International Flavors & Fragrances Inc (IFF) 2013 Q2 法說會逐字稿

At this time, I would like to welcome everyone to the International Flavors & Fragrances second-quarter 2013 earnings conference call. All participants will be in a listen-only mode until the formal question-and-answer portion of the call. Participants will be announced by their name and company. In order to give all participants an opportunity to ask their question, we request a limit of one question per person.

I would now like to introduce Shelley Young, Director of Investor Relations. You may begin.

Thank you, operator. Good morning and good afternoon, everyone, and welcome to IFF's second-quarter 2013 conference call.

Earlier today we issued a press release announcing our second-quarter 2013 financial results. A copy of the release can be found on our website at IFF.com.

Please note that this call is being recorded live and will be available for replay for up to one year on our website.

Before turning the call over to our senior management team, I'd like to read our forward-looking statements.

Please keep in mind that during this call we will be making forward-looking statements about the Company's performance, particularly with regard to the third quarter and our outlook for the balance of the year. These statements are based on how we see things today and contain elements of uncertainty. For additional information concerning factors that could cause actual results to differ materially from forward-looking statements, please refer to our risk factors contained in our 2012 10-K filed on February 26, 2013 and our press release filed this morning, all of which are available on our website.

Today's presentation will include non-GAAP financial measures, which will exclude those items that we believe affect comparability. Reconciliation of these non-GAAP financial measures to their respective GAAP measures is set forth in our press release that we issued earlier today and on our website.

With me this morning are Doug Tough, our Chairman and CEO; Kevin Berryman, our CFO; Nicolas Mirzayantz, our Group President, Fragrances; and Hernan Vaisman, our Group President, Flavors.

Now I would like to turn the call over to Doug Tough.

Thank you, Shelley. The Company achieved strong operating growth this quarter with both business units reporting double-digit segment profit growth. The improved performance demonstrates the continued benefits of our strategy. By focusing on expanding our geographic reach and strengthening our innovation platform and maximizing the value of our portfolio, we achieved top line growth of 6% and 8% on a like-for-like basis and continued margin expansion.

Operationally, we had an excellent quarter with all of our profitability metrics up over the prior-year quarter.

Our top line growth reflects momentum in many areas of the business, notably in Fine Fragrance and Beverage, as well as continued growth in other areas of the business.

All of the regions contributed to our second-quarter performance led by double-digit growth in Latin America and high single-digit growth in the other regions. The emerging markets continued to grow at a rate of 10% or twice the rate of the developed markets. We achieved strong levels of growth in Western Europe, Brazil, China, Indonesia, Thailand and Argentina. Both business units contributed to the growth with a high level of new wins from both segments based on our technology, creativity and customer intimacy.

I'd like to say a few words about our strong level of new wins. We recently hosted our Biannual Investor Day, which was focused on the theme of innovation and core competency that informs all of our actions. As part of the event, we showcased four of our leading technologies to let our investors experience the flavors and fragrances technology for themselves. These included fine fragrance, fragrance encapsulation, flavor fit, which is our umbrella of modulation technologies that address the large and growing health and wellness segment of the market, and our citrus toolbox.

We received very favorable feedback on the technology demonstrations, and some of you completed our survey and told us that the technology demonstrations improved your understanding of IFF and how we are driving our growth.

Well, this quarter clearly demonstrates the extent to which our technology is driving our new wins, as well as our margin gains. Our customers' purchase orders are testimony to the fact that our innovations are adding value to their brands. We are very proud of our heritage of innovation and believe it will support future growth.

Our gross margins also benefited from the new wins this quarter. Gross margins were up in both business units, and on a consolidated basis, our adjusted gross margins of 44.2% this quarter increased 240 basis points over the prior year quarter. This is our fifth consecutive quarter of margin enhancements.

The gross margin expansion this quarter was due to favorable growth, volume growth and mix, new wins that are based on our technology, moderating input costs, as well as the exit of low-margin sales activities and manufacturing efficiencies.

The improved gross margins were more than sufficient to offset higher research, selling and administrative expenses this quarter versus the prior-year quarter. The higher volume, combined with expanded margins, resulted in an adjusted operating profit increase of 10% to $145 million from $132 million.

Our operating performance was partially offset by foreign exchange losses on working capital related to currency volatility, resulting in adjusted earnings per share growth of 6%.

Kevin Berryman will provide more context around these Other Income and expense items.

I would like to provide some perspective on the first half of 2013 for IFF. We have had a strong start to the year, and we are pleased with our performance. Our local currency sales growth was 5% or 6% on a like-for-like basis, which reflects the success of our emerging-market strategy, combined with continued growth in the developed markets, reflecting our focus on growing categories.

For the first six months of 2013, Flavors grew 7% on a like-for-like basis, and Fragrance Compounds grew 8%. Fragrance Ingredients, which declined by 11% in the first quarter of 2013, showed some improvement in the second quarter due to higher sales of specialty products. Still, the Ingredients declined by 1% in the second quarter, and on the year-to-date basis, Fragrance Ingredient sales has declined 5%.

The first half-year results do not yet include the migration of some customers volume from Ingredients to Compounds, which we have talked about in prior quarters. Once this volume moves to Fragrance Compounds, there will be renewed pressure on Fragrance Ingredients. On a profitability basis, Fragrance Ingredients continues to be attractive, and as we've mentioned, it is an important strategic component of our overall Fragrances business.

Turning to our profitability metrics, the Company's first-half adjusted gross margin was up 260 basis points over the prior year, reflecting favorable volume and mix, moderating input costs and manufacturing efficiencies. Year-to-date margin also benefited from the exit of low-margin sales activities.

On a year-to-date basis, the Company's adjusted operating profit was up 12%, and adjusted earnings per share is up 12%.

In short, in a volatile marketplace, our half-year results are positive and support our strategic focus.

I'd now like to turn the call over to Nicolas Mirzayantz, our Group President of Fragrances.

Thank you, Doug. Good morning and good afternoon, everyone.

We are pleased with our performance this quarter. Our Fragrance business delivered 8% local currency sales growth this quarter with 10% local currency sales growth in our Compounds business and a small decline of 1% in our Ingredient business.

The strong performance this quarter reflects a continued high level of new wins in our Compounds business in all regions with our fast-growing customers combined with growth in our existing business.

The emerging markets represented 47% of total Fragrances sales and 52% of Fragrance Compounds sales. In our Compounds business, growth in the emerging markets was 12%, and growth in the developed market was 8%. The emerging markets continued to grow at double-digit level, twice the rate of the developed markets, led by very strong growth in the BRIC countries, especially in Brazil and China, as well as strong growth in the Middle East, Thailand, Mexico, Argentina and Colombia.

It is important to know the resilience of our developed markets, which can be clearly seen this quarter. The developed markets experienced broad-based growth in many areas of the world, including Western Europe, Great Britain, the United States and Japan.

Turning to our categories. Fine and Beauty Care had total growth of 13% this quarter, reflecting double-digit growth in North America, EAME and Latin America, fueled by a high level of new wins and stronger growth in the base business. As anticipated, Fine Fragrance delivered double-digit growth this quarter due to the strong execution on the part of our creative and commercial teams and their success in partnering with our customers to provide them with consumer preferred fragrances.

We benefited from many exciting launches and pipeline development this quarter, including including Lacoste L.12.12 Noir, Avon Far Away Bella, BOSS JOUR Pour Femme and Paco Rabanne Invictus.

In addition, Burberry has recently introduced a Brit Rhythm, which was created also by IFF perfumers.

The other categories within Fine and Beauty Care, which are toiletries and hair care, had high single-digit growth this quarter. Hair care had double-digit growth in North America, partially attributable to a successful new launch.

Toiletries had strong growth in all regions led by double-digit growth in Latin America and strong growth in the other regions.

Turning to Functional Fragrances, this category continues to perform well overall with 7% growth led by double-digit growth in the emerging markets. This marks the 20th consecutive quarter of growth in Functional Fragrances due to a strong level of new wins as a result of our three-pillar strategy.

Growth in fabric care was led by double-digit gains in greater Asia and Latin America due to strong new wins using our encapsulation technology, which had double-digit growth. Home care and personal wash also achieved steady growth.

In Fragrance Ingredients, we experienced improved performance from Q1 as a result of improved volumes in the Specialty segment, which somewhat offset declines in the high-volume ingredients area of the portfolio, which remains under pressure. Also, the migration of some volumes from Fragrance Ingredients to Compounds has been delayed, and we won't see the impact of the development on our volume until the third quarter of 2013.

We are very pleased with the broad-based top line growth this quarter with contributions from all regions. Our strong results are due to the efforts of our team to drive higher win rates and demonstrate our ability to execute on our plan.

Turning to segment profit, our 8% sales growth resulted in double-digit segment profit growth of 13% this quarter due to the leverage in our business model. Strong volume growth combined with moderating input costs, favorable mix and productivity initiatives resulted in margin expansion, which more than offset increased research, selling and administrative costs in part due to an initial payment to our biotechnology partner, Amyris, who will be working with us on creating sustainable, cost-effective ingredients.

Our overall results were strong. Operating margins of 18.7% increased 100 basis points over the prior year operating margin.

I would like to highlight the impact that input costs have had on our P&L. Although they were moderately down this quarter, the net impact of the input cost increases we've seen over the past couple of years continues to be a pressure point on our gross margins. As a result of the input cost pressure, we have adopted other measures to reduce manufacturing costs and operate more efficiently. These measures have enabled us to grow our margins and offset the impact of pricing versus input cost pressure.

Along these lines, we have made certain decisions to make sure that we are operating as efficiently and profitably as possible to deliver value to our shareholders.

This quarter, we moved forward with our plan to stop our fragrance manufacturing activities in Jakarta, Indonesia and move them to our new efficient facility in Singapore.

In addition, we also announced and moved forward with our plans to close our ingredient facility in Augusta, Georgia and rationalize our Ingredient business.

These moves will help us to maintain a more cost-effective structure as part of our continuing efforts to drive efficiency in all that we do.

On a year-to-date basis, total Fragrance sales increased 5% with 8% growth in Fragrance Compounds and a 5% decline in Fragrance Ingredients. Our segment profit increased 17% over the prior year period to $140 million, and our segment margins on year-to-date basis are 18.6%, an increase of 200 basis points. This is a great achievement and reflects moderating input costs, favorable volume and mix and the benefits of our productivity initiatives.

Looking ahead, we expect to see continued growth in Fine and Beauty Care, but at a more moderate rate than we saw in the second quarter.

We also expect to see continued momentum in Functional Fragrances. For Ingredients, we expect to see continued pressure on the high volume segment and some migration of Ingredients volumes to Compound, resulting in some pressure on Fragrance Ingredients.

I would like now turn the call over to Hernan Vaisman, our Group President, Flavors.

Thank you, Nicolas, and good morning and good afternoon, everyone.

This quarter Flavors delivered 5% local currency growth spread across all regions. Excluding nearly $11 million of low-margin sales activities, local currency sales growth was 8% on a like-for-like basis.

The exit of low-margin sales activities primarily affected North America and Latin America and mainly consecutive products in the street category. This is the last quarter that we will expect to report the impact from the exit of low-margin sales activities.

Starting with the third quarter, we have substantially completed the exit of low-margin sales activities. Flavors like-for-like growth of 8% this quarter compares to 9% growth in the second quarter of 2012 and 8% growth in the second quarter of 2011. On a three-years basis, our growth of 8% demonstrates the consistent nature of our Flavors business and our ability to grow our top line sales by focusing on our geographic reach and driving innovation into the portfolio.

This is reflected in a strong level of new wins this quarter, as well as growth in our base business.

Due to the strong level of new wins, we achieved consistent performance across all regions with continued strong growth in the emerging market, as well as the developed markets.

Since the emerging markets this quarter were approximately 50% of total sales, our performance this quarter demonstrates the success of our creative and application teams, as well as our customer relationships.

Turning to regional performance. North America delivered exceptional like-for-like growth of 11% this quarter, which is a clear indication of the strong performance of our commercial and technology teams and the success they have experienced driving innovation into the portfolio.

The best-performing category was Beverage followed by Savory, reflecting strong new wins with many of our customers and shows the faith in our innovative products that delivered brand growth.

EAME delivered like-for-like sales growth of 5% this quarter due to improved year-over-year sales in both the developed and well emerging markets. Flavors experienced growth in Western and Eastern Europe, Africa and the Middle East. On a category basis, growth was led by Beverage and Savory. Sweet and Dairy also delivered positive growth.

In greater Asia, volume gains and new business wins drove like-for-like growth of 8%, reflecting widespread gains with higher quarter over quarter sales and mainly in Indonesia, China and the Asian countries. Every category contributed to the strong performance led by Savory and Dairy.

Finally, Latin America achieved like-for-like growth of 11%, showing increased momentum to the new wins. Savory and Sweet both delivered double-digit growth, while Beverage and Dairy also delivered solid growth.

In all, we are very pleased with our top line growth this quarter, which demonstrates the successful execution of our natural and health and wellness platforms, and continued focus on innovation, which drives our growth in initiatives.

Turning to our financial performance, this quarter we delivered very strong results into many positive operating factors, which all move in tandem, including strong top line growth due to the high level of new wins in every single region; improvement in the base business; mixed gains due to increased sales products using our technologies and innovation; the positive impact of moderate decline in our input costs; and the favorable impact of exiting low-margin sales activities. All of these factors resulted in expanded gross margin, which more than offset increased research, selling and amortization costs, which include additional labor costs consistent with our investment in new geographies.

This strong volume growth, when combined with margin expansion due to change in mix, in part due to the exit of low-margin sales activities and moderated input costs, resulted in a double-digit growth of 12% in our segment profit margin this quarter or an increase of $9 million.

Our operating margin expanded by 170 basis points to 24%. We are very pleased with our results and our teams in all regions who successfully and skillfully worked to produce such good results.

On a year-to-date basis, Flavors like-for-like sales growth is 7%, reflecting a strong growth in every single region. Our segment profit increased 8% to [$123] million, while achieving segment profit margins of 23.7% on an increase of 120 basis points.

Looking ahead, although it is still very early in this quarter, we expect to see continued broad-based momentum and deliver solid growth in the third quarter.

I would now like to turn the call over to Kevin Berryman, our CFO.

Thank you, Hernan, and good morning, and good afternoon, everyone, that is on the call.

Again, turning to our financial results for the second quarter of 2013, I'll try to provide some additional context to our results. Reported revenues for the second quarter totaled $758 million, an increase of 5% versus the prior-year quarter. Excluding the impact of foreign currency, local currency sales increased 6%, and finally on a like-for-like basis, which excludes the impact of exiting low-margin sales activities and the impact of foreign currency, sales increased 8%. The growth reflects a substantial improvement in both business units from the first quarter of the year and is indicative of broad-based growth across our regions.

The momentum we're seeing on the top line reflects increased new wins in the market, which is validation of our ability to provide value-added solutions to our customers. In fact, the percent growth from net new wins in the quarter was at the highest level we have seen in any quarter for the last 3 plus years. Clearly, our focus on innovation is showing results.

Adjusted gross margins this quarter improved 240 basis points to 44.2%, up from 41.8% in the prior-year quarter. Our gross margin expansion this quarter reflects strong execution on our strategy.

Volume growth, an improved mix of business, a final benefit of exiting the lower margin sales activities, as well as continued cost-containment initiatives, when combined with moderating input costs, resulted in a gross margin improvement.

As I did last quarter, I will provide more detail on our gross margin progression in a moment.

Our operating performance this quarter clearly was strong. Looking back over the past five quarters, our gross margins have improved by 200 basis points or better versus the prior-year quarter in every quarter. In fact, our improved margins this quarter are on top of a 210 basis point improvement in the second quarter of 2012 versus the second quarter of 2011.

We anticipate that going forward the improved year-over-year margin improvement trend will begin to slow, especially as we start to compare our margins to year ago figures that have already benefited from the margin enhancement efforts embedded in our strategic initiatives.

Our strong operational performance resulted in incremental incentive compensation accruals, which when combined with increased investments in our R&D, resulted in RSA costs of 25% of sales in the quarter.

As a result of our strong performance, our adjusted operating profit increased 10% and led to an increase in our adjusted operating margins to 19.2%, up 90 basis points from adjusted operating margins of 18.3% in the prior-year quarter.

Going further down the P&L, the strong operating profit was somewhat reduced by higher other income and expense items, driven primarily by foreign exchange losses on working capital balances and higher interest costs, resulted in adjusted EPS increasing 6% versus the prior year. I will discuss these other expenses a bit more in a moment.

Finally, there were several other items that impacted our reported earnings per share, which improved 15% versus a year ago from $1.08 to $1.24 in second quarter of this year. These items are not included in our adjusted operating profit or adjusted EPS figures, and I will comment briefly on them.

In Q2, we recognized a $16 million gain from the sale of a building adjacent to our corporate headquarters. This decision to sell this nonoperating asset is consistent with the principles of economic profit, which is infused within the organization and drives our thinking on both investments and divestitures. The sale of the building enables us to maximize our returns against our existing asset base, which is an important driver for all of our financial decisions as we look to improve the overall returns of the business.

Also in Q2 and as previously mentioned, we moved forward with our plans to close our facility in Sweden and transfer our liquids manufacturing out of our plant in Jakarta to a new efficient facility in Singapore. We've recognized a small loss provision related to these initiatives.

And finally, as Nicolas also mentioned, we also moved forward with our plans to close our Augusta Ingredients facility and rationalize the Fragrance Ingredients business. As we noted last quarter, the closure of the Augusta plant is a second-quarter accounting event, and we booked a $2 million charge this quarter related to the upcoming plant closure.

I would again like to show the margin progression that we presented last quarter to remind everyone on the call that even though we are seeing margin gains of 240 basis points this quarter, the net impact of rising input costs on our margins continues to be a headwind. If we look at the period Q2 2010 to Q2 2013, you will see the factors leading to the gross margin improvement between the two periods. We chose again the second quarter of 2010 since that is the last comparable quarter prior to the large increase in input costs that we saw in 2011 and 2012.

Over the three-year period, the net impact of pricing and input costs has been a negative 210 basis points on our gross margins as evidenced by the red bar.

It's also important to note that we proactively work with customers to implement pricing increases to reduce the strong pressure from input costs and limit the recent inflationary pressure to the 210 basis points noted on the slide. However, the importance of the execution of our strategy where we have adopted numerous measures to improve our margins, including the exit of low-margin sales activities, cost savings initiatives, innovation enhancement and other gross margin improvement efforts cannot be understated. These strategic improvements had a 350 basis point positive impact on our margins as shown by the green bar on the chart. This more than offset the negative 210 basis points reduction from the net impact of input costs and pricing resulting in the margin gain we were able to report this quarter.

I would also like to comment briefly on the success the Company has had in consistently driving operating profit margin expansion over the last few years in the context of the strong input cost pressures we have felt. Although the input cost increases net of pricing actions have been a strong headwind to our gross margins, we've been able to keep our operating profit margin on a steady, upward trajectory via a focused execution of our profitable growth strategy and disciplined management of expenses.

Specifically we have been able to steadily increase our adjusted operating profit margins in Q2 from 16.5% in 2010 to 17% and 18.3% in 2011 and 2012 respectively and finally to 19.2% in 2013.

Turning to our RSA costs, this quarter RSA costs as a percent of sales increased 150 basis points to 25%, up from 23.5% of sales in the prior-year quarter. The higher RSA reflects higher incentive compensation accruals and higher R&D expenses, partially due to an initial payment to Amyris, our biotechnology partner in Fragrances.

As we've mentioned in the past, strong performance versus budget in any quarter can lead to increased compensation accruals to our AIP program. We accrue for these payments on a quarterly basis, effectively matching the performance accrual to the performance in that specific quarter.

In those quarters where we have strong sales and operating profit performance and payouts are expected to be higher, we increase our accruals. Conversely, in those quarters we fall short of performance expectations, we book smaller accruals.

Importantly, excluding the incremental R&D costs and additional incentive compensation accruals, sales and administration expenditures as a percent of sales would have fallen when comparing the current quarter to the comparable year ago figure.

Clearly, we remain disciplined in our approach to spending, and going forward cost discipline will be a continued focus while we strategically invest in R&D and other business development opportunities.

As promised, I would like to spend a quick moment to reflect on the other operating income and expenditures this quarter, which represented a $0.05 headwind to our EPS figure.

The expense in Q2 was triggered by volatility in multiple currencies in June versus the US dollar. As you know, being a global company with operations in 32 countries and with customers in over 100 countries, we've hedging programs in place to guard against the material foreign exchange risk that we have as a global company. We are substantially hedged in most of the countries in which we operate. There are some countries, however, where hedging is either not available or inefficient or too expensive to put in place.

In June, on the heels of comments by the Federal Reserve, which affected investors' expectations for short-term interest rates, we saw a strengthening of the US dollar and a corresponding weakening of several currencies, including those currencies in countries where IFF hedging programs do not exist.

Due to the amount of volatility in the foreign exchange markets and the timing, which was late in the quarter during the month of June, we experienced a larger than normal put loss on outstanding accounts payable items. The impact was primarily experienced in a handful of countries, including Argentina, Brazil, India and Thailand.

Although we are not able to anticipate movements in currencies, we do manage this risk with forecasting of foreign exchange balances and natural hedging programs. The significant volatility that we experienced in June is certainly high versus our historical performance, and as a result, this is not expected to be a systemic issue.

Importantly, had there been no foreign exchange losses in the second quarter, our adjusted EPS would've been $0.04 higher or $1.18 versus our final adjusted figure of $1.14.

Speaking more generally about our other foreign exchange exposures, our foreign currency translation this quarter, as mentioned previously, had a 100 basis point impact on our reported sales. Given the more limited volatility in the euro dollar exchange rate versus the currencies discussed in the prior slide and combined with our cash flow hedging activities with the euro, foreign currency actually had an immaterial impact on our operating profit results.

As we have been communicating, in 2013 we remain nearly 80% hedged against the euro levels that approximate $1.29 per euro, effectively consistent with the average exchange rate levels for the full year of 2012. At current rates, the operating impact on our full-year results is expected to continue to be muted.

Turning to our cash flow. Our cash flow from operations for the six months ending June 30, 2013 was $118 million or $17 million lower than the prior-year comparable period. The increase for the first six months primarily reflects higher year-over-year incentive compensation payments and additional pension contributions versus the year ago period. These two items represent a total additional cash outflow of more than $55 million this year versus last year.

The net incremental outlays in the first half of this year versus last year have been offset in part by, one, an underlying improvement cash flow versus last year in total working capital of $29 million, and two, an increase of $23 million in net income due to an improved level of operating performance and the sale of a nonoperating asset that was described earlier in the second quarter.

It is worth noting that we paid out our normal fourth-quarter dividends in late December, so our year-to-date net cash flow benefited as the first six months did not have the normal quarterly cash flow associated with this quarterly dividend payment.

Turning to our capital structure. IFF has certainly proven a willingness to return capital to shareholders, both through our dividend payments, as well as through share buyback programs.

In July, due to our strong operating performance, the Board authorized a $0.05 or 15% increase in our quarterly dividend to $0.39 a share, reflecting their confidence in our future growth and profitability.

The increase in the dividend will improve our payout ratio to the high end of our historical range of 30% to 35%. We also believe it important to have increased our dividend to support an improved yield, given the recent and continued strength in our stock price.

As you know, since announcing our share buyback program late last year, IFF's share price has experienced a strong increase. As a result, and due to our disciplined approach to the execution of our program, our progress against the share buyback program has been slower than originally expected. Year-to-date, we have spent approximately $19 million on a share buyback program.

Going forward, our intent is to repurchase at minimum $50 million in value of our shares over the course of 2013.

Now, I would like to turn the call back over to Doug.

Thank you, Kevin, Hernan and Nicolas for their remarks. We are very pleased with our performance this quarter, which reflects our continued focus on execution of our three-pillar strategy. Our success this quarter is the result of our innovation programs, which are creating value for our customers and investors.

Looking forward, we expect to be able to deliver continued growth in the second half of the year, noting that we are entering into a more challenging period on a comparable growth basis and that the environment still poses certain challenges. However, we remain focused on our strategic priorities and believe we have the right teams in place to continue to provide customers with superior customized products that deliver improved performance to consumers.

Our perspective for 2013 remains in line with our long-term growth targets. We expect to deliver local currency growth in the range of 4% to 6%, supported by continued new wins and volume growth in the developed and emerging markets. We expect to grow our operating profit in line with our long-term growth targets of 7% to 9% as we continue to stress efficiency in all that we do while exercising financial discipline. And finally, we are optimistic that we will be able to deliver 10% or higher earnings per share growth.

In conclusion, we believe our strong performance at IFF this quarter is the result of strong execution of our strategy to leverage our geographic footprint, to strengthen our innovation platform and to maximize our portfolio. We believe we are well-positioned in the market, and we plan to continue to selectively invest in those areas where we see the most growth whether in regions, countries or categories.

Thank you for your participation. I will now open the call to questions.

(Operator Instructions). Mark Astrakhan, Stifel Nicolaus.

Two quick questions. One on sales growth. Just trying to get a sense of how to think about balance of year growth rates. So you are done lapping some of the exits of businesses in the Flavors business. So, as you look to the 4% to 6% long-term targets, I guess that's a blend of like-for-like and local currencies. So maybe help us a little bit with the progression as we don't have to worry about the exiting of the business negatively impacting the top line over the balance of the year.

And then second question is just on cash usage. So, you increase the dividend by more than the 10% or 10% plus earnings target. Recently you committed now to buying back at least $50 million in stock for the year. Obviously maybe we can sort of read into it how we want, but sort of curious your thoughts on what you're doing with excess cash here and what that potentially means as far as the acquisition criteria or outlook and just sort of returning cash to shareholders on a longer-term basis?

Mark, it is Doug. I will talk to the second question first, and I think we are just going to need a little clarification perhaps on the growth question you're asking.

Kevin has touched upon I think the disciplined approach that we've taken with the Board and the business is sufficiently cash generative with the kinds of acquisition opportunities we would be contemplating. We're still going to be in a very positive position vis-a-vis cash, if we need to do so. But in the context of both the discipline or the dividend and trying to stay within the payout ratios that we have, that triggered the move to the recent significant increase. And I also think that the Company's commitment to the program that we initiated a year ago on the share buyback, the Board supported the management recommendation to continue to participate in that program. So in that, the Company's cash position we are confident on almost all levers we need.

Now can you just embellish a little bit on your growth question, please?

Sure. So first-half sales growth local currency is a couple points below the like-for-like number. So, as we are now lapping the exit of the low margin business and trying to get a sense of whether we should expect an acceleration in what is now local currency growth, absent exiting that low margin business, or just how to think about the sales growth progression through the year?

Sure, Mark. This is Kevin. Let me make some preliminary comments and then I'll look to Nicolas and Hernan if they want to add any additional commentary.

There was two things I think that were pointed out by both of the BU presidents. One was that the expectations on the Fragrance side of the business for the balance of the year starts to be looking up at some pretty strong comparables, and we do expect that that will represent the higher level of challenge for the Fragrance businesses as we look to the balance of the year.

I also think that on the Flavors side, we've been able -- and Hernan and his team have been able to put up pretty solid numbers on a like-for-like basis on an ongoing basis.

And while that should, all else being equal, result in a slightly higher number for flavors on a reported local currency sales basis, you know that momentum and overall needs to be done within the context of kind of how the environment is. So probably a continued positive picture on Flavors and with some developing challenges with Fragrance just because of the comparables that we are going to be facing, Q3 was actually pretty strong in Fragrance, but Q4 was very strong, as you may recall.

So I would say continued good solid in Flavors and with some developing challenges relative to the comparables on Fragrance.

Got it. Thanks, guys.

Lauren Lieberman, Barclays Capital.

I wanted to know if you could comment -- I have so many questions -- but I guess I was most interested in the comments on the base business strength. The new win momentum is something that has been building that you guys have been talking about, but I felt like the comments on base business strength was something maybe a little bit newer.

I guess, one, to what degree does that reflect kind of underlying market growth and stability and improvement, particularly because Latin America given some of the worries about slowdown there, or also just sort of the greater longevity to some of your -- the products that you are a part of in the market that they are just having a longer and better success rate beyond a kind of year one in the marketplace, and then the implications that would have for win momentum going forward. Thanks.

Okay, Lauren. Let me start with Flavors. Basically, we saw in this quarter I mean some growth in the base business, but frankly, I mean the bulk of the growth was coming from the new wins. If I had to give you kind of magnitude, I would say between 60% to 70% are coming from new wins. The rest was basically base business, and which areas we see growing base business, again in some ways marginal for this quarter was very basically in emerging markets and in some markets in Europe.

In the rest of the market, I mean basically the big bulk of the growth came from new wins as we mentioned before.

Hi, Lauren. It's Nicolas. Just to provide some additional comment for Fragrances. What we saw in Q2 first was a very, very strong new win rate, so the majority of the growth is coming from a new introduction into the market across all categories.

What we saw especially in Fine Fragrance is a resilience of our existing portfolio, but more importantly, some of the very strong equity that were won last year continue to do well. So it's not only the quantity of the win but also the quality. So we saw also very continued strong performance of the introduction from 2012 into 2013.

Okay, great. And then, if I could also ask about for an update on the Evolva partnership, where things stand there. Thank you.

Hernan, Lauren. Again, what we mentioned we are still in the process of scaling up, as we mentioned in the last couple of calls. We believe that we will be finalizing the scaling up process in this quarter. So if everything goes successfully, this is something that we have to wait, provided we see -- start, I mean, commercializing the new products early next year.

Great. Thank you.

You're welcome.

(Operator Instructions). Jeff Zekauskas, JPMorgan.

For the last couple of quarters, really the last three, your incremental gross margins have been pretty close to 100%, and there really hasn't been very much movement in your cost of goods sold, even though you've had good volume growth. And I suppose that's because of the many cost reduction initiatives that you have.

So the gross margin comparisons will be a little bit more difficult in the second half because last year's cost of goods sold was pretty low. So in general, what's a normal incremental gross margin for you now that you have limited the -- now that there are some limits on your cost initiatives, and when you close down Jakarta and you close down Augusta, what is the net effect for IFF? Is it $10 million or $15 million or $5 million? How does it affect your cost structure?

Hi, Jeff. This is Kevin. Let me take a stab at your question. Look, the gross margin that we've been able to experience, as we have talked about in the prepared remarks, is really driven by a lot of things. And certainly your perspective on the absolute levels of cost and the ability to drive cost savings into the portfolio of products certainly plays a role.

The one piece, though, that I think is important to recognize within the context of the gross margin picture is certainly to the extent that we are able to offer up innovation to our customers and it is adding value to their products, which are being provided to their consumers, is that affords us opportunities to have higher levels of margin as we embed technology into our business. So that in itself is positive, and if you think about how that ultimately shows up on the P&L, it oftentimes shows up in what we will call mix because our business is changing over time to be a better margin as we incorporate innovation into the portfolio.

So at the end of the day, the ability for us to continue to have the margin profile is really about the innovation and whether or not we are able to deliver things that our customers are excited about.

I do think that longer-term some of the manufacturing savings are going to be in place and there's benefits that we're expecting, but really nothing in 2013 because any benefits we're expecting in the back half of 2013 are likely to be offset by the ramping up of our large facility in China in Flavors. So really the expectation is that we're going to start to see those benefits probably leak in 2014 through the end of 2014, and this should be helpful in terms of reducing our cost structure.

And Jeff, I would just build on what Kevin is saying on innovation. There's been a litany of items which contributed to the margin improvement, and frankly, those elements have contributed more than obviously any pricing in the context for the cost of goods. Even the programs that Nicolas touched about, our relationship with Amyris and the Evolva opportunity that Hernan mentioned in Flavors, both of those should be able to bring us cost advantages and hence margin improvement. And coupled with the ongoing focus in R&D on new molecule development, which creates superior products, that's where we will get the opportunity for margin enhancement because their customers are looking for those competitively advantaged projects -- products.

So I think there's a number of items which are all going to contribute and obviously with your ongoing pursuit of productivity improvements in the operations area. So there are a number of things, but I really don't think there's a precise answer to your question in terms of the basis point improvement other than we know we have to keep doing it.

And what of Jakarta and Augusta? Can you give some quantification of why you are closing those plants?

Well, basically, we are creating greater efficiencies for the infrastructure that we have in place. What we've said, I would say it's $10 million plus that you'll fully realize by the end of 2014. So in 2015, you should be able to see the $10 million plus of savings. And that's kind of being layered in over the course of 2014, Jeff. In the back half of this year, once again, any potential savings on Sweden and Indonesia really are getting offset by the ramp-up costs associated with the China manufacturing facility in Flavors.

Okay. Thank you very much.

Mark Astrachan, Stifel Nicolaus.

So, Amyris, the payments you made this quarter, could you quantify that? And then one other question on input costs. Just maybe give a little bit of color on how you are thinking about that over the balance of the year and any sort of puts and takes on oil-based versus naturals?

Mark, this is Kevin. I'll take it real briefly on the Amyris. We're not going to disclose the payment. It was an amount that was worthy of calling out. Otherwise, we wouldn't have said it, but certainly we consider that confidential so we won't be providing additional color on that.

As it relates to the input cost situation, we noted in Q2 that it was -- we saw some moderating levels of input costs. We still believe the input costs picture for the full year is benign, and so we're feeling as if given where we are through first half and given the positions that we currently hold for the balance of the year, we're feeling pretty comfortable that it is going to be pretty stable.

Got it. And just going back to the Amyris payments, so -- should we think about that as a one-time item? Is it something that at some point will recur, but only once in a while? Maybe some direction there would be helpful.

Typically what ends up happening is oftentimes our agreements with our third parties have certain milestone payments, and depending upon when those milestones are met, we could add incremental investments. And so yes, there can be ongoing expenses, but they will specifically be driven by the attainment of milestones.

Great. And then this is in the R&D line, right?

Yes.

Perfect. Thanks.

John Roberts, UBS.

I'm particularly impressed by the acceleration in Latin America in the like-for-like for Flavors. There is a bulk ingredient company. I am sure you are familiar with Ingredion that had 6% down volume in Latin America in their food ingredients. And I was curious whether you overcame similar weakness in Sweet and Brewery I think they cited as their weaker markets in Latin America. And so your growth was in spite of that. Or because you are such a small percent of the price of the products, you didn't see any effect at all in Latin America from the weakness in the end markets?

Well, let me explain. Definitely I don't know the oil business. I know what's the application of how they would drop or the causes of the drop. In our particular case, we won really good businesses there, and by winning this business, they give us, you know, I mean these kind of results.

We see also a kind of slowdown in the economy in those countries, but again, it's not totally correlated with our results. We are winning really businesses, and the way that we are winning, I mean definitely we will really outperform the market, and we will deliver this double-digit growth.

Thank you.

Lauren Lieberman, Barclays Capital.

(inaudible - mic inaccessible)

Lauren, your line is open.

Sorry, I was thinking about Amyris again. So just if I am modeling next year's second quarter, assuming there's no milestone payment, then year-over-year R&D expense, all else being equal, would be down somewhat because this year had a one-time payment; is that correct?

Assuming there isn't another milestone payment to offset it, yes.

Okay. And then so if you could talk a little bit about Flavor margins now at 24%, 23-something percent last quarter, with the exits kind of done and the benefit to profitability, should we start thinking about this as sort of a new level for Flavor profitability going forward, you know, assuming again all else equal and no major moves and input costs?

Yes, Lauren, this is the $50 million question. Let me try to answer. As I mentioned earlier, I mean we have earlier you have many, many of some main drivers of fees and gross profit. I mean it depends on each quarter it could be changing.

Basically what we see, as you mentioned, it is volume, mix, let's forget now for the point and time comparison with the atypical margins. So definitely you have some variables that you have to manage in each quarter that will be I mean in some way defining the final gross profit.

Having said all that, following what we did in the past, really focusing on really most profitable categories, the mix is really helping and giving us really tailwinds in the gross margin.

The high volumes in almost all markets will help. So to try to summarize, while you have several volumes that it can impact, I could say that we feel that this gross margin can be sustainable for other times.

Okay. That's great. Thank you.

Lauren, just an additional comment. This is Kevin. The other thing that we do is certainly we are investing in the future in terms of R&D initiatives and other corporate. I would call them business development expenditures. So Hernan certainly rightfully talked about some of the success in driving innovation into the portfolio, which is helping the gross margin front. But we will look to continue to strengthen our potential innovation opportunities in the future, which always implies if we continue to see that success it's not necessarily all going to drop to the bottom line. We will look to continue to build our capabilities in innovation for the future.

Okay. And I guess, Kevin, while I have you, just to touch on incentive compensation for a minute, so I guess, one, could you just remind us the metrics that triggers the increase in accruals? So was it top line or like for -- top line growth organic or like-for-like, and is it operating profits pre-incentive comp or is it gross margins? What are the real triggers there? And then as we think about the balance of the year, at least as you are forecasting it today, recall Q4 was a really big incentive comp accrual quarter. Last year there was a big catchup.

So I'm guessing there might be a positive swing factor there this year because you are accruing at a higher rate at this point already?

First part of the question, Lauren, about the four metrics. It's local currency sales. It's reported local currency sales. So we don't adjust it for like-for-like. It's the reported number on local currency sales that is important for us to drive the business forward. It's gross margin percentage. It's operating profit levels and working capital efficiencies. Those are the four metrics we measure on an annual basis for our annual incentive program.

However, we do have long-term plans that are in place as well, and to the extent that we continue to show very strong total shareholder returns, which we have been showing, we obviously have to accrue additional expenses associated with those given the continued strength in our share price.

I think that the last piece relative to kind of as we look to the balance of the year, yes, Q4, Q4 was a big accrual as we ended the strength -- the year very strong in Q4, which we have already talked about, especially in Fragrance. So there certainly was a catchup there in terms of accruals given the strong performance in that specific quarter last year. And so depending upon how we translate into the final numbers for this year, having said all of that, there could be some challenges in the comparable, which could put some pressure the other way in terms of nonoperating.

The only other comment to make is we have to fund our additional incentive comp within the context of the operating profit. So we don't get paid by an operating profit before incentive comp; we get paid after the fact. So to overperform and start to pay versus the operating profit metrics, we have to fund our additional incentive comps.

Okay. I guess I just don't understand how it doesn't end up being a circular reference then, but okay. You know, we will talk about it off-line. That's fine. (laughter)

That's great.

There are no further questions at this time. I'll now turn it back over to the speakers for closing remarks.

Thank you, Jennifer. It's been an interesting conversation today, and thank you all for your participation. The theme that has kept emerging here are the strength of the business, both of the top line but also the gross margin strength, and I think it's a really good reinforcement of the focus that we had on our Investor Day where the innovation theme and the demonstration of innovation on a number of fronts was really what we wanted to convey as the basis on which we could drive the business. And I think it's reinforced in the numbers and the results.

Thanks, everyone, for your participation, and we will look forward to talking with you again in three months in November. Thank you.

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