me to think that it's margins that have gotten -- the margin outlook has gotten a little bit better. Is that more around price cost or mix? Or how should we think about the improvement there within the guidance?

Yes. So overall, our guidance increases $0.25. Roughly $0.10 of that is due to operations, and the other $0.15, again, is the net impact of tax, currency and share counts. Overall, I think it is a little bit of mix improvement and a little bit of productivity improvement. We did range, or did raise the outlook on restructuring as we continue to execute very well on the restructuring initiatives, particularly within RBIS. We continue to drive productivity, as we always do, in the LGM businesses as well. So overall, we feel good about the margin outlook and the trends that we've been seeing.

And anything on the input cost side that would make you think that you might be able to get some price cost spread as we move into the back half of the year and into 2018?

We're not really seeing any real material moves in -- across different -- across overall in our commodities. As we mentioned a quarter ago, we were seeing some increases in chemicals going into Q2 that we expected to be somewhat short-lived, and it looks like those will be somewhat short-lived. We do see some increases in paper and pulp as we go into the back half. And there's a couple of areas or regions where we see that, and in those areas, we'll be increasing prices accordingly. But overall, a relatively immaterial impact across the different commodity categories.

Okay. And last one for me. Mitch, when you look at the M&A environment, there have been some decent-sized acquisitions within the labels space recently. Any thoughts around maybe getting a little bit more aggressive on M&A and focusing on some larger-scale purchases rather than just bolt-on technologies in geographies?

Yes. So our M&A pipeline is robust, and we continue to work it. And calling the exact timing of when things may or may not happen is always difficult. As far as our strategy, our strategy is bolt-on acquisitions of the size that you've seen with Mactac and Yongle as well as capability-building acquisitions, similar to what you've seen within Finesse and Hanita. So that is the overall focus, and part of that is just a result of the reality of the markets with who -- which we're in and our position within them as well. So that's -- as far as general size, we don't overly limit ourselves, but that's generally how we think about it as far as what you should expect and what we're focused on.

And our next question comes from the line of George Staphos, Bank of America Merrill Lynch.

Again, congratulations to everybody. Cindy, we thought you were sick of us. You're back for more. So...

Hey, I missed you.

So hopefully, congratulations as opposed to condolences. But...

Not even.

Congratulations.

There you go. I wanted to come back, to the extent that we can talk about this -- and I realize, and Ghansham brought it up as well, you don't have that much visibility on your business given the very, very short lead times that you have. So if you were in our seat, trying to track Avery through 3Q and trying to determine whether that pickup in volume in LGM has sustained itself, which parameters, which data points in the public domain would you have us watch, recognizing there's not going to be anything that's particularly good in terms of that effort? And then I had a couple of follow-ons, obviously.

Yes. George, you tracked a lot of the -- some of the broad indicators. But the thing is, a lot of the indicators people look at are U.S. denominated. And the U.S. market isn't where we've seen some of this volatility of growth or impact from holidays and so forth quite as much. So I think reading the headlines on the impacts within India, specifically as far as what's going on around inventory levels, those were expected. That one depressed both Q2 and some of Q3. And seeing what the headlines are on that would be one way to track that. The impact of the shift of Ramadan is just -- that moves forward a little bit every year. And so we're seeing -- going to see that move. So that one, I guess you just -- it's hard for you to tell exactly what the impact would be for us, and then generally, just everything else you track. So I'd say a lot of the external indicators people look at are not -- tend to be U.S. centric, and that's not really where we've seen the volatility. And then on the RBIS side, focusing on apparel imports both in the U.S. and Europe would be key indicators to watch as well.

Yes, okay. Appreciate that, Mitch. And now one thing, if we consider where you seemed to have some volume deceleration in the quarter, which was in emerging markets, traditionally, I would think that, that would have been an even greater effect given the margin on EBIT. So if that's a correct assessment, that you have traditionally had a little bit richer mix there, how did you offset that in the quarter? Was there anything that you did to offset that in the quarter? And then I want to come back to the question on RBIS incrementals as well. Should we still maintain the historical rules of thumb that after you cover 2% volume growth, you get to the incremental margins you've advertised and discussed in the past in that business? Or are those figures no longer applicable?

Yes. So let me start with the question on emerging markets, I think the LGM emerging markets. Overall, we did continue to see growth in most of Asia. We did have a little bit of a -- we'll still continue to see single-digit or high single-digit growth in India despite the GST implementation we've talked about, a little bit lower than our previous pace had been but still continue to see good growth. And we continue to see growth in China on a year-to-date basis in the high single-digit range. So overall, I think we do continue to see the growth there. A little bit lower than it had been previously in -- certainly in Q1, where we had the impact of the price increase prebuy as well. But overall, we did continue to see growth in the emerging markets, which are typically higher margin from that perspective. And that enabled us to be able to keep that overall margin impact.

On -- yes. And as far as on the RBIS side, I think that rule of thumb is a good one. It may shift down a little bit as the mix of business shifts more to RFID. Those have high gross profit dollars per unit, but they're variable margins, and especially at the pace that we're investing in business development, that the variable margin might be somewhat lower. The absolute margins are higher than the average. But that would be one subtle shift over time. I'm talking about over coming years. As far as what we're seeing within the business within the margin profile, the incentive comp element is a -- would make up the difference for what you're looking for year-over-year, George.

Okay. And my last question, and I'll leave it here. Can you comment, put a number on, however you'd have us think about it, to what benefit you might have received from, again, increasing e-commerce and what that means for your business? And I'll leave it there.

Sure. That's -- increasing e-commerce has been a trend that has helped support our growth both in variable information labels within materials as well as to some extent within RBIS. In the quarter, it was a little bit slower, VI relative to everything else. But these growth rates can jump around. I mean, it was upper single digits for a quarter and then it's lower. So these can jump around quarter-to-quarter. So it's a little bit slower specifically within the quarter, but general -- the general thrust is that, that will continue to be a tailwind and be a growth driver for us going forward, as it has been in the last couple of years.

Continuing on, our next question comes from the line of Adam Josephson from KeyBanc Capital Markets.

Cindy, welcome back. So just a couple. One on -- Mitch or Greg, just on the tax rate being sustainably lower. I assume that's just lower expected growth in the U.S. long term and continued appreciably higher growth in emerging markets, but can you just elaborate on that a bit?

Yes. I think the geographic mix is driven largely by the growth in emerging markets as well as the good growth that we've seen in Europe over the last number of quarters. And as we continue to do acquisitions, much of that is based outside of the U.S. at this point, with a lot of it being in Europe and some of it being in Asia as well, which typically have lower overall corporate tax rates as well. So some of that all contributes to the favorable geographic mix that we've seen so far this year and that we expect to continue to see going forward.

Just one on margins in the label business. Obviously, there was substantial margin expansion. The last couple of years, margins have flattened out. This year, obviously, the top line growth has slowed a bit, and I think ROS have largely stabilized. How would you characterize the margin performance this year? Just differentiate between the margin performance this year compared to the past couple of years, and what you think is sustainable. Obviously, you've given longer-term guidance, but just can you elaborate on the margin performance year-to-date versus what you've seen in the last couple of years?

Yes. I think year-to-date, I mean, our margin performance continues to be driven by a number of things, some of which Mitch mentioned as well, around the growth in higher-value categories. So we have a higher single-digit growth in Specialty and Durables, which typically, as we've said, with our higher-value product categories, have typically higher margins for us as well. So that continued mix benefit we saw in the first or in the second quarter, and that's part of where we expect to continue driving growth and improvements in our margins, overall, on the LGM side as well. As we said, we had a little bit of a net headwind from price and raw material costs in Q2. But overall, relatively modest and relatively modest going forward the back half of this year. But I think longer term, it's really driven by the strategy around focusing on higher-value categories as well as continuing to get more disciplined in the base and continuing to drive productivity in our base business. And both of those things in combination are what should continue driving our margins in LGM.

Just a couple other. You might have mentioned this, and forgive me if I didn't hear it properly. But for resin and paper, for the balance of the year, what exactly are you expecting?

Overall, relatively flat in the balance of the year, sequentially. As we said, we saw a little bit of a pickup in chemical costs in the second quarter. We expect that to moderate a bit at the -- kind of the tail end of Q2 and into Q3. And we are seeing a little bit of a paper increase, and really dependent on the region. In Europe, we're seeing a little bit more of an increase in paper than maybe in some of the other regions. But overall, relatively flat in total, but again, chemicals coming down a little bit, paper going up a little bit.

And just one last one just on capital allocation. I know you've been doing some deals. Your buyback activity has slowed quite a bit. Can you just remind us of buybacks versus M&A and the timing of the buybacks?

Yes. Overall, I guess I'll start with we continue to have, with where we are in our debt ratios, as I mentioned, ample capacity to continue to fund M&A and to continue returning cash to our shareholders. On the M&A front, as we said on capital allocation, we do look at the pool of funds for M&A and share buybacks as somewhat fungible. And we had a little bit more M&A in the quarter than we obviously did in the previous couple of quarters. But overall, we did continue buying shares back in Q2, and we'll continue doing so in a disciplined manner. Overall, I think we're -- our approach isn't changing. Our strategy isn't changing there. And we continue both being disciplined on the M&A front as well as on the share buyback front. But our strategy is not changing towards continuing to return cash to shareholders overall.

Our next question comes from the line of Anthony Pettinari from Citigroup Global Markets.

This is Bryan Burgmeier sitting in for Anthony. Understanding there were some timing issues in LGM, key competitors still pointed to mid-single-digit volume growth. Do you believe Avery lost any share throughout the quarter? And if so, was part of the price, then, of cost impact that you guys pointed to driven by getting a little more competitive on price?

Yes. If you're speaking specifically about LGM, what we see around the globe, I would say, in the mature regions, we don't believe we've lost share. If anything, we've potentially expanded share. And now, you'll recall, in North America, we said we thought maybe we ceded some share late last year, and had been making adjustments to recover. And we do believe we've recovered there. Within Asia, we're not -- we don't believe we've ceded any share over the cycle. I will say, specifically in Q2, one of the things we're looking at, we've raised prices in China, and we've talked about the importance of our leadership position within the market and leading out with price when there's inflation. And we sometimes have near-term share challenges for a couple of quarters. Usually within a couple quarters of that, we adjust and cycle that through. And that's something that we just traditionally have seen. When we do price increases, we've got to be -- have the courage to push it through. And sometimes it has near-term share consequences. We haven't completely worked that through yet because we're still only a few -- a couple of months after that price increase. So generally, no, but you've really got to look at it market by market. Latin America, we continue to take share is our position. Europe, it looks like we're continuing to take share. North America, we've reversed the share loss. And in China, we may have some share deterioration, but we would see that as near term.

Okay, that's helpful. And then just a follow-up. RBIS organic growth was a little bit stronger than we thought. Are you guys starting to lap some of the pricing initiatives? And was that like a small headwind during the quarter? Or is pricing still a headwind? And then what's your outlook for pricing in the second half?

Yes. So when we're talking about pricing and the strategic pricing adjustments, we started talking about them about 1.5 years ago, we saw an opportunity to dramatically reduce our variable costs, particularly the raw material components that we were using, and moving more to local sourcing. And so we started adjusting our pricing before we had localized that raw material sourcing. And then that was having a negative impact on the bottom line. We have cycled that through. I believe we cycled through that in Q4 of last year, from a margin perspective. Now this business is a custom business, so we're always pricing the various components where they need to be relative to the specifics, the specs that the retailers and brands need. Our variable margins remain high, and we're growing with -- in the base business. So price, because it's a custom business, it's hard to compare a 2-by-4 tag with -- that's 3-color with a 3-by-1 tag that's 4-color across cycles, if you will. But generally, it's a competitive market. We actually think that this new strategy we have enables us to grow profitably and meet more of what the customers' needs are.

And our next question comes from the line of Jeff Zekauskas from JPMorgan Securities.

In the quarter, were your raw materials in Label and Graphic Materials up by a mid-single-digit rate or a low single-digit rate?

Overall, relatively flat to low single digits year-over-year.

And you spoke of yourself as being squeezed a little bit in the second quarter. Do you expect to be squeezed in the third?

Generally, no. And our impact in Q2 was relatively modest sequentially, Q1 to Q2, largely driven by the chemical inflation we started to see in the back half of the first quarter. But again, most of that, we expect to have been moderated. We are seeing some pockets, as I mentioned before, of -- in paper in particular, but we'll look to manage that through productivity and/or pricing where necessary.

Jeff, it's really a region-by-region story, so it's tough to give you global perspectives on it. It's modest overall. But just going around the regions, Q1, we had been seeing some inflation. In China, we raised prices. That was going in, in Q2, having a positive price impact in Q2 but a negative volume impact because a lot of the volume was pulled forward, as we talked about. In North America, we had put out several warning letters that if the inflation we were seeing from Q1 to Q2 continued, we would raise prices. That has abated, so we did not raise prices. So that did have some downward pressure on margins in the quarter that should abate. But now we're seeing paper inflation, as Greg mentioned, in a couple of regions, including Europe, where we are going out with a price increase. So you really have to look at it region by region. And this is just something -- managing these levels of moves of inflation is just part of the day-to-day focus of the leadership and deciding when to raise prices and when not to. And that's really the kind of environment we're in. We're not in a big inflationary/deflationary environment right now. It's very modest, as Greg said.

How much is RFID up in the first half?

It's up in the mid-teens or so. And it's more than 20% in the quarter. If you recall, Q1 was growing sub-10% as a result of tough comps the previous year.

In the label and graphic materials industry in Europe or the United States, when you look at industry capacity additions over the next year or 2, do you think that capacity additions are greater than industry growth or less?

Yes. The capacity additions have -- they come in, in waves, and so there was very little capacity addition in North America for quite some time. And yes, the pace of capacity adds has, if you look at just a very short couple-of-year horizon, has outstripped it. Now the key thing to understand within our industry, capacity that's added can still be scaled up slowly, starting with 1 shift, 2 shift and so forth. And that's what we've traditionally seen. That's what we do. That's what we see happens within the market. Also, capacity adds tend to precede potential planned capacity reductions as well. And so when you look over the long run, you'll see adds coming in and then assets taken off-line. Very similar to our own expansion a few years ago within graphics, we expanded a graphics line in one site and then reduced some capacity at another a couple of years later. So this is larger -- we're going through a wave of capacity additions right now, Jeff. When we look over the long run, this seems to be what you would expect for an industry that's growing like ours is.

(Operator Instructions) And our next question comes from the line of Chris Kapsch from Aegis Capital.

So I had a follow-up on this notion of e-commerce being -- of e-commerce-related sales being a little bit weaker in the quarter. You mentioned RFID's growth actually accelerated, so presumably, you're talking primarily about the variable information in the LGM segment. So I was just wondering if you could provide any color as to why the demand for shipping labels would be weaker during 2Q and particularly against this notion that you feel like you gained share, market share, in most regions.

It falls within the normal variability that we would often see within a particular product line. So nothing specific to call out or broader trends that we're seeing. It was growing -- grew faster than we expected within Q1. We often don't give the product line outlook by region. I shared that with you guys, but if you look at the puts and takes of the various product lines, this falls right within the normal variation we would see. If it were to continue for another quarter or 2, then that would be a different discussion. But this is part of the normal choppiness we see within our product lines.

Okay, and then if I could just follow up on sort of the raw material discussion and the idea of potentially, I think you said putting out a price increase at least in Europe because of inflation in paper, I was just curious what you've seen over time. Maybe you could talk about -- I don't remember -- since we've kind of seen a deflationary environment since late '14, I don't recall the industry really going after pricing. And you did characterize, most recently, even though paper costs are higher, you have deflation suddenly in some petrochemical costs. So are you -- what's the dynamic and what's the discussion with the customer base when you're talking about a price increase on the basis of higher pulp when you have, on the other side of the ledger, you have raw materials -- petro-derived raw materials being lower. Can you just describe how you see that playing out?

Sure. Yes, so we share what's going on within the markets, and when we do a price increase, we lay out the basis and the reasoning. And it's why some of the price increase tends to be focused on the paper categories, because that's where we're seeing it. Where we're not talking about films right now, price increases. So we show the impact of the inflation that we're seeing, and a lot of that is to help the converter layer then be informed so they can go further on to the end users to work through price increases that they may need as well. So that's the environment we're in, and that's what we're working through right now. And these -- you've got to keep perspective in that these are relatively modest at the total company level. Where we're going out is a targeted price increase where we're seeing inflation of certain components where we need to pass on price increases to particular customers that are affected by this inflation. And this is going on every year. Over the last few years, Latin America was raising prices because they had a lot of inflation in local currency, and we're constantly raising prices. That was just part of the MO for down there. So this, I'd say, is part of normal doing business in what we're working through right now.

And I think there's also variations by region, as we've talked about before as well. Some of the chemical costs are part of what led us to the price increase in China in the first quarter and, to a lesser extent, some increases in North America, where chemicals weren't as big a factor. It's small overall anyway, but not as big a factor in Europe. Where Europe, we're seeing paper go up. So it is different by region and by commodity across the regions as well.

And we now have a follow-up question from the line of George Staphos, Bank of America Merrill Lynch.

Maybe to piggyback on Chris' question. And it didn't sound like you had much more to offer on this other than saying it's subject to normal variation that you see in the business. But with most of the end market discussion on e-commerce in the trade press seemingly positive, the box data has been quite strong, which we think is being driven by e-commerce, mitch, what would drive less consumption of VI-related material other than maybe some destocking from previous purchases in the quarter?

Yes. So I think destocking, we've talked about often being as far back in the supply chain as we are, Destocking often is what can drive moves for a couple of months, and I would say that would be the primary thing to focus on. The overall general trend within e-commerce would be expected to be a continued driver for variable informations and intelligent labels at large.

Okay. And then secondly, working capital in the quarter was pretty normal. When you look back historically over second quarters, it was down versus last year. And I think you'd called out directionally, there were some things that were benefiting last year's performance versus this year. Could you put perhaps a finer point on what some of those variances were? If you had already done that, I apologize for having missed them. And what would your expectations for working capital be both this year and to the extent you have any kind of directional view into 2018?

Yes. So I think the comment I made earlier was more about where we had ended the year before. Year-to-date last year, our levels of working capital are relatively similar and, in Q2, are relatively similar to where we've been over most of the last year or 2. It's just the starting point for this year was -- at the end of last year was a little bit lower than it had been the year before, which led to a different free cash flow impact year-over-year. I think overall, when we continue to look at working capital, we do have pressures. Some of the acquisitions we made typically have higher working capital ratios than what we have. So that's part of the improvements that we'll be looking to drive from some of the acquisitions as well as we go through the back half of this year and into next year also. But overall, not much -- I wouldn't expect much significant change one way or another in terms of our overall working capital ratios as we go across the next number of quarters.

All right. So Greg, just to put a bow on that, so you actually think the acquisitions, given the opportunities that you have there, will actually drive some positive out of working capital for the next few quarters even though you're starting at a higher level of working capital intensity in those businesses. Is that correct?

Yes. I think we'll start out at a little bit higher level. And then over the course of a few quarters, we'll be continuing working to bring those levels back down towards what more like what our average would be. It really depends on the business as well. Certain businesses have different levels of inventory, depending on the type of business. But overall, we'll be continuing to drive inventory and other working capital components more towards our average.

Okay. Two last ones for me, and I'll turn it over. First, in terms of broader trends that you're seeing here in the LGM business, what could you share about what you're seeing in terms of adhesive technologies, requirements specifically being placed upon label? And here, what I'm thinking about is to the extent that, again, we're seeing shifting in channels from traditional retail to online, is that bringing about any kind of change in the label that's applied on the primary package? If there's anything that you see as being discernible there, I would be interested. And then switching gears entirely, in terms of IHM, are you seeing any, I don't know, more intense competition from your peers as you're trying to grow into those markets relative to what your expectations would have been? If you could provide any color even if there's been no change in your view, that would be helpful.

Yes. So 2 questions there, George. So within LGM specifically, I think what you're asking is broader trends specifically, and as things move to e-commerce, does that have an effect on labels? And we've talked about one of the big advantages of our products are the shelf appeal. But if you think about household and personal care and so forth, one of the things just pure e-commerce companies are looking for is to still have that moment of truth and people having some type of attachment to the brands that they're buying. And so the physical decoration of the product is still an important aspect. And we're actually working with some of the e-commerce companies for how to further improve that moment of truth. So it's not just a dirty poly bag being thrown on your porch when you're buying something that you -- a brand that you're trying to connect with. So those are works in progress. But overall, we're not seeing a big shift or impact on the branding side of labels. Variable information labels, we see this as a tailwind and will continue to be a growth driver for us, as we were talking about earlier. Within Industrial and Healthcare Materials, it's, like many of our businesses, competitive. The difference is within that segment, it's large. We're a Tier 2 player, and it's growing well ahead of GDP, and it tends to be specified categories. So when you get spec-ed in, you're specified on your own or you're 1 of 2 that are qualified for a particular program. And that -- I wouldn't say there's -- it's a competitive environment, as every industry that we're in is. But I wouldn't specifically call it that I'm seeing some large competitive response. This is the type of industry where we still see lots of niche players, even. As an industry is growing like this -- these ones are that we're going after, you tend to still have new entrants and a number of companies to where there's plenty of room for everybody to win. So that's more how I would characterize that broader space.

Mr. Butier, there are no further questions at this time. I'll turn the call back to you. Please continue your presentation or your concluding remarks.

Okay. Well, I want to thank everybody for joining the call today. A lot of great things going on within the company, and we're looking forward to continuing to execute our strategic priorities and delivering for everybody, including our investors, over the long run. Thank you very much.

Thank you. Ladies and gentlemen, that does conclude the conference call for today. We thank you all for your participation and ask that you please disconnect your lines. Thank you once again. Have a great day.