Berry Global Group Inc (BERY) 2016 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Berry Plastics earnings call. (Operator Instructions) As a reminder, this call will be recorded.

I would now like to introduce your host for today's conference, Mr. Dustin Stilwell. Please go ahead.

Good morning, everyone. Thank you for joining us and welcome to Berry's second fiscal quarter 2016 earnings call.

Throughout this call, we will refer to the second fiscal quarter as the March 2016 quarter.

Before we begin our call, I would like to note that on our website at berryplastics.com, we have provided a slide presentation to help you guide our discussion today. This presentation can be found by clicking the Investor tab to the Upcoming Events section, leading to the webcast presentation.

Joining me from the Company, I have Berry's Chairman and Chief Executive Officer, Jon Rich, and Chief Financial Officer, Mark Miles. As referenced on slide 2, during this call, we will be discussing some non-GAAP financial measures, including operating EBITDA, adjusted EBITDA, adjusted net income, and adjusted free cash flow. The most directly comparable GAAP financial measures and the reconciliation of the differences between the GAAP and non-GAAP financial measures are available in our earnings release and in investor presentation on our website.

Additionally, all data referenced today has been conformed to match our new organizational segment structure. An archived audio replay of this conference will also be available on the Company's website.

We would like to make it clear that certain statements made today may be forward-looking statements. These forward-looking statements are made based upon management's expectations and beliefs concerning future events impacting the Company and, therefore, involve a number of uncertainties and risks, including, but not limited to, those described in our earnings release and in our annual report on Form 10-K and other filings with the SEC. Therefore, the actual results of operations or financial condition of the Company could differ materially from those expressed or implied in the forward-looking statements.

Now I would like to turn the call over to Berry's Chairman and CEO, Jon Rich.

Thank you, Dustin. Good morning, everyone, and thank you for joining us.

This morning we will review our overall quarterly financial performance, discuss the results of our three operating segments, and update everyone on our synergy expectations and integration progress with AVINTIV, as well as update our outlook for fiscal 2016.

As Dustin highlighted, we provided a short slide presentation on our website that you can reference as we go through the call this morning.

Before going to the slides and the details of our recent quarter results, let me make a few general comments. First and foremost, we had a very strong quarterly performance. By far, the best we have ever had in the history of the Company. Our net sales and operating EBITDA results were records for any quarterly period in our history. It was the first time our quarterly earnings exceeded $300 million and the first time all operating businesses achieved greater than 19% operating EBITDA margins. Adjusted net income per diluted share was $0.58 compared to $0.42 in the second fiscal quarter of 2015.

Our free cash flow generation remains robust, providing a yield of 11% on our equity. These strong results have and will allow us to meet our balance sheet deleveraging goals.

Consistent with that goal through the first half of fiscal 2016, we have voluntarily prepaid $200 million of debt.

A number of important factors drove our results for the quarter. The acquisition of AVINTIV continues to exceed our expectations. While it has still only been two quarters since we acquired AVINTIV, the results to date have validated the strategic rationale we outlined when we first announced the deal in our August 2015 conference call. We have quickly integrated the business. Synergies are exceeding our initial forecast, and our new operating structure is executing at a high level.

Additionally, cost savings initiatives to reduce our material, labor, and overhead costs contributed to our financial results.

Total Company volumes were up versus the prior year. Consumer demand in North America for our consumer packaging and health and hygiene products improved modestly from the prior year period and sequentially from the first fiscal quarter. Our results resemble independent surveys such as Nielsen would suggest that demand for packaged foods, personal care, and healthcare products improved improved in the quarter. Demand for our engineered materials products was stronger than we had anticipated, while volume in the international parts of our HH&S business was slightly lower than prior year as we took the opportunity to increase price and improve mix that resulted in higher margins.

Now turning to our quarterly financial results, starting on slide 3. As I stated earlier, we posted new record quarterly results for both revenue and operating EBITDA. Net sales increased by 32% over the prior year quarter to $1,614,000,000. Operating EBITDA increased over 50% and was $107 million higher than the prior year, coming in at a quarterly record of $317 million.

I am also pleased to report operating EBITDA margins were 19.6% compared to 17.2% a year ago with all three segments exceeding 19% margin in the quarter.

Additionally, we reported solid adjusted free cash flow of $90 million compared to $71 million in the prior year quarter, bringing our adjusted free cash flow for the 12 months -- the last 12 months to $464 million.

Before I pass the call over to Mark for more details on our financial results, I want to briefly highlight our progress with AVINTIV. The assimilation of AVINTIV into Berry continues to go very well. Berry has a disciplined and systematic approach of integrating acquired businesses that has been developed and proven over the more than 40 acquisitions we have done throughout our history. To date, we have completed the reorganization of Berry into three operating divisions and have accomplished our initial objectives of reducing material and SG&A costs.

We are now starting the second phase of work on further cost reductions and identifying new commercial opportunities. Based on the progress to date, we are increasing our cost synergy target for the AVINTIV acquisition to $80 million from our original estimate of $50 million and are optimistic that we will find further advantages as we proceed through the second half of the year.

As we have stated, these cost synergies are being generated primarily from our combined purchasing power and elimination of redundancy in SG&A costs.

I will now turn the call over to Mark who will review Berry's financial results in more details, and then I will come back to provide our outlook for the balance of fiscal 2016. Mark?

Thank you, Jon, and good morning, everyone. I would like to refer everyone to slide 4 now.

As Jon previously mentioned, Berry posted record net sales for the March 2016 quarter of $1,614,000,000. Which was a $390 million or 32% increase over the March 2015 quarter net sales of $1,224,000,000. This increase can be primarily attributed to the acquisition of AVINTIV that closed on October 1, 2015.

After adding the historical net sales of the acquired business, net sales for the March 2015 quarter on a combined basis were $1,711,000,000. When bridging the combined revenue from the prior year quarter to the current quarter, the pass-through of lower raw material costs reduced net sales by 5%, as well as an unfavorable impact from currency translation of 1%. Organic sales volumes overall were 1% higher in the quarter. I will provide more detail on revenue and volumes by segment in the next few slides.

From an earnings perspective, operating EBITDA for Berry was also a quarterly record of $317 million for the March 2016 quarter, which was an increase of $107 million from the prior year of $210 million. After adding an historical operating EBITDA of the acquired business, operating EBITDA for the March 2015 quarter on a combined basis was $289 million. Operating EBITDA margins increased to 19.6% in the quarter compared to 16.9% in the same prior year period on a combined basis.

The $28 million increase in operating EBITDA from the combined prior year period was primarily a result of a $30 million improvement in our product mix and price cost spread, which includes contributions from sourcing's synergies. This $30 million improvement included a $2 million favorable lag impact from contractual resin pass-through arrangements with customers.

Additionally, net productivity improvements in manufacturing provided a year-over-year benefit of $4 million. These positive contributions were partially offset by an unfavorable impact of $2 million for translation of foreign currency, due to the stronger US dollar on a year-over-year basis and $4 million of higher SG&A costs as a result of higher accrued performance-based bonus expense, which was partially offset by cost synergies.

Now, turning to the results of our operating segments, starting with our consumer packaging division, I would refer you to slide 5. The pass-through of lower plastic resin costs decreased our net sales by 6% for the quarter on a year-over-year basis, which was partially offset by a 1% increase in organic sales volumes with improved volumes in food service, dairy containers, and prescription vials.

Our consumer packaging division recorded $137 million of operating EBITDA, representing an increase of approximately 5% versus the prior year quarter and a margin of nearly 20%. The year-over-year increase in operating EBITDA can be primarily attributed to a $10 million improvement in product mix and price cost spread, as well as $2 million from improved sales volumes and net productivity improvements in manufacturing. These items were partially offset by a $6 million increase in SG&A costs, primarily attributed to higher accrued performance-based bonus expense and a reallocation of costs associated with the organizational realignment.

Next, as noted on slide 6, our health, hygiene, and specialties division generated net sales of $568 million in the quarter, compared to net sales of $133 million in the March 2015 quarter. After adding in historical net sales of the acquired business, net sales for the March 2015 quarter on a combined basis were $620 million. When bridging the combined revenue from the prior year quarter to the current quarter, the pass-through of lower raw material costs reduced net sales by 5%, as well as an additional 2% unfavorable impact from currency translation.

Volumes were approximately 2% lower, primarily due to economic weakness in South America and a combination of pricing actions and improvements in product mix in Europe.

Our HH&S division recorded $111 million of operating EBITDA in the quarter, representing a 13% increase over the prior year quarter on a combined basis with a margin improvement of 370 basis points to 19.5% for the quarter. The improvement can be primarily attributed to an $11 million improvement in product mix and price cost spread, including the impact of sourcing center synergies. Net productivity improvements and manufacturing of $3 million and $2 million of lower SG&A costs resulting from acquisition cost synergies.

Turning to slide 7, net sales for our engineered materials division for the quarter were $359 million. The pass-through of lower raw material costs reduced our net sales by 5% on a year-over-year basis, as well as an additional 1% unfavorable impact from currency translation.

Base volumes were 3% higher than the prior year quarter, primarily from stronger volumes in our engineered, film, and tape products. Operating EBITDA for our engineered materials division was $69 million, representing a 15% improvement over the prior year quarter. Margins increased by over 300 basis points to over 19%, primarily as a result of improved price cost spread, as well as the improved days sales volumes.

Slide 8 provides a summary of our income statement. Overall operating income increased by $53 million or 47% over the March 2015 quarter. This increase can be attributed to the items previously discussed that drove operating EBITDA improvements, partially offset by $46 million of additional depreciation and amortization, primarily resulting from the acquisition of AVINTIV.

As we further review the income statements on the March 2016 quarter, interest expense was $74 million compared to the prior year expense of $52 million. This $22 million increase is a result of borrowings associated with the purchase of AVINTIV at the beginning of fiscal 2016, partially offset by interest savings from free cash flow applied to debt reduction. The Company made a total of $150 million of voluntary term loan principal payments in the quarter, pushing our total principal prepayments for the fiscal year to $200 million.

For the quarter and year to date, our effective tax rate was 40%. We continue to drive towards a lower effective tax rate as we implement tax favorable structural changes and opportunities resulting from the AVINTIV acquisition and currently anticipate a full-year effective tax rate of 34% for fiscal 2016.

As a reminder, the Company has a pre-IPO tax receivable agreement. Under this arrangement, the Company remits 85% of its usage of pre-IPO NOLs to shareholders of record immediately prior to our IPO.

From a cash flow perspective, the Company is essentially a cash tax payer with a 15% discount. Assuming no changes to the current tax regulations, we project that this will be the situation for the next two to four years. After utilization of the pre-IPO NOLs covered by the tax receivable agreement, we will then use up the approximate $400 million of federal NOLs included in the AVINTIV acquisition, which will result in a period of no federal cash tax liability for Berry.

Net income for the quarter increased by 55% to $59 million, compared to $38 million in the prior year period. Adjusted net income per diluted share increased 38% over the March 2015 quarter to $0.58 in the current quarter, despite a $0.06 headwind from income tax expense.

Finally, as detailed on slide 9, our adjusted free cash flow defined as cash from operations, less net spending on property, plant and equipment and payments made under the tax receivable agreement in the March 2016 quarter was $90 million compared to $71 million in the prior year period. The Company generated $170 million of cash flow from operations compared to $112 million in the prior year period.

Working capital has been negatively impacted in fiscal 2016 by our decision to change certain working capital practices of AVINTIV due to Berry's lower cost of capital. These changes have been accretive to earnings and, in spite of this one-time negative impact to cash flow, we have improved cash from operations by 70% to $361 million through the first half of fiscal 2016.

Using our stock price at the end of the quarter of $36.15 per share, our $464 million of LTM adjusted free cash flow represents an 11% free cash flow yield.

This concludes my financial review, and I will turn it back to Jon.

Thank you, Mark. As we have said during prior conference calls, we continue to focus on our top priority of reducing our debt to EBITDA leverage ratio through our strong free cash flow and growth in earnings. Our target is to operate in a three to four times ratio of net debt to adjusted EBITDA. I am pleased to report that we have again reduced this ratio to a quarter-end level of 4.8 times from the 5.1 at the close of the AVINTIV acquisition six months ago.

Consistent with our stated goals to delever our balance sheet, Berry has voluntarily contributed $200 million to early debt retirements since the start of the fiscal year in October 2015.

Our plan for fiscal 2016 is to achieve a half turn or more reduction in leverage through free cash flow and earnings growth. We have a track record of generating substantial free cash flow and expect to do so again this year.

We have an internal goal of 2% overall sales volume growth for fiscal 2016. However, for the purposes of our fiscal 2016 guidance, we continue to utilize a more conservative assumption of flat overall volumes.

As shown on slide 10, since the beginning of the fiscal year, we have forecasted consumer packaging to be down 1%, engineered materials to be flat, and HH&S to be up 2%. As a reminder, Berry measures physical volumes by pounds plastic resins sold. We typically experienced .05% to 1% annual reduction in resin pound volumes due to light weighting and product redesign. The AVINTIV business that is now part of our HH&S division is also achieving similar volume reductions as measured by plastic resin pounds sold due to continuous efforts to reduce area gram weights of our products.

As I stated earlier, domestic demand for packaged food goods has improved, albeit modestly. In the second fiscal quarter, we grew the majority of our consumer packaging product lines, and volumes were higher versus the prior year.

As shown on slide 10, our plan for the year was based on volumes down 1% in consumer packaging. With the first half now complete, we are running slightly ahead of that pace.

As I will discuss later, our earnings and free cash flow outlook for the full year still includes the assumption of CP volume coming in consistent with the minus 1% forecast.

Our engineered materials business is off to a stronger start than we initially predicted. We have benefited from plastic packaging share gains versus alternative packaging materials, as well as stronger demand in the industrial construction and retail segments. These gains have more than offset the lower demand we have seen for our Seal for Life pipe maintenance products. We now believe that the engineered materials business will exceed our initial volume forecast for the full year.

For our HH&S division, volumes in North America continued to grow, especially in our health and hygiene products where pounds sold increased 3% in the quarter.

As utilization rates for these products exceed 90% and we anticipate continued growth from our existing customers, we announced last week that we are planning for a North American capacity addition, which is targeted to be operational in 2018. This additional capacity will provide technically specified products used to help our customers differentiate their offerings. We are in the initial design phases for the project and will provide more details on future costs.

Outside of North America in HH&S, we anticipate improved demand in Asia for the second half of fiscal 2016. While volumes were lower in Latin America and Europe in the first half, a combination of pricing actions, cost reductions, and improvements in product mix led to EBITDA increases of 17% and 7%, respectively, in those regions. The slower economic activity in South America and in certain specialty product segments of our European business could put some pressure on our 2% volume target for the full year in HH&S. However, we do not expect this to have any negative impact on our overall earnings or cash flow.

Longer-term, we continue to believe that the HH&S division should achieve 2% to 4% annual volume growth rates. Based on the three divisions' actual volumes for the first half of fiscal 2016, we would appear to be trending somewhere between the 0% and 2% volume increases for the full year. We will continue to update this perspective in our next call.

When we initially announced the AVINTIV acquisition, we communicated a goal of $50 million in expected cost synergies. Last call, we increased this target by $15 million to $65 million and, as I stated earlier, today we are raising that guidance again to $80 million. We are optimistic that we will find further advantages as we proceed. If this is the case, we will announce it in future conference calls.

As we have stated, these cost synergies are expected to be generated primarily from our combined purchasing power, savings, and operations and elimination of redundancies and SG&A costs.

With regards to guidance for the remainder of fiscal 2016, last conference call we increased our fiscal 2016 operating EBITDA target by $20 million to $1,180,000,000 and reconfirmed our adjusted free cash flow of $475 million. Given our continued strong performance in the recent quarter, we are increasing our operating EBITDA guidance for the full fiscal year an additional $10 million to $1,190,000,000.

We continue to target $475 million of adjusted free cash flow for fiscal 2016 with the forecasted improvement in earnings being offset by the one-time working capital changes associated with AVINTIV as Mark just described.

The $475 million of adjusted free cash flow includes $817 million of cash flow from operations, less $285 million of capital spending, and the $57 million payment under our tax receivable agreement.

Finally, Berry will continue to take the necessary proactive steps to remain competitive and a leader in the markets where we participate through a relentless focus on building and strengthening our competitive advantages.

I am confident that the people at Berry will continue to drive our results and achieve our goals. Thank you for your continued interest in Berry, and now we are ready to answer your questions.

(Operator Instructions) Ghansham Panjabi, Baird.

First, on the mix and price cost EBITDA variance of $30 million year over year, Mark, I think you mentioned $2 million from favorable price cost spreads. Can you give us more color on the other $28 million? How much came from synergies, favorable mix, and whatever else? Also, what is driving the better mix in your portfolio?

Sure. First, the $30 million is pretty evenly split between all three businesses. It is also pretty evenly split between the three categories of sourcing, synergies, improved favorability on noncontractual business, and then, lastly, savings from sourcing not attributed to synergies.

Okay. That's helpful. And then, maybe one for Jon in terms of volume growth. The 1% of legacy, Berry, after really years of declining, it seems a bit better than your peer group. Are you just seeing new product activity at the customer level or picking up share in specific end markets such as food service? What is going on there?

I think it is some of all of the above. I would say that what we have seen here certainly over the last four quarters is modest but real improvements in consumer demand. That trend is clear, and we participated in some of that.

I would also say just the combination of the breadth of our product lines, customers, and product mix led to the improvements of volume.

Arun Viswanathan, RBC Capital Markets.

Good quarter. I guess my question is on -- first off, on resin. We have seen some increases recently on the polyethylene side. What is your outlook look like for price cost spread as we move through the year? Would you have to work to pass those on in Q2? Or sorry, Q3.

As we have stated in the past, our resin prices historically mirror movements in oil prices, and with oil being up off the bottom, but still what we consider at relatively low prices, there may be some short-term increases in resin prices. I think as we have said on many calls, we pass these through typically on a 30-day basis into our contractual relationships with customers. 75% of our product lines covered by these contractual relationships.

Long-term, we continue to be optimistic about the position in polypropylene and polyethylene as we anticipate further capacity expansions in both product lines, and long-term we think that will play to Berry's advantage, given the size of Berry's sourcing levels that these resins and the global position that we have.

Okay. And then, for a follow-up, if I can ask about some of these business optimization costs and restructuring charges, when do you expect those to moderate, or would the optimization costs come down over time? How should we think about what to expect in the future on those lines?

Sure. We do expect those to continue to decrease. The quarter had an unusual charge in there related to stock compensation expense, non-cash stock comp that was about $10 million for the quarter, which is significantly higher than our run rate expense, which is about half of that.

Okay. And then just as a last question, so the deleveraging in the quarter was on track again, so appreciate that. What is your outlook on how much debt you can potentially pay down each quarter from here on?

Well, we continue to be on track to achieve the half turn of leverage reduction. It remains our top priority. We believe that -- we are quite confident in the free cash flow goals and the earnings projections that we have given for the full fiscal year. And I am sure Mark (technical difficulty) department will assess as appropriate when it is right for us to take steps to prepay them, but we will take those as they come.

Yes. Just from a timing perspective, the back half of our fiscal year are our strongest two cash flow quarters.

Right.

So we would expect significantly more free cash flow that could be applied to debt reduction in the last two quarters of the year.

[Anoja Shaw], [Demo Capital Markets].

I was wondering if you would give any more detail on the upcoming hygiene and health care capacity investment and, also, if any volume already presold there, or is it too early for that?

Yes. I think we are very pleased with the growth that we have been seeing from our customers, especially in North America. We are running at very high operating rates, and so obviously, because of our very strong position in these product lines, we have a very good understanding of the supply-demand dynamics and also good forecasting capabilities from our customers. We will continue to monitor that carefully with regards to the exact timing of the investment. We are in the initial planning phases, and we don't believe that it will add a significant increase in total capacity to the industry. But, again, because of our long hat history of participation in these product lines, we have a very good understanding of those dynamics, and we will comment further on the details of this investment as we get to the future conference calls.

That's helpful. And then, just one housekeeping for me. What is your net leverage ratio right now pro forma for AVINTIV?

It is currently 4.8 as of the end of the quarter. We started the year at 5.1 with a goal of a minimum reduction of a half a turn this fiscal year. So we are right on track with our goal halfway through the year.

Chris Manuel, Wells Fargo.

This is [Derek Chosey] on for Chris. I was just wondering if you guys had what the costs associated with the additional $15 million in synergies you were getting?

The cost to achieve those additional $15 million is minimal, so there is no additional one-time costs associated with our guidance. It remains the same.

Okay. And going forward, you guys briefly talked about further upside to synergies. Should we expect minimal costs going forward with that, and what do you think is feasible at this point given that you have already raised synergy guidance twice in two quarters?

Well, we continue to think that there are additional good opportunities for synergies here. Some of them will require some investments. For example, as we achieve common platforms on IT, enterprise systems, and so forth, we continue to look at additional cost savings and sourcing and SG&A. And we are just at the beginning of what I think is some very attractive opportunities in terms of commercial applications leveraging the unique strengths and R&D capabilities of the combinations of AVINTIV plus Berry.

So I think there could be some costs associated with that, but as we identify and quantify those savings, we will comment more on that in the future.

Okay. And, just lastly, what is your timeframe for when 80 or 100 or whatever you think you can get you will be at a run rate at?

Yes. So we expect about $50 million to be realized in the current fiscal year and the full $80 million next fiscal year -- fiscal 2017.

Anthony Pettinari, Citibank.

Jon, in your remarks, you indicated engineered materials would exceed original volume expectations, while HH&S was maybe trending below expectations. But you kept segment volume guidance flat for the year. And, just from a big picture perspective, is this because you expect to return to trend in the second half of the year, or is there some level of conservatism baked in? It seems like the legacy businesses are doing much better than expected from a volume perspective, but HH&S is doing a little bit worse.

First of all, we are very pleased -- we are pleased with all three operating divisions. Obviously, all had great quarters. In engineered materials, we have been achieving stronger volumes, largely for the reasons that I said, which was plastic is gaining share versus other substrates, and in some of the segments that we play in, particularly industrial, some construction segments and retail, we have seen strong performance there. And so I would anticipate that engineered materials will continue on that trend for the rest of the year.

In HH&S, we have had very good results in North America, but have seen some challenges in volume, particularly in Latin America. I don't think that is surprising, given some of the economic turmoil that is going on in Latin America. And in Europe, again, we have seen good performance in health, hygiene, and medical, but some of the specialty products that don't go into that segment, we have seen some pressure on volumes there. Although, in both regions, as I said in my remarks, we took the opportunities to improve price mix and productivity, and so our earnings in those regions exceeded our expectations. And we anticipate that those similar trends will continue for the rest of the fiscal year. So sort of a balance between the Latin America and Europe piece of HH&S being offset by the stronger volumes in engineered materials and still quite pleased with volumes in the North America side of HH&S.

Okay. That's helpful. And then, can you provide a little bit more color on the type of volume declines you saw in Latin America in HH&S? Did they get worse going through the months of the quarter and into April and May, and can you just remind us, do you sell any meaningful volumes into Venezuela?

I think our Venezuelan business is not particularly meaningful. Obviously, I think Brazil is the biggest region that we have down there and with the economic uncertainties that have been in Brazil.

The other thing I will remind you is that it wasn't that long ago that we did the acquisition of Providencia that is being completely integrated in, but we have taken the opportunity to financially improve that business and take some opportunities to strengthen margins. So I would say it is a combination of some economic factors. But I would be remiss if I didn't say that I was extremely pleased with the performance of that region, especially from an earnings and margin perspective where we are not unhappy with how that business is performing.

Okay. That's helpful.

Debbie Jones, Deutsche Bank.

I was wondering if you could talk -- you just addressed engineered materials being better than expected. Was this more kind of legacy Berry? What specifically was driving that? And then, if you could just comment on how core this business is Berry overall?

I'm sorry, Debbie. You broke up right in the middle of the key part of the question. Can we just get you to repeat that again?

Yes. Sure. Sorry. Could you just comment again a little more specifically on what drove the better volumes for you than you were expecting in engineered material? What you think is sustainable, and then, just how core is this business to you?

Well, again, as I think I just stated, the key parts of our engineered materials business, first of all, were being benefited by the fact that plastic packaging continues to be very competitive with other substrates. So, for example, if you think about shrink wrap on a carton of carbonated beverages, you can either have a cardboard wrap or you can have a plastic shrink wrap. With oil prices being low, we are very competitive there.

So I would say there is a shift as there has been for a while now towards plastic packaging benefiting our engineered materials improvements in industrial, construction helping. Our retail product lines that we sell have also been quite strong recently. And so we are seeing a lift in almost all product lines. The only exception is we have a small part of the business that does pipe maintenance. This is what we call the Seal for Life business. And because of the oil and gas situations around the world, that business has been under some slight pressure. But our business has done a fantastic job of pivoting towards water, pipe applications and so forth and have mitigated some of the pressure there.

So our engineered materials business, again, seeing the benefits that I described.

On consumer packaging, again, I think a very modest, albeit real, improvement in consumer demand. And if you look at pricing for packaged food goods, for the first time in probably multiple quarters, we are seeing some price relief at grocery. The price line crossing zero here for the first time in multiple quarters, and there is always a very high elasticity of demand for food so that we also think that will benefit us going forward.

Okay. And then the question about relative being a core business for engineered materials?

Look, I think we are extremely pleased that all three of our operating businesses exceeded 19% EBITDA operating margins for the first time in our history. Our engineered materials business is hitting on all cylinders, generating significant amounts of cash, has a very high return on invested capital.

Now, having said that, there is a constant evaluation at Berry to make sure that things are appropriate. But, as we sit today, we are very pleased with the structure of the Company, and all three of our businesses we think fit well with what we are trying to do strategically.

Okay. Last question and I will turn it over. You mentioned leveraging commercial applications going forward. Could you give us a sense of which segments this might be in and just kind of like a timeframe when you might expect to see some benefits from this?

Well, we are particularly focused on health, hygiene, and medical applications. And I think as I have said in other calls, for example, we believe that if you think about a disposable diaper construction, we are very excited to work with customers who want to think about these as assemblies where we can provide multiple components, reduce the conversion costs for our customers, and add the features and benefits that consumers are looking for. So that is one of our key target areas. In the area of hygienic disposable wipes, we are looking at the combinations of packaging containers and new wipe products that we can combine together.

So I think there is a whole host of opportunities. We are just sort of at the cusp of this, and we will update you more on future calls. But very, very exciting opportunities.

George Staphos, Bank of America Merrill Lynch.

Thanks for all the details. First question I had is for Mark. Mark, can you provide a bit more clarity on what the strategic change was in working capital? I know it is a one-off item, but I'm still curious about what was actually driving it. Was it some sort of factoring program or something else? Then I had a couple of other follow-ons.

Sure. Yes, it was a combination of two things. One, you just hit on, George, which is factoring. They have some factoring programs that made sense for them, but as part of Berry, aren't as attractive due to our lower cost of capital. And the same thing would apply to terms with vendors. As we have consolidated vendors, we have been able to take advantage of discount opportunities of AVINTIV where it didn't make sense for AVINTIV as a standalone company. So it is a combination of AR factoring and discounting on suppliers.

Okay. Thanks for that. And I want to maybe piggyback on one question, I think Anthony, was getting at. So if we look at AVINTIV, you are obviously quite pleased. The results were better than your forecast. I guess the conclusion on what you were saying about Latin America is that, even with the decline that you are seeing there, do you feel like you have enough optimization benefit to offset volume declines at the current level?

Now, I put a lot of words into your mouth. If you could sort of clarify how you see the next two quarters and the outlook in Latin America for AVINTIV relative to the leverage you can pull out what the volume outlook is. And can you -- I forget if you mentioned it, but what kind of volume decline did you see in AVINTIV in Latin America in the quarter?

Yes, George, we did not break that out, but I would say that our volume declines are consistent with what you are seeing in economic activity down there with GDPs being in the negative 2% to 3% range.

But short of that, I am very pleased. We are still just completing the integration of Providencia, which was acquired about a year ago. There are some benefits from that. We are taking some opportunities on product mix and portfolio to look at optimizing pricing in the marketplace. And so, from an earnings perspective, we had a very strong quarter, and we anticipate that for the remainder of the fiscal year, we continue to think that we will have a strong quarter.

If, for some reason, you see a rebound in economic activity there, that should just provide upside to us. So I think we are going through the same things that many other suppliers in Latin America are from a demand perspective, but we have some offsets on productivity, price mix, and so forth, which are allowing us to achieve our goals.

Sure. Jon, one more perhaps on that to the extent that you can comment. What we typically see -- not speaking specifically to this quarter, but what we typically see the Latin American business for AVINTIV move at a multiple of GDP, or is it more or less in line with GDP?

And then, in Europe, I didn't quite catch what some of the, again, market factors working against you were there? Again, recognizing that on the operations front you are doing quite well.

I would guess that on the Latin America side, the business is heavily focused on health, hygiene, and medical. So if you think about those segments perhaps growing slightly better than GDP rates, we would anticipate perhaps slightly better results there.

In Europe, I think the important thing is, remember, this business we need the health, hygiene, and specialties for a reason. There is a set of product lines that are not health, hygiene and medical. They go into geo applications for construction. They are filters.

Right.

There are some industrial applications. Roofing products, agricultural. And I think in that segment in Europe some pressure on demand, we continue to like the health, hygiene, and medical, but we think those industrial type applications might have some volume pressure in Europe for the rest of the year. But, like we have done in Latin America, a very good job in our European business as we are completing the integration of [Denur], achieving the synergy benefits of that. Cost saver ability and price mix. We still anticipate good earnings results from our European business for the remainder of the year.

All right. Thank you.

David Heller, DSC Capital Markets.

A couple of follow-ups because most of my questions have been broadly asked. But, when you think about the capacity expansions, what type of return on capital are you targeting?

And the second question relates to top-line synergies. Broadly speaking, how should we think about the potential profit opportunity over time? Thanks.

Sure. With respect to the first question, we have a minimum hurdle rate on our capital expenditures of 20% IRR, and so we would certainly expect this investment to achieve that return. Similar to other capital. I will let you all refer to Jon on the (multiple speakers).

Yes. On the second question (multiple speakers).

(multiple speakers) return unlevered. Sorry. That was levered or unlevered?

That is unlevered. Sorry.

Okay.

Unlevered.

And with regards to typical experience, for example, on new product growth, we generally think about that internally as dropping through at around 25% EBITDA margins as we get some fixed asset leverage going along with the new product introductions. So that is a general rule of thumb that we think about.

But, in terms of the top-line synergies, in terms of sales, should we think of this as a $200 million opportunity? Is it bigger than that?

We haven't quantified that yet. We will talk about that as those products start to get through the end of the pipe, but I would think about those dropping through at the margin levels I described.

Okay.

After you describe that as they get closer to commercialization.

Okay. Looking forward to it.

Arun Viswanathan, RBC Capital Markets.

I just had a follow-up. Now that you are a little bit more global, can you help us understand, are there any other opportunities to source in different regions where there may be a cost advantage on resin? And maybe you can just describe your inventory management on resin as well. Do you have any opportunities to build up inventory ahead of price increases or mitigate the impact there?

I think there are several good points in there. First of all, because of Berry's scale, we are probably one of, if not the largest, single company buyer probably of olefin resins in the world. And with our expansion of global positions, it gives us the opportunity to buy anywhere in the world where we can acquire the most cost effective resins. We think this will be a significant advantage going forward as we anticipate that, for example, polypropylene capacities will be longer in Asia. We think the capacities of polyethylene will be very attractive here in North America. And Berry, along with a number of other companies, but extremely well positioned to take advantage of the geographic opportunities of where they exist.

Great. And then on the synergies, with AVINTIV, this is just a quick follow-up. I don't know if I missed this. But can you just help us understand that $15 million incremental? Was that new projects that you found? Was that sourcing or procurement, or where was that opportunity?

And then, any further upside, where do you think it would come from? Thanks.

I will just arrive at it. Make sure we got the numbers right here. So when we originally announced the deal, we said we thought there would be $50 million of synergies through the last two quarters. We have now upped that to $80 million. So $30 million of delta, and the vast majority, if not all of that, is coming from the areas that we targeted originally, which are material savings and SG&A synergies.

Got it. Thank you.

Chris Manuel, Wells Fargo Securities.

I was wondering of your 1% legacy based business growth, how much is coming from new products or products introduced in the past few years, and what is your expectations for adoption of some of these? I guess thinking of [Versalite] and Barricade and others.

I think we think about it internally as saying roughly 20% or slightly higher than that contribution of total Berry sales come from products that we have introduced in the last three years. We are working very hard internally to see that number increase, but I would say the growth is coming from a combination of slightly improved consumer demand in foods, significantly higher demand in our engineered materials business for the reasons I have discussed, and still good demand in the health, hygiene, and medical parts of HH&S.

(Operator Instructions) Georgia Staphos, Bank of America.

I wanted to piggyback on that last question, specific to Versalite. It has been a little quiet on the Versalite front. Perhaps that is a misperception, but could you comment at all in terms of what additional commercialization has occurred, to the extent that you are at liberty to talk, what your customers have been intending to do with Versalite? That is question number one.

Question number two, more broadly, Jon and Mark, Berry has traditionally been a very good manufacturer, a very good operator. I recognize there are multiple statistics that you target at any one of your plants and none of your plants -- not one of your plants is like in the other.

But on operational metrics, how is fiscal 2016 progressing thus far? Are you in line with plan and productivity behind plan, ahead of plan? Can you give us a bit of color and quantification there?

So Versalite, George, I think the situation is the same as we have described it in the past. While we are almost universally ecstatic with the lower oil prices, which lead to lower resin prices, the one product line where low oil probably has played against us is in Versalite where significant reductions in Styrofoam and polystyrene costs have created a bigger gap between a Versalite cup and Styrofoam.

We will see how -- volumes have increased. We continue to get a lot of excitement from customers, but the gap on Styrofoam, polystyrene probably slowing up the rate of introduction versus what we had initially anticipated. Of course, we developed Versalite when oil prices were [$100], but I think on balance we will take low oil prices and fight our way through the material work that we have to do to continue to reduce our cost on Versalite.

Understood.

With regards to productivity -- and, by the way, we remain very, very excited about that product line as do customers, but we have got work to do on the cost side to become even more competitive.

I would say, on the productivity side, we are achieving the goals that we laid out at the beginning of the year. Probably slightly ahead on asset leverage, but from an operational standpoint, achieving the productivity goals that we lead on. I think you can see that as Mark has described the bridges, you can go back and see where those sell through.

Okay. Thanks. I will dive back on that question later. But two last questions and I will turn it over.

Number one, on the one hand, 19% margins are terrific, and certainly you should be pleased with that. On the other hand, how do you contend with the implicit negative that comes with that and that you now have a larger target on your back because of the margins you are generating in your businesses? How do you feel about each of your three businesses' ability to defend that margin and, for that matter, grow it in dollar terms? So that is question number one.

And then, Mark, can you go back to what you are saying? So tax rate was 40%. You are guiding to 34% for the whole year, if I heard you correctly. So does that mean the second half is lower than that to average at 34%, or is the second half at 34%? Thank you.

I will take the first question, George, and then I will pass the second one over to Mark. I would just say that this continues to be a very competitive industry, and we compete every day, and in the marketplace we are pricing in a manner that allows us to compete and win share. But, for sure, price in the marketplace is very competitive and we are competitive.

Various advantages is coming in all the regions that we have discussed, which is the scale, the sourcing, our cost structure. Various competitive advantage is on the cost side, and that allows us to achieve the margins we reported today. So we will continue to be very competitive in the marketplace, but try to win business. But we think it is very sustainable advantages that allows us to generate the margins that we are achieving and generate those returns for our investors.

And then on the tax?

Yes, George, on the second part of your question, you have got it right that the first half was 40%, and we are anticipating currently the full year will be 34%.

I would just remind you, though, that the first quarter is, A), our seasonally weakest quarter, so, therefore, lower earnings, and, B), we had a lot of costs associated with the AVINTIV acquisition from an accounting perspective that made the math a little different right around the 40%, just due to the lower denominator. But you have got it right that we are projecting a full year 34%, which would imply a lower rate in the back half of the year.

Thanks for the thoughts.

I am showing no further questions at this time. I would like to turn the call back over to the Company for any closing remarks.

Well, we certainly appreciate everybody's participation in today's call. We look forward to speaking with you again at the next conference call. Thank you, everybody.

Ladies and gentlemen, thank you for participating in today's conference. This does conclude today's program. You may all disconnect. Everyone, have a great day.