Graphic Packaging Holding Co (GPK) 2018 Q3 法說會逐字稿

Good morning. My name is Regina, and I will be your conference operator today. At this time, I would like to welcome everyone to the Graphic Packaging earnings call. (Operator Instructions) I would now like to turn the conference over to Alex Ovshey, Vice President of Investor Relations. Sir, you may begin.

Thanks, Regina. Good morning, and welcome to Graphic Packaging Holding Company's conference call to discuss our third quarter 2018 results. Speaking on the call will be Mike Doss, the company's President and CEO; and Steve Scherger, Executive Vice President and CFO.

To help you follow along with today's call, we have provided a slide presentation which could be accessed by clicking on the Webcasts and Presentations link on the Investors section of our website at www.graphicpkg.com.

I would like to remind everyone that statements of our expectations, plans, estimates and beliefs regarding future performance and events constitute forward-looking statements. Such statements are based on currently available information and are subject to various risks and uncertainties that could cause actual results to differ materially from the company's present expectations.

Information regarding these risks and uncertainties is contained in the company's periodic filings with the Securities and Exchange Commission. Undue reliance should not be placed on forward-looking statements as such statements speak only as of the date on which they are made, and the company undertakes no obligation to update such statements except as required by law.

Mike, I'll turn it over to you.

Thank you, Alex.

Good morning, and thank you for joining us to discuss our third quarter 2018 results. We are encouraged by our overall progress in the quarter. The integration of the SBS mill and foodservice assets is on track. For the legacy CRB and CUK mill and global converting assets, the pricing to commodity input cost relationship turned $6 million positive during the quarter.

Third quarter adjusted EBITDA of $256 million was up $68 million year-over-year. The SBS mill and foodservice assets generated $63 million of EBITDA. We are driving improved profitability across the platform by successfully executing against our $75 million synergy target.

Our CRB and CUK mill and global converting assets generated $6 million of year-over-year growth. The improvement was driven by increased pricing and the benefits of tuck-under acquisitions. The improvement was partially offset by commodity cost inflation, specifically increased freight, chemicals, wood, purchased external paper and pulp substitute recycled fiber costs along with labor and benefit inflation.

While profitability and margins are clearly improving, our Q3 adjusted EBITDA was impacted by accelerating inflation, FX and reliability challenges at our SBS mills. We experienced $7 million of higher commodity input costs and hurricane-related disruption as wood fiber chemical costs accelerated during the quarter. We incurred $4 million of costs related to reliability at our SBS mills. We expect the previously announced and planned Q4 recovery boiler rebuild at Augusta, which is currently underway, will address the issues which occurred during the second and third quarters at our Augusta mill. Lastly, FX was unfavorable $3 million in the quarter.

Pricing improved during the quarter reflecting the benefits of recent pricing initiatives. Importantly, we successfully implemented the second $50 per ton open market increase this year for our CUK paperboard during the quarter and implemented $20 per ton of the announced second open market price increase for our SBS paperboard. We expect the successful open market paperboard increases we achieved across CRB, CUK and SBS paperboard grades over the course of 2008 (sic - 2018) will drive strong pricing momentum as we enter 2019.

We have line of sight to at least $100 million of pricing year-over-year as we exit 2018 and head into 2019. We have also made progress reducing our average pricing recovery lag to approximately 8 months. Reducing this lag, along with tightening freight terms, will remain a key commercial area of focus on contract renewals going forward.

Before I discuss the details of the quarter, I would like to discuss our current 2018 financial guidance. We continue to expect to generate $475 million of cash flow in 2018 and are now targeting $970 million of adjusted EBITDA. The reduction of our full year adjusted EBITDA outlook reflects our Q3 results and the recent acceleration in hardwood fiber, chemicals and resin costs -- most notably in our SBS mill and foodservice business -- along with the hurricane impacts and unfavorable FX.

The integration of the SBS mill and foodservice assets is on track. We expect to generate $35 million in year 1 synergies, exceeding our $25 million target. However, we expect the business will experience a negative pricing to commodity input cost relationship this year of approximately $14 million. We have also incurred approximately $10 million of reliability and performance issues at the SBS mills year-to-date.

As I mentioned earlier, the recovery boiler rebuild and electrical system upgrades currently being completed at our Augusta mill will result in a much more robust and stable operating environment. The Augusta mill is planned to be down for approximately 42 days through the second week of November and we will invest $40 million into the upgrades. We remain confident in our ability to meet our original 3-year commitments for this business as we execute price increases to offset commodity inflation and address reliability issues.

Now let me provide more detail on the key operational trends from the third quarter.

Organic volume in our global paperboard business was again flat in the third quarter despite weakness in big beer brands in North America. Our organic converting volume trend continues to outperform market trends as reported by ACNielsen, reflecting the ongoing success of our new product development pipeline.

Let me highlight one important new product commercialization in the quarter. In the third quarter, we introduced a sustainable, fully enclosed paperboard carton to replace shrink film multipacks for a European pet care customer. The collaboration has the potential to eliminate the use of approximately 6.4 million square meters of plastic wrap per year. The fully enclosed carton is 100% recyclable and is the first of its kind in any pet care market to be manufactured in the United Kingdom.

Turning to operations, our CRB and CUK mills ran well during the quarter. Backlogs remain healthy at 5-plus weeks for our CRB, CUK and SBS grades, reflecting solid demand. As a reminder, our CUK and CRB mills are highly integrated with our converting platform, consuming approximately 80% -- 86% of the paperboard we produce for these grades. Industry operating rates, according to the American Forest & Paper Association, along with the 3 -- across the 3 boxboard grades are north of 95% September year-to-date.

Continued emphasis on improvement initiatives, variable cost and operating efficiencies contributed the majority of the cost-savings in the quarter. We generated $9 million of net performance in the third quarter across the CRB and CUK mill and global converting assets.

Let me now briefly discuss the Letica Foodservice acquisition. We completed the Letica Foodservice acquisition on September 30 with funds settling on Monday, October 1. The acquisition extends our leading position in the growing paperboard-based foodservice markets in North America. The transaction will further diversify our customer base, significantly enhance our geographic footprint and provide needed capacity to meet incremental demand for paper cups resulting from the ongoing shift to paperboard solutions. The transaction is consistent with the strategy we outlined after the combination of the SBS mill and foodservice assets, specifically our intent to grow the foodservice business organically and through acquisitions to drive higher integration levels across our SBS Mills.

Lastly, I'd like to highlight the successful installation of a second curtain coater at our Macon mill and briefly touch on our capital expenditures outlook for 2019.

We completed the installation of curtain coater on the No. 2 paper machine at our Macon CUK paperboard mill during the quarter. It was a $30 million investment and we expect it will add $10 million of annualized EBITDA driven by significant reduction in coating chemicals consumption. This is the third curtain coater project we have completed over the last several years. Our previous experience gives us high confidence in the return profile of the project.

In 2018, the Augusta recovery boiler rebuild and curtain coater will drive our capital expenditures to the $390 million range. This compares with our baseline spend of approximately $325 million, which allows us to maintain our assets and offset fixed costs and benefit inflation. Over the last several years, our capital spending has been elevated, primarily reflecting large cost reduction projects at our virgin paperboard mills. With these projects now largely behind us, we have completed our preliminary planning for 2019 capital spending and expect it to be approximately $325 million in 2019.

And with that, I'll turn the call over to Steve Scherger, our Chief Financial Officer. Steve?

Thanks, Mike, and good morning.

We reported third quarter earnings per share of $0.30 per diluted share, up compared to $0.15 in the third quarter of 2017. Third quarter 2018 net income was positively impacted by a net $25 million special charges and credits that are detailed in the reconciliation of non-GAAP financial measures table included in our earnings release. When adjusting for these charges and credits, adjusted net income for the third quarter was $69 million or $0.22 per diluted share. This compares to third quarter 2017 adjusted net income of $55 million or $0.18 per diluted share.

Focusing on third quarter net sales, revenue increased 35%, driven primarily by $353 million of revenue from the SBS mill and foodservice assets and $26 million of volume primarily from acquisitions. Price was an $18 million positive in the quarter. Foreign exchange was a $6 million negative.

Turning to third quarter adjusted EBITDA, the $68 million increase to $256 million was driven by $63 million of EBITDA from the SBS mill and foodservice assets, pricing of $18 million and $9 million of performance. These benefits were partially offset by $11 million commodity input cost inflation, $7 million of other inflation, primarily labor and benefits, and $1 million related to foreign exchange. We ended the third quarter with over $1 billion of global liquidity and $2.9 billion of net debt. Total net debt decreased $33 million during the quarter, reflecting solid cash flow generation.

Adjusted for the GAAP classification change related to our receivable securitization sale program we previously discussed, cash flow from operations was positive $210 million in the quarter. We invested $97 million in capital and returned $23 million to shareholders via dividends. Third quarter pro forma net leverage ratio was slightly below 3x, now within our 2.5 to 3x range. We remain committed to our long-term net leverage target of 2.5 to 3x and expect to be in this range by year-end, reflecting our strong cash flow generation.

Turning to full year 2018 guidance, as Mike referenced, we expect our full year adjusted EBITDA will be $970 million, with fourth quarter EBITDA expected to be approximately $245 million.

Finally, turning to cash flow, we are maintaining our 2018 free cash flow outlook of $475 million, reflecting the higher-than-expected proceeds from the Santa Clara mill site sale which largely offset the reduction to our full year 2018 adjusted EBITDA outlook. The remainder of our guidance is contained on the last page of the presentation on our website.

Thank you for your time this morning, and I'll turn the call back to Mike.

Thanks, Steve.

We are keenly focused on recovering commodity input cost inflation through pricing and executing and integrating and generating the targeted synergies from the SBS mill and food service assets. We continue to plan for flat organic volume and have targeted plans in place to outperform the market through new product development and substrate substitution, consistent with prior years. We continue to be well positioned to generate productivity that is in excess of our labor and benefit cost inflation.

I will now turn the call back to the operator for questions.

(Operator Instructions) Our first question will come from the line of George Staphos with Bank of America Merrill Lynch.

Mike, 2 questions will be around pricing, if you don't mind.

So first of all, Steve and Mike, if we go back to the slides where you bridge to revenue and then again to EBITDA, perhaps I've missed it, but could you comment a bit in terms of why the $28 million or so of volume mix revenue positive wound up with a nearly $2 million negative in terms of EBITDA? That's question number one.

Question number two in terms of the pricing outlook for next year -- and recognizing it's very difficult to parse this to the last decimal point in terms of outlook for next year -- last quarter, you have more or less said that you were looking for pricing of around $100 million for '19 and that was before the implementation of pricing increases that you now said have occurred. And yet in this release and discussion, you're saying you have line of sight to nexus of $100 million, which was the case last quarter anyway. So I'm just trying to see if there's been any slippage in the net benefit you expect from pricing relative to what's been reflected in the trade publications?

George, it's Steve. Good morning. Let me take both questions and then Mike can add some color.

Just with regards to pricing, let me just provide an appropriate walk here for you. And I'll talk in terms of GPK in total, Graphic Packaging, in total.

This year, we'll successfully execute on $80 million of price in total. We've been very aggressive in pulling price forward this year to try to move and compress the lines that we've talked about. We've been quite assertive on the pricing front. So inherent in this year's pricing is $80 million of price, about 50 -- a little over $50 million in our core business, just under $30 million in the new SBS and foodservice.

Given that, and we've done -- we've looked out into 2019 and have looked at it literally on the 1,100 plus customers that we have, and looking through that and all the price actions that we've taken, we see line of sight to about $100 million of very clear pricing through 2019. So cumulatively, will be about $180 million of price in 2018 and '19, driven by the execution of the 6 announced price increases that we've successfully executed on and then, obviously, other pricing mechanisms: our cost models, pulling price freight forward and the like.

So a big part of the answer to your question is the pull forward into 2018 which, unfortunately, as you know, has been offset by very significant inflation. So it's not inuring the benefit that we had expected for the year, but $180 million in cumulative price '18 to '19. And so that's to your second question.

With regards to the first, we did see in the quarter some negative mix as big beer volume was a bit weak for us. It caused some negative mix to roll through. In total, our volumes were very steady in the core, flat which is continuation of a long-standing ability to offset some of the headwinds, but we did have some negative mix in the quarter driven by some of our large big beer customers being relatively weak.

Our next question comes from the line of Anthony Pettinari with Citi.

Just following up on SBS, with the $20 a ton implementation or realization from Pulp and Paper Week, it looks like it's trading at a discount to CUK which, I think, historically, we haven't seen. Just wondering if you had any thoughts about how that's kind of playing out in the market? Are you seeing substitution? Is there any risk for CUK price erosion or alternately potential for SBS price improvement going forward? Just wondering if you can talk about that dynamic with the 2 kind of trading very close to one another?

Yes. Thanks, Anthony. I guess, we kind of take a step back and look a little bit at what we're seeing right now on all the paperboard markets. All the paperboard markets, as I mentioned, have operating rates that are north of 95% year-to-date, as reported by the AF&PA.

In the case of SBS in particular, we have announced -- we actually led both increases this year and we've realized partials on both of those increases. And to your point, that's really what's driven the mismatch between SBS and CUK. CUK and CRB are exceptionally strong right now. SBS is solid, but it's also a bigger market. If you take a look at the total tons, it's roughly 5 million tons, you and the market.

We had some questions around, really, the commentary that came out in Pulp and Paper Week around some imports and what are the impact according to that. And I guess I'd go back again and look at the data, and that's really the best thing that we can do. And if we look at the data year-to-date from the AF&PA, imports from Europe are up about 14,000 tons in total and imports major are actually down 12,000 tons. So we're not seeing a big change -- structural change in the overall paperboard markets, and we're in those markets every day as you know, Anthony, and they are actually performing well along those lines.

In the case of Graphic Packaging, as I mentioned, we're going to be down at our Augusta mill for roughly 42 days; that will pull roughly 70,000 tons of reduction out of the market as we're doing those repairs. And to get ready for that, we actually built about 40,000 tons over the course of the last 9 months, and that will be relieved as we go through that rebuild. So in our case, we've been very focused on taking care of our business, driving the integration levels up, as I mentioned, in preparing for that overall outage.

Okay. That's helpful. And then just maybe a follow-up on capital allocation. Given you're not seeing big structural changes and your markets are a bit more defensive than some of the other publicly traded paper packaging names, with the weakness in the stock, would you be potentially more open to share repurchases? Or just how do you think about balancing M&A versus deleveraging versus potentially buybacks going forward?

Yes. Thank you for that. I mean, in terms of our share buyback plan, we still have $210 million available. And the actual plan that we have, as we've talked in the last couple of quarters, we've been focused on paying down our debt to create optionality here with our balance sheet should IP approach us and want to unwind our combination. But we're in dialogue with our Board of Directors on a regular basis around the appropriate capital allocation to drive long-term shareholder value, and we'll certainly continue to take a look at buying shares back as well as part of that analysis.

Our next question will come from the line of Chip Dillon with Vertical Research.

First question is, as we take a quick look into '19, I see 3 things that, I guess, you're kind of pointing to as we compare to that $970 million. I just want to make sure that I'm on target.

I would assume we should assume prices are up at least $100 million and we would probably get another, I would hope, $25 million, $30 million in synergies from the 2 acquisitions, the big one with IP and the one you just did in foodservice. And then I would suppose we're going to get a little bit of help from the lack of the downtime, for example, the Augusta downtime won't be repeated.

If we add all that together, that would maybe get you to maybe $150 million, I guess. And then otherwise, if you achieve that, you would have to offset all your cost inflation with cost saves, and would that be an aggressive use? I guess, what I'm asking you, if you can comment, is my math right? And do you think something in the order of $140 million, $130 million, $150 million, somewhere around there is what would be a reasonable guesstimate based on what you see today for improvement next year?

Chip, it's Steve. Let me just kind of take the components; we're clearly not providing guidance on 2019 today. We'll do that in a quarter. But let me just touch on some of the things that are conveyed in the materials.

One is you're correct with regards to the $100 million of price. We have line of sight to that. We are clearly in an inflationary environment. We will have this year over $90 million of inflation in the business and we certainly see that continuing on as we roll through next year. We'll provide a point of view on that in a quarter, but inflation is absolutely in the business.

We have very high confidence in the next $25 million of SBS foodservice synergy capture, as you've mentioned. We continue to have appropriate confidence in our overall productivity initiatives that have always characteristically driven value greater than labor and benefits inflation. And then finally, of course, from a capital allocation perspective, we have done our work around capital spending and that move to $325 million next year is also quite relevant relative to how we're allocating capital.

I think relative to the Augusta recovery boiler, what I would remind you is that roughly $25 million of costs that we're taking on that this year, we're taking below the line given the onetime nature of it. So it actually is not an add back for next year based upon what you were characterizing there.

Okay. That's super helpful. And just one more quick one. On the whole, there's a lot moving parts with taxes, and I just didn't know if you had an update for us as to when you think you'll be a significant cash taxpayer, at least to the federal government, just given the moving parts and the fact that you can deduct CapEx immediately and you certainly had a lot this year.

Yes. Chip, it's Steve again. Thank you for that. Yes, it's important relative to becoming a material U.S. federal cash taxpayer, we're at least out into 2021. So 2019 and '20 will look a lot like the past, so our cash taxes will remain quite modest in that $20 million to $30 million range. And that could move out beyond that, depending upon some of the good work we're doing on the tax side.

We've also lowered our federal tax rate range to 23% to 25%. So when we do become a material federal cash taxpayer based at current rates, we've lowered that rate modestly as well. So there is some real material positive.

I think that's one of the things that, certainly, strategically for us over the next couple of years, drives very significant cash flow generation when you take a look at our desire to continue to improve EBITDA margins, capital spending, more moderated and then, obviously, interest expense and cash taxes and pension that are all very common to where we are because of the good work that we've done to fund our pension plans and remain basically an immaterial U.S. federal cash taxpayer, all driving very significant and strong cash flow generation for years to come.

Your next question comes from the line of Mark Connelly with Stephens.

So Mike, so there doesn't appear to be an import problem. You have 5-week backlogs and 95% operating rates, and yet RISI says that you don't have any pricing power and they imply that you're not even trying to raise prices on bleached board. Were you surprised by their comments? And do you think that this $20 is all we're going to get?

Mark, I was surprised for the reasons that I talked about there. I mean, we have not seen imports. The data doesn't support that, as I mentioned. There's a new, as you know, domestic producer of material, but that's relatively new in the process. We understand they've done some trials, but not raised material tonnage. The numbers are what the numbers are, the operating rates are high and I can't really speak to what the process is that RISI uses for channel checks, that's theirs, but I know what we did. And I know that we've gone out now twice and worked to implement our pricing, and I know the types of price increases that we've struck through and are pushing through as we speak.

So I guess, the long -- shorter answer to your question is, there is a bit of a mismatch between what we're seeing and what they reported.

Okay. And just one more question. With the sort of changes that you referred to making on the contract lag, containerboard producers work with a 30- to 90-day lag. What do you think a reasonable target in your business might be?

Well, it's a fair criticism of our model that it's taking almost, on average, 9 months to reset our pricing. We have, again, this year, as you kind of take a look at when the inflation accelerated like it has, it's really caused us a challenge in terms of mismatch within the -- in the 2018 year.

We've collapsed it now by 30 days, so we're down to 8 months. As I mentioned, we're going to be looking at multipronged approach to pricing really across-the-board, shrinking the lag, focusing on freight recovery, getting that faster, as well as what I would call, Mark, rules of engagement with our customers, too. All those things kind of come together to drive both pricing and work over time to shrink the lag, and that's really what our focus is.

Your next question comes from the line of Mark Wilde with BMO Capital Markets.

I think we would all applaud some shorter lags. I wanted to just first talk about SBS and how much overlap you see from that one conversion project that you mentioned to your own business? And also if you could talk about the reliability issues at the SBS mills that you acquired and whether you've found some things you didn't anticipate.

Yes. Thanks for that, Mark. I mean, first, let me just take a step back and tell you that we are very happy with the IPS assets we acquired, both the SBS mills and the foodservice converting business.

When you look at the waterfall that we provided in there, we did that for a reason. You do see that we've experienced $10 million of kind of what I'll call onetime reliability issues this year. As I mentioned on our last call, we were aware of the recovery boiler challenges and IP had a plan to address those. We picked up that project and we're actively in the process of fixing that now. So our expectation is, going forward, that those will not repeat. So it cost us $10 million this year and we're spending the capital to fix it and we expect that to be done.

In terms of the price/cost spread on that business, as we outlined there, we will be $14 million negative in 2018, but we expect as the remaining pricing flows through that we have announced and talked about, that that will go back to being slightly positive.

The inflation that Steve mentioned is going to be something that we have to deal with. We're in an inflationary environment and we're going to have to be very aggressive and proactive with our pricing in order to stay in front of it because it's really just hitting us on a number of different fronts, and I don't expect that to change at least in the near future. We've not seen anything that would suggest that to be the case.

In terms of the new capacity coming online, I think it's a little too early to say for me. That's -- at least how they've talked about that mill is it's going to be a swing machine, it's going to swing between coated free sheet and some of the packaging grades. As you know coated free sheet has done pretty well this year. Do I expect that there will be ongoing trials and some tonnage placed, I do. But in total, again, as you all know, this is a 5 million ton market so the impact on that should be fairly benign.

Okay. And then, Steve, just as a follow-on. Could you just talk about FX headwinds? I mean, you called out some of them in your -- in the release here. But I'm just curious, as the dollar strengthens against other currencies, does this just -- does this have other kind of second derivatives? We're going to see more import pressure, you're going to have a harder time selling into offshore markets. I mean, maybe just walk us through some thoughts on that.

Sure. Mark, I think that the little bit of headwind in the quarter was more just the realities of a strengthening dollar and the $3 million impact that it had that will kind of roll through the rest of the year. But for us, in terms of strategically, our -- as you know, when we export paperboard, and we're exporting it to ourselves, and so we're sending it to ourselves for use in those markets, and so it really -- certainly, for us, it isn't about market receptivity or ability to sell. So we're in good, solid shape there in terms of the integrated model that we drive. And so, really, the financial implications tend to be just the translation and transaction base that we share with you financially.

Obviously, there are implications on some of the import side that Mike talked about a couple of minutes ago. And obviously, the dollar, when it moves, can be positive or negative. For someone trying to move paperboard into the U.S., I think Mike's point was -- that he made around the realities of imports being fundamentally net neutral, speaks to the realities of the challenges of moving paperboard into these markets outside of the U.S. given the cost competitive nature of ability to produce here locally.

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

In previous calls, you called out roughly $100 million or so on higher inflation since 2016 that you're kind of focused on recovering for CRB and CUK. Can you, first off, Mike, can you update us on that number just given the incremental inflation? And then, also, on that same basis, how far do you think you're behind on SBS at this point? I know you have a grudge in here of about 14 million year-over-year between '18 and '17, but was there any sort of previous inflation that you need to recover as well for that substrate?

Steve, why don't you take the first part?

Yes. Got you. Let me touch that and then we'll add any additional color. But in terms of the SBS foodservice business coming into the platform, there wasn't really -- I don't think there was a material movement. And if you think about it, we acquired a 13% EBITDA margin business, is the way to think about it. We're now operating that business at closer to EBITDA margins in the 16%. So we've seen a very material move in terms of improvement of that business. As Mike mentioned earlier, it's something we feel very positive about.

The $14 million price negative that we expect this year, we have another $20 million to $30 million of price coming into that business next year with the SBS, that should put that back into a more commonplace on a price cost basis.

Overall, price cost in our core business this year excluding SBS and foodservice, will be relatively neutral in the $50-plus million range on both price and cost. Clearly, that doesn't successfully recover the $100 million plus that we have seen in terms of negative. And as we mentioned earlier, I think the realities of inflation are quite real for us today. We're going to experience 4% to 5% inflation across the business. And so we have to stay very assertive on moving price through to our customers to offset that inflation recognizing that, long term, we have to recover the gap. Certainly, you've seen us this year run very hard on price recovery, $80 million in total, but it's been offset by an acceleration in commodity inflation at $90 million plus, which is actually taking the total number, if you will, up about $10 million in terms of your reference point on the gap.

Just one thing to add there, Ghansham. I mean if you look at -- and we put this in the deck as well, I mean, this quarter, in our core CRB and CUK business, was the first one since the first quarter 2016 that actually went positive on price/cost spread. So we did hit that milestone. We expect it to remain positive in Q4 as we head into 2019.

But as Steve said, we also expect there to be more inflation that's going to be coming. We don't know exactly which categories. Last year it was OCC; that obviously abated. But we've been -- we've now seen just significant freight, mill chemicals and some of our fiber cost and our wood baskets escalate primarily due to weather. I mean, that's the other point that I would make around the wood. It's really hardwood. And in the Southeast basket, as you know, with the 2 hurricanes that we've experienced here, the wood is just wet. And so we're having to go farther away and cut on wet weather tracks, and that's driving up our cost a little bit here in the short to medium term.

And then just as a follow-up. At least from your vantage point at current, do you view 3Q '18 as sort of the peak quarter for the rate of inflation kind of looking at it year-over-year or any commodity starting to decline? Obviously, you're still cycling through some inflation across various grades that you just mentioned, but there's certain chemicals such as TiO2 that have pulled back overseas. Are you starting to see some of that?

Thank, Ghansham. I think Q3 to Q4 inflation actually will be similar or even potentially a little higher because of the acceleration we've seen in wood and particularly resin, and there are some things that you mentioned that have abated. The other thing you'll see from an inflation perspective in Q4, as you may recall, is that's when secondary fiber moved down. And so that comparison actually is, turns into less of a favorable in Q4. So I think we're going to see $20 million to $25 million of inflation in the business in Q4.

We'll see $30 million of price in Q4, so net positive, but I wouldn't characterize it as an abatement of net inflation of Q3 to Q4. We have line of sight. Line of sight, as I mentioned earlier, to about $30 million of price coming in, in a positive way in Q4.

Your next question comes from the line of Brian Maguire with Goldman Sachs.

Just to go back to George's question on pricing, there's a lot of numbers moving around, so I just wanted to make sure I got it all straight. I think my notes I had from the last quarter, you were expecting about $55 million of benefit this year and $125 million next year. So net, call it $180 million. I think that was after the second CRB increase, but before the second CUK or SBS increase.

And it looks like now you're calling for $80 million this year, so $20 million higher this year, but $100 million next year, $25 million lower, still net up $180 million. So I'm just trying to figure out what happened with the CUK and the SBS increases. Are those -- there's some slippage on that or maybe there are some discounts or something you had to give up to shorten the lags that we're experiencing or maybe it's some of the mix impact that you were talking about on beer? But just any help you can give to kind of bridge that for me would be helpful.

Brian, it's Mike. I mean, as Steve summarized, I mean, really, what we've done now is take that gross inflation number that we were talking about a quarter ago and really drive it through the 1,100 customers that we have. As we talked about, we've been able to pull a portion of that forward into this year, which we needed to do because inflation was, obviously, higher as well. We're trying to collapse those lags, as I talked about earlier on the call. And what we know, based on our review, as we're pulling together our plan for 2019, is we've got clear line of sight to $100 million of pricing that will take effect based on the actions that we've already taken to date.

Okay. Just sort of as a follow-up. So I guess the pricing component of 2018, you're raising $25 million, but you're cutting the guidance $30 million. Maybe you could just bridge that kind of $55 million delta there?

Yes. No, Brian, we've -- I think, and that is where -- you're right: sometimes there's a few numbers floating around. The $50 million, $55 million that we conveyed in pricing before, we were -- that was just in this year -- that is just the core business pre-SBS and foodservice. We've been actively pursuing price on the SBS to the tune of roughly $30 million. So there's really no change there.

We've just broken it out for you now so that you've got full line of sight to the entire company because, as we've mentioned, when we talked about the SBS and foodservice platform it's kind of one large EBITDA. You missed the price productivity synergy capture which we've laid out for you. And just kind of repeating it earlier, the $80 million of price is something that we've been aggressively executing on during the year, made up of roughly $50 million in the core and $30 million in the SBS and foodservice platforms.

So it's not a movement at all in our overall -- the movement in the EBITDA guidance, which is clearly on us a year ago when we acquired the business and built the platform a year ago roughly, now, we had line of sight, we believe, to $1 billion. We reaffirmed it in January. It clearly was too high. And we own that, that's ours. And that is something that we'll certainly factor into how we talk about the business on a go-forward basis as we guide, but there has not been a move in the actual pricing expectations for the business. That's been an active part of what we have been pursuing all year, and we've been aggressive about it, and we'll continue to be assertive.

We've announced 6 price increases and have successfully executed on all of them. We are always in negotiations with our customers as you know. We turn over 20% to 30% of all of our business every year and we have to go re-earn it. Re-earn it with our customers, compete for it, and that's what we're doing. And we're successfully executing on 3% of price over a 2-year time horizon in an environment that has inflation in it, and we'll continue to do so, based upon the current supply/demand environment and the realities of inflation continuing in the business, and it's a relentless margin. It has to be.

Okay. Appreciate it. And just one last one, it's just changing year-to-date a bit. Just a quick one. So is it right to think about the $50 million of proceeds from Santa Clara being in the $475 million guide this year? So just if we're thinking about bridging to 2019, we would start maybe from a $425 million number more like?

No, I think the way to think about that, Brian -- thank you for asking that. As we mentioned in the original $475 million guidance, we have the $25 million of the Augusta recovery boiler below the line and we had some proceeds from Santa Clara to offset that of roughly $25 million. That came in as a very positive sale of about $48 million, so I would characterize it as more from a cash flow perspective as little bit of a $23 million favorable that has allowed us to, along with some very good working capital work that Mike mentioned earlier, as we look at where we're going to end the year from a supply-demand perspective, is why were able to maintain the $475 million and you can think of it, as you just mentioned, as roughly -- I would think of it more as about a $20 million net positive that wouldn't necessarily repeat next year, so we'll probably leap off a point more at $450 million.

Your next question comes from the line of Adam Josephson with KeyBanc Capital Markets.

So just one on -- a follow-up to Brian's question. So the total pricing contribution in '18 and '19 sounds like it's unchanged from what you were expecting in 2Q even though you got another CUK price increase, and you've gotten at least the $20 SBS increase. So are you expecting any more of these current SBS increase? And even if you don't, wouldn't your total pricing contribution in '18 and '19 be higher post another CUK increase and a partial SBS? I'm still confused by why your total pricing contribution for '18 and '19 hasn't gone up from the last call.

So Brian, as we've said a bit here, we are -- I'm sorry, Adam, my apologies. We've got puts and takes that happen as we go across 1,100 customers, as Steve talked about. What we're telling you is we've got that line of sight to the $100 million that we've got lined up for next year on top of the $80 million that we got this year. To your question, is there more? We're always out there pushing for more pricing, mix improvements, freight windows and recovery and those types of costs, so that's going to be a continual theme that you see. But as we sit here right now in October and we think about 2019, we're pointing to $100 million that we believe will show up on the revenue line next year.

Right. Okay, Mike. And just one, a couple years ago, you talked about moving toward a cost-plus model going from 50% cost base to 70% over time, and you haven't said as much about that in the last couple years or so. Can you just update us on your progress there and where you are right now compared to where you were a couple years ago and what you look to get to?

Adam, it's Steve. As Mike mentioned, we have been very, very focused on reducing lags. Part of that comes from contractual renegotiation. And yes, we continue to offer cost models to customers where it makes good sense to do so. We've seen some takeup with some large customers who have moved to more cost models, and keep in mind that 50% was pre the SBS foodservice business coming in. So much of our emphasis is very -- is on reducing lags, bringing price in faster, doing it with our customers in a way that allows us to capture the realities of inflation at a faster pace, move down to 8 months with targeted towards moving that down again in the coming quarters. That's really where we're trying to place the emphasis.

Our customers have a variety of models that we use with them, but for much of this, this is about faster pass-through given the realities of the inflationary environment that we are in.

Your next question will come from the line from Debbie Jones with Deutsche Bank.

I just have 2, one on Q4 guidance and the shrink wrap slide that you put up as well. On the Q4 guidance, can you give us a sense of the negative mix? Are we going to continue to see that in Q4? What's the performance benefits [that] should accelerate from Q3? And then are we going to see lower utilization at Augusta that impacts the result as well?

Yes. Debbie, it's Steve. Just in terms of kind of the bridging from Q3 to Q4, we're operating today in a margin profile that's in the low 60% range. That's where Q4 kind of lands. We have a little bit step down in sales from Q3 to Q4; that's very normal from a seasonality perspective. But we should operate net that or above levels that we've been.

There won't be an incremental pull down, if you will, from the Augusta recovery boiler because of the $25 million we're taking below the line, but we are taking normal traditional downtime there. And from a mix perspective, we don't believe you'll see the level of mix that we felt in Q3. We would expect some of that to snap back in Q4 as the up kind of wind, seasonally, the beer business tends to operate which tends to be heavier in that summer months.

Okay. And then could you just talk about the slide that you put in there on the shift away from shrink wrap? Are you seeing an acceleration in this trend? Can you talk about some of the end markets that you think are most amenable to the shift kind of beyond pet food? And if this is broad-based, are you seeing from the large CPGs or also from your small and midsized customers?

Yes. Thank you for your question, Debbie. I appreciate that. I would answer that this way, is that, particularly in Europe, we're seeing a lot of opportunities around shrink film replacement, so that can be carbonated soft drink, it can be beer, it can be, in this case, pet food that we profiled. We've got a lot of new projects underway here to replace traditional shrink wrap-type products, just like the one that we profiled in this deck that we put out here today.

In terms of some of the things that we're seeing in North America we're very encouraged about, we continue to see acceleration and the desire to get out of CPET trays and into more pressed paperboard trays. That continues to grow. That demand continues to grow exponentially, and that's something that really fits us well now. With our SBS assets, we're able to do all of that in house with our own paperboard, so that continues to be a good positive story for us as well.

So we're really seeing it in a number of different geographies, and that's why we were able to largely offset the softness we saw in big beer with the projects that we've got underway and we would expect that trend to continue into 2019.

Your next question comes from the line of Arun Viswanathan with RBC Capital Markets.

Just a couple of quick follow-ups. So on the EBITDA guidance for 2018, it looks like you lowered the SBS outlook by $10 million. And then the other $20 million, it seems like that's about $10 million from inflation and $10 million from productivity, is that right? And will the -- and can you clarify, will the recovery boiler rebuild at Augusta offset that $10 million loss this year? So next year, are you looking to get back into the $70 million or so on net productivity?

Yes. Arun, I guess, the way I'd ask you to think about the Augusta is that outage is taking place right now and we'll start that recovery boiler up, as we mentioned, in the 2nd week of November. So the way to think about that would be that our plan would be not to have those reliability issues repeat in 2019 that impacted us in 2018. So it will be part of our productivity on a year-over-year basis as you compare '19 to '18 next year.

The elimination of the reliability challenges that we've had this year, Arun, would the best add-back for 2019.

Great. So just looking out to '19 then, obviously, a lot of inflation this year and understanding that it's not easy to call inflation when you're in an inflationary environment. But what do you think are the biggest kind of headwinds as far as continued inflation next year? I mean, you expect OCC to go up and wood fiber to go up, chemicals, freight, how do you kind of look at that whole bucket? And similarly, when you look at '19 productivity, again, just to clarify, it looks like labor and benefits this year has also been a little bit more. So are you guys encouraged by the option to offset some of this inflation with increased productivity or is that going to be a challenge given that you are working on the synergies as well at the SBS operations?

Well, to the first part of your question, Arun, as Steve mentioned, we clearly see ongoing inflation as we go into 2019. I mean, you're more the expert on chemicals than me, so you see that a lot clearer than even what Steve and I do. But we've seen it on a number of different components from resins, to caustic. As one of the previous analyst mentioned, we have seen a little bit of a reduction on TiO2. But the point is, it comes and goes and, overall, the basket is going up.

We know we're going to see some wood costs -- hardwood costs that will continue well into next year because moving into the winter season, it will be a while before those baskets really dry out. We expect that to normalize, but the question is when. And that probably is no sooner than spring of next year.

In terms of secondary fiber, we just don't know. It's been down at this level for a while. Could it go up again? I think it could. And I think the biggest one that we continue to expect to accelerate well or at least inflate, I should say, is logistics. I mean, freight just continues to be something that is more expensive. We're seeing rail rates also start to escalate a little bit here on top of some of the trucking challenges we talked about earlier in the year. And for us, that's a big deal. I mean, on any given day, we've got 1,000 trucks on the road and 400 rail cars. So when you start doing the math times that, the overall base is $450 million. If you get a 4% to 6% increase on freight, it's real money.

So that's kind of how we're seeing it right now as we sit here. But as Steve indicated earlier, it's very difficult for us with any precision to call 2019 at this time. We tried to do it in 2018, and, quite frankly, we missed and we went into the year thinking we'd see more modest inflation, and it turned out to be anything but that. And so that's the reality of what we have and we've responded well to that. As we've talked about, we've gone out and we've gotten pricing, 6 different increases, and we're going to continue to be aggressive along those lines because we do believe that inflation, at least for the medium term, is here.

Our final question will come from the line of Mark Wilde with BMO Capital Markets.

Just a couple of follow-ups. One, Mike, I know that Amazon is starting to mandate some changes from their suppliers in the consumer packaging and that some of the consumer packaging is now going to have to be able to serve as the transit packaging when they ship to the consumer. Is that a win or a lose for you? Can you build folding cartons that will actually work for direct shipment to the home?

Yes. We certainly can. And that's something that we're focused on with them and with our end-use customers that are going through those channels. I mean, pet food, as you know, Mark, is one of the biggest ones and we're seeing projects along those lines. So I think that's probably a tailwind for us as opposed to a headwind.

Okay. And then the other one I had is just this growth in the Mexican beer business, and I'm seeing more Mexican beer come up in multipacks in cans. But it seems like your big competitor has an equity stake in a company that's investing very heavily in a lot of colored print down in Mexico, so I just -- I wondered whether you're managing to kind of keep up your share of that business or whether you're actually losing share as we see the beer business migrate down to Mexico?

Yes. That's a great question. And I mean you're absolutely correct in your assessment of it. I mean they have a JV there with an established competitor in that space that does a nice job.

Having said all that, we've actually, as you know, and we've talked a little bit about this, we're making a fairly sizable investment in our West Monroe converting facility that is going to continue to position us to be low cost, very low cost, and that will allow us, in our opinion, to be able to service parts of the Mexican market very cost effectively. So we're also gearing up to be able to take advantage of that. We're just doing it within our existing manufacturing footprint with some of the investments we're making as our plant rebuild there in West Monroe.

I will now turn the call back over to Mike for closing remarks.

Thank you for joining us today on our earnings call, and we look forward to speaking with you again in January.

Ladies and gentlemen, this concludes today's call. Thank you all for joining, and you may now disconnect.