Greif Inc (GEF) 2004 Q2 法說會逐字稿

The morning ladies and gentlemen and welcome to the Greif Inc. second quarter 2004 results conference call. At this time, all participants are in a listen-only mode. Following today's presentation, instructions will be given for the question and answer session. (Operator Instructions). As a reminder, this conference is being recorded today, Friday, June 4, 2004. I would now like to turn the conference over to Ms. Deb Stromeier (ph), Director of Communications of Greif.

Thank you and good morning. Our speakers this morning are Mike Gasser, Chairman and Chief Executive Officer, who will discuss the status of Greif's transformation initiative, and Don Huml, Chief Financial Officer, who will discuss Greif's financial results for the second quarter and management's guidance for fiscal 2004. Following their remarks, there will be an opportunity to ask questions. We are including slides as part of today's conference call. They are available through our web site at www.greif.com in the investor center.

At this time, I will read the company Safe Harbor statement, which appears on slide two. Some of the comments on this call may contain forward-looking information within the meaning of the Private Securities Litigation Reform Act of 1995. The words may, will, intend, continue, believe, expect, anticipate, project, estimate, target and similar expressions among others identify forward-looking statements. All forward-looking statements are based on information currently available to management. Although the Company believes that the expectations reflected in these forward-looking statements have a reasonable basis, the company can give no assurance that these expectations will prove to be correct. Such forward-looking statements are subject to certain risks and uncertainties that could cause actual events and results to differ materially from those expressed or implied.

In addition, as noted on slide three, some of the comments during today's conference call include certain GAAP and non-GAAP financial measures. The non-GAAP measures, which are reconciled to the GAAP amounts in the appendix of this slide presentation are before restructuring charges in timberland gains, which are hereinafter referred to as special items. Now I will turn the call over to Mike Gasser for his remarks.

Thanks, Deb. I would also like to welcome you to Greif's quarterly update. I will start today by providing you with a context for the earnings we released yesterday, then Don will go over the specific numbers with you.

As you can see on slide four, whether you're looking at our numbers quarter-over-quarter or sequentially, you will see the picture emerge that we are benefiting from the transformation initiative we rolled out a year ago. We have made significant headway in reducing over selling, general and administrative expenses and efficiency gains at the plants that have piloted our lean manufacturing process. We're making progress in honing our commercial skills into a consistent market-driven organization with an eye on the bottom line. Through the end of the second quarter of 2004, the impact of our transformation initiative is accumulative savings of $56 million.

We will now go to slide five. Unlike many manufactures going to lean production, Greif has undertaken a comprehensive transformation program which we used to refer to as our performance improvement process. Whereas some look only at the factory floor, we have challenged how we do everything -- manufacturing to marketing, supply chain to sales, the management of working capital to the deployment of management talent. Thus, our transformation goes beyond SG&A optimization to encompass four key areas. First, operational excellence, which involves lean manufacturing principles and a continuous improvement ethic at our facilities worldwide.

Second, commercial excellence, which we become indispensable partners to our customers. Understanding their markets, anticipating their needs, providing the right products at the right time with the right value. Third, resource excellence, including our working capital and managing our global supply chain to enhance asset utilization and profitability. And last in order, but not in importance, people excellence. Employing fab-based general management in developing over next generation leaders as well as reinforcing the skills of our leaders today.

On slide six, you will see that with operational excellence, we've honed our lean manufacturing initiative into a systematic process that allows us to manage expectations, minimize disruptions at the facilities as they undergo their own transformation. We're becoming a low cost producer in our industries by rearranging our physical environment and our work practices and eliminating waste, or EMUDA (ph), wherever we find it.

We've introduced a process at several plants in North America in both our industrial packaging and services and our paper packaging and services business. In Europe, where we have 34 factories in 20 countries, we started the process in the United Kingdom. The Netherlands and Italy come next and will be followed shortly by France, Germany and Belgium. Shortly, we will start transformation activities in Australia. I will note that all of our plants in more than 40 countries worldwide will go through the same process and we expect that substantially all of them will be gone through implementation by the end of this year. Operational excellence ultimately means safe, lean, productive and cost-effective plants and work processes that are in line with our markets and strategies.

As noted on slide seven, we continue to develop the tools to help us achieve commercial excellence. Our marketing and sales teams are segmenting and tailing our value propositions, identifying and implemented initiatives to ensure we're providing our customers with the products and services they need with prices based on value provided. We're taking advantage of the multiregional nature of our businesses and organizing by geography rather than product, allowing us to cross-sell and raise awareness of our comprehensive line of products. It also makes Greif easier to do business with, a critical consideration in today's cluttered yet fragmented marketplace.

Moving to slide eight, continued to scrutinize our purchasing and logistics functions in light of rising costs of raw materials such as steel and (indiscernible) corrugated containers, or OCC, it is imperative that we maintain a laser focus on actively managing our global spend and supply chain. Along the same line, we're using new inventory management tools, executing new accounts receivable and accounts payable strategies and assessing the impact of working capital on our financial statement, which takes us to slide nine.

Transformation could not be sustainable without learning. We have developed and put into operation a Greif center of excellence. The proprietary school employing in-class, web-based and in the plant hands-on training build the knowledge, skills and abilities of our people. 'Offering' a range of subject modules (indiscernible) constructions to enhance the capabilities of our managers. That concludes the overview of where we are today. I will now turn the call over Don, who will talk about the specifics.

Thank you, Mike. As you will note on slide 10, net sales rose 15 percent to 542 million, compared to the same period last year. On a constant currency basis, net sales increased 9 percent, driven by higher selling prices and volume levels. Operating profit before special items was up 41 percent to 33 million, while net income before special items was 16 million for the second quarter of 2004 versus 6 million a year ago.

Earnings per diluted class A share on this same basis increased to 56 cents from 23 cents a year ago, while earnings per diluted class B share rose to 85 cents for the second quarter of 2004, compared to 34 cents for the same quarter last year.

Turning to slide 11, although improved efficiencies and labor and other manufacturing costs provided positive contributions to our gross profit margin, these gains were more than offset by higher raw material costs, particularly in steel and OCC, as well as lower planned timber sales. We saw a one-point reduction from 17.5 to 16.5 percent in the second quarter gross profit margin, compared to that of a year ago. However on a sequential basis, there was a 1.7 point improvement in gross profit margin. Solid progress against our transformation targets continued to be made this quarter, as is evident in our SG&A comparison that's shown on slide 12. These expenses declined to 56 million, or 10.3 percent of sales, versus 12.5 percent of net sales in the same period last year and 16.7 percent in the second quarter of 2002. We are on track to reach our fiscal 2006 target of 10 percent on a run rate basis by the end of fiscal 2004. The reduction in second quarter SG&A expenses in absolute terms was partially offset by the impact of foreign currency translations of approximately $3 million compared to the year-ago period.

Turning to slide 13, industrial packaging and services delivered an increase in sales of 16 percent to a record $400 million, compared to the same period last year. Excluding the impact of foreign currency translation, the increase in net sales was 8 percent. Before special items, operating profit for the segment rose to 28 million for the second quarter of 2004, compared to 14 million in the comparable prior year period. The segment's gross profit margin benefited from improvements in labor and other manufacturing efficiencies, as well as increased selling prices, which helped to offset the negative impact of higher raw material costs, particularly for steel. Although it appears that global demand for steel may be coming more into balance with supply, we expect a continued upward bias in near-term pricing, but improved availability. In addition, SG&A expenses for this segment were well-behaved during the quarter.

On slide 14, you can see net sales for paper, packaging and services rose 14 percent to 138 million over the same quarter last year. However, improved volumes were offset by lower average selling prices for containerboard from the comparable prior period. Parenthetically, containerboard selling prices are up sequentially, reflecting partial realization of the March price increase. Operating profits before special items decreased from the same quarter last year, primarily due to a decline in gross profit margins, resulting from reduced pricing levels and higher OCC and energy costs, which more than offset the higher volume levels for this segment. SG&A expenses declined in the current quarter from the same quarter last year. This segment is also realizing benefits from the 100 percent inclusion of CorrChoice's results and related synergies.

Slide 15 reflects our second quarter performance in the timber business over the past three years. We are actively managing our timber portfolio for the long-term and monetize these assets as appropriate. Timber sales have been consistent with planned levels during each of the quarters shown on this slide. The operating profit for this business is directly related to changes in sales volumes.

Turning to slide 16, during the past three years, we have strengthened the balance sheet and reduced the total debt to total capital ratio. This slide profiles our capital structure for the second quarter of 2004 and at year end of fiscal 2003. Total debt at April 30, 2004 was 644 million, or 52.5 percent of total capital, a slight decrease from year end of 2003.

On the next slide, you will see our key financial metrics. We're making solid progress toward achieving all of our goals within the desired timeframe. Operating profit margins before special items are expanding on an annual basis and we are on track to realize our goal of 10 percent by fiscal 2006. Return on net assets is improving as we continue to drive topline growth, reduce costs and expenses and enhance our management of the balance sheet. The 10.8 percent ARONA (ph) for the 12 months ended April 30, 2004 keeps us on track to achieve ARONA, exceeding our cost of capital this year and our 20 percent target within the next two fiscal years.

SG&A to net sales has shown the most significant progress to date as a result of our SG&A optimization initiative launched during fiscal 2003. For the 12 months ended April 30, 2004, we were at 10.7 percent, down markedly from 15.4 percent in fiscal 2002. There continues to be a keen awareness of and a commitment to permanently reducing our global spending. We're making progress toward our goal of 12 percent operating working capital to sales. For the most recent 12 month period, we were at 14.8 percent.

On slide 18, we show the Company's guidance for fiscal 2004. We continue to expect our operating environment to modestly improve compared to fiscal 2003. Benefits from a gradual improvement in activity levels may be influenced by raw material costs, especially for steel and OCC. We are, however, cautiously optimistic that near-term prospects for our paper, packaging and services segment based on improving fundamentals, including the announced June containerboard price increase, savings from the Company's transformation initiative and positive contributions from the Company's full ownership of CorrChoice, the realization of related synergies are expect to be realized as planned. Both of these factors are anticipated to represent a substantial portion of the improved 2004 results. Management's guidance for fiscal 2004 before special items remains at $2.35-$2.40 per class A share. As a reminder, a reconciliation of our GAAP and non-GAAP is included in our earnings release and also in the appendix to this slide presentation. That concludes my remarks. Mike and I will now be pleased to answer your questions.

(Operator Instructions). (inaudible)

Good morning and thank you. First question, coming back to the transformation initiative, I believe in your prepare comments in the release, you mentioned organic growth as being delivered. Can you comment or give us a little bit more color on what you are seeing regarding civical (ph) improvement in the industrial side of your business and whether there has been any meaningful wins in that business that you can comment about?

First of all, I might comment on the inquiries in volume. If you look at our topline growth at 15 percent, we mentioned that on a constant currency basis, it is 9 percent. And basically, price and volume are about -- have about equal representation. And so we are getting some pretty good momentum with volume levels flattish during the first quarter and now up in the mid-single digits; it is a very positive sign. Clearly, the general level of activity is improving. We also feel that our commercial excellence initiative has benefited us, in terms of our targeting of new business and the -- what Mike had mentioned earlier, the tailoring of our value propositions, and also tactical pricing have all contributed to the topline growth.

This is Mike, I'll jump in on the new wins. We have said in the past that the top 10 percent, top 10 customers represent less than 5 percent of our total business. So we have a lot of customers and all wins are very important to us. We are getting new business, but we're also getting more business from existing customers. We're looking at this in two avenues.

Okay. And then, thinking about the paper side of the business, can you comment on volume gains on a year-to-year basis in that segment and the impact CorrChoice would have had?

We are seeing a good improvement in activity levels. If you look at the mills, production is up about 24,000 tons and that would represent about a 19 percent increase. When you look at our converting activities, we have gone through a really an integration of our facilities with CorrChoice's, so it's a little bit more difficult to track. But we are experiencing volume levels in the high-single digit range, which would be above really the industry (multiple speakers) earnings.

And then thinking about the paper business more on a quarter-to-quarter basis, I believe that your sales were up 10 percent, which is largely due to higher prices. But I believe your operating profit in that segment was down on a quarter-over-quarter basis. Can you detail some of the offset offsets? And then secondly, I believe you commented that you experienced partial implementation of the price increase in the market. Curious whether you have seen full implementation since the end of the quarter?

Yes. As far as the offsets, that was clearly the increase in OCC. We consume about 110,000 tons and it was up about $25 per ton. And so once again, that was clearly the offset to a much lesser extent, higher energy costs.

In terms of the partial realization of the price increase, subsequent to the end of our fiscal quarter, we have now fully realized the March 1st increase of $50 per ton, and we are quite confident about the realization of the second price increase announced effective June 1st.

And then just lastly, you mentioned a strategic sourcing initiative to lower your purchasing costs. Can you give us some idea of the size of the opportunity you perceive there?

I believe we mentioned on the last call that for fiscal 2004, we would expect the impact to be in the $5 million range and that for 2005, we would expect that to be 15 million and that by 2006, we should be in the $30 million range and we would like to think that those targets are conservative. We have completed a diagnostic and have built a global and database. So we have really been able to validate that those targets are very achievable and we are developing the action plans to capture the opportunities. In fact, today, we will be releasing a global RFP for the sourcing of resin.

Great, thank you.

(Operator Instructions) Ross Haberman, Haberman Funds.

How are you, gentlemen? A couple of quick questions. The working capital slide -- how does that translate in terms of dollars you hope to take out of working capital, say, in '04 and '05?

We are fortunate to have some pretty good topline growth, so that is one of the reasons that we intend to use a relative measure. I think one way of looking at it, we are targeting a $50 million contribution from our working capital initiative. But based on the volume growth, and if you assume that the growth is going to result -- for every $1.12 cents of incremental working capital, there will be an offset. So in absolute terms, it might be half that amount.

And whatever you end up taking out, will that be basically going to pay down debt?

Exactly.

Ross, most of this on our plan was back-end loaded towards the end of this year, so we are tracking where we thought we would be at this point in time. And you're absolutely right -- that whatever comes, we'll use to pay down debt with.

Okay. Going back to some of the prior questions on the paper and packaging side, for every dollar of -- you said you just got a new increase, which seems to be sticking, I believe you said in March, a $50 price increase. For every dollar of increase, how does that translate down to the operating income line there? Taking into account, again, the rising-- the energy and the rising cost?

That is a very good point that you added, because it would not be realistic to extend the increases and expect them to all drop to the bottom line because there are some significant offsets. But for every dollar, it would be a $600,000 contribution to the bottom line. And so it's quite meaningful. And that basically is taking that increase to over approximately our 600,000 tons of production capacity within our mills.

So you're saying that that -- the new rise sticks, that would add 30 million on an annual basis?

That is correct.

To your operating line?

To the topline, and then it will depend on what happens to OCC and energy costs to determine how much actually flows to the bottom line. We should also add that there is a lag in the realization. So for example, the June 1st increase, market conditions are tight, inventories are low, so we're quite confident that the increase will be realized. But we typically look at a realization beginning one month following the announcements, and then one-third, one-third, one-third. So it will be a function of the market conditions. So that is a rule of thumb.

And Ross, the margin increase that we talked about, it was announced on March 1 for a $50 per ton increase. We only got a small portion of it in April and the rest was realized in May. So that gives you an indication of when announcements are made and realization. Now market conditions dictate the timing of it, but the March 1st really did not get fully implemented until the end of May.

Let me just go back for a moment. So the 30 million would be in addition to your revenue? And depending on your conditions on the rate of rising costs, a portion of that will fall to the operating income line?

That is correct. The costs that you've associated with OCC costs, which were a big component of ours; energy costs, are the two big items (indiscernible).

Today, given -- this just my final question -- today, given those costs for every dollar of additional income, given the costs today, what falls to the operating income line today based on the cost today?

I think it's better to really just take it by component. You would have to make an assumption as to what would happen to OCC costs. Right now, they are relatively stable but rather volatile.

Okay.

But with the potential for volatility.

Okay, thank you.

(Operator Instructions). Greg Spiegel (ph), Pilot (ph) Advisors.

Good morning guys. I apologize if you guys answered this already. I had to jump on an off the call. But could you talk about the availability of steel and the impact that that is having on the drum side of the business?

Steel, as you would imagine, has been very tight. We got very low in some of our locations around the world in the last three months, we're running hand to mouth, quite honestly. Steel right now seems to be more in balance, so the availability seems to me there. Pricing is not softening, it's where it has been. But availability, the balance of steel seems to be there right now. We did run pretty tight in the last (indiscernible) days.

So the supplies at this point are easing?

It appears to be easing as of this snapshot in time. The next 30 days, who knows? But right now, we don't seem to have the critical issues that we had 45 days ago.

What type of impact would that have on the rates, or the prices at which you're able to sell, the steel drums? Does that have an impact?

Steel has gone up so rapidly this year (technical difficulty) we have gone through and raised steel prices fairly dramatically in step with the cost (technical difficulty). Customers are looking for steel drums and we try to respond those needs and we need to get a return on those. Steel drum prices have gone up every place in the world in response to the steel increase (indiscernible).

Okay, great. Thanks.

(Operator Instructions). (technical difficulty).

Hi, good morning. I have a very quick question regarding your earnings guidance. You reported a relatively strong quarter in the second quarter and I am curious -- it sounds like you are realizing price increases in your paper business, and it implies that your operating margins should be improving in the second half of fiscal '04. And I am surprised to see that your guidance remains the same from the first quarter. Could you given some color on why that is?

I would say that there is some caution, given that the price increase, the second increase has just been announced. We do feel that the environment is favorable, given the improved fundamentals. But it still is an announced increase, not a realized increase. And in OCC, while it has stabilized at a high level, there are factors that could drive OCC higher and that could end up offsetting the increase. So as we mentioned in our comments, we're cautiously optimistic. But at this point, we feel very comfortable with the guidance that has been provided. I would say that our comfort level is improved, now that we have another data point. But again, we still feel it is appropriate to be a bit cautious.

I would echo Don's comment about being cautiously optimistic right now. In addition to the two points that Don mentioned, we also have, as we've experienced, a tremendous volatility in steel pricing over the last 30-60 (technical difficulty) while the availability now seems (technical difficulty) better balanced, it is a product that we are looking at. But we are very cautiously optimistic and I think 90 days from now, we're going to have a much better view. Whether some of these plans are going to be implemented and have been implemented and whether the costs (technical difficulty). We thought it was prudent right now just to keep our guidance where we had it.

I apologize if you've already answered this question, but when is the second price increase becomes effective? Is it July or June?

It was announced effective June 1st. The implementation really will be dependent upon market conditions. So it hasn't gone into effect yet, but it is only (technical difficulty).

Okay, thank you.

Ross Haberman.

Seasonally, is the second half of the year as good or better for the packaging -- for the packaging business as the first, and what is your expectation there based on what you saw this last quarter?

Historically, Ross, if you go back and look at our quarterly data over the last couple of years, the second half of the year historically has been a stronger period for us. If you break it out into components, the industrial packaging business, the third quarter has some strength in the European market because of food business, food drum business that we (technical difficulty) in the European market (technical difficulty) the fourth quarter as the food business comes into the United States. So historically, the second half of the year has been stronger in the industrial packaging.

Also, the fourth quarter historically has been stronger for the paper business, the so-called Christmas season (technical difficulty). A lot of packaging is used in anticipation of holidays. So historically, those, the second half of the year has been stronger. We'll have to wait to see how market conditions dictate. And the food business really is dependent upon weather. We look at the weather map a lot and July through October just to see if it's raining in parts of the world, because that really dictates crop and of course dictates how many drums we will sell.

Okay. And just a final question on the timber. I think you had said that you were a little bit below your plan. Was that because of prices? Could you tell us a little bit about that?

We were right on plan, Ross. It must have been a bad connection. I think we said we're right on plan.

Okay. And are you developing -- I know historically, you were developing parts of that land. Where do you stand with that and could we see any of that over the next year or two?

We have not physically developed it ourselves, Ross. What we've done is we have sold land that was developable and sold it to developers. And we are continuing to look at land that has better use than just growing timbers. And as we said I think in previous conversations, this is something that's not predictable. It's when we get the right conditions with a buyer that we will sell. We are always looking at burning timberland that is more valuable than growing trees on it into something else and so we're constantly looking at it. So we really cannot predict when that will happen, but it's something that is an ongoing review that we make all of the time.

Finally, CorrChoice, are you realizing the efficiencies, the cost savings that you had hoped to a quarter or two ago when you announced the merger?

Yes, we are

More so, less so?

A bit better than expected, although we had pretty high expectations. As you know, that is an exceptionally well managed company. We have been able to benefit by transferring some production from our less efficient facilities to more efficient ones within the CorrChoice network. It clearly allowed our mills to operate basically at their practical capacity for the quarter. And so we are definitely meeting or exceeding the targeted benefits.

And we began to see those numbers this quarter, or will we see more of it over the second half of the calendar year?

You have seen part of it -- clearly, that has benefited us during the second quarter and first half and we expect that to continue in the second half.

Just one other thing. I looked up these restructuring charges. Were they ended at the end of this calendar year? Just expensing them?

Yes, we have indicated that there will be no new restructuring initiatives beyond fiscal 2004. Any further rationalization of the footprint or any other such items would flow through operations, and that remains our expectation.

Okay, thanks again.

(Operator Instructions). At this time, we have no further questions. I would now what to turn the call over to Ms. Deb Stromeier.

Thank you and thank you again for joining us on today's quarterly conference call. As a reminder, this call will be available for replay from noon Eastern time today through noon on Monday, June 7th. For domestic callers, the number is 800-405-2236. For international callers, the number is 303-590-3000. Please use the reservation code 581318 pound. You can also go to our web site at www.greif.com. This call will be posted in approximately one hour. We appreciate your participation. Good morning.