International Flavors & Fragrances Inc (IFF) 2022 Q3 法說會逐字稿

Good morning. At this time, I would like to welcome everyone to the IFF Third Quarter 2022 Earnings Conference Call. (Operator Instructions)

I would now like to introduce Mr. Michael DeVeau, Head of Investor Relations. You may begin.

Thank you. Good morning, good afternoon and good evening, everyone. Welcome to IFF's Third Quarter 2022 Conference Call.

Yesterday afternoon, we issued a press release announcing our financial results. A copy of the release can be found on our IR website at ir.iff.com. Please note that this call is being recorded live and will be available for replay.

Please take a minute to review our forward-looking statements. During the call, we'll be making forward-looking statements about the company's performance and business outlook. These statements are based on how we see things today and contain elements of uncertainty. For additional information concerning the factors that can cause actual results to differ materially, please refer to our cautionary statement and risk factors contained in our 10-K and press release.

Today's presentation will include non-GAAP financial measures, which exclude those items that we believe affect comparability. A reconciliation of these non-GAAP financial measures to their respective GAAP measures is set forth in our press release.

With me on the call today is our CEO, Frank Clyburn; and our Executive Vice President and CFO, Glenn Richter. We will begin with prepared remarks and then take any questions that you may have.

With that, I would now like to introduce Frank.

Thank you, Mike, and hello, everyone. Thank you for joining us today.

On today's call, I will begin by providing an update on the strong progress we continue to make in reviewing and implementing our refreshed operating strategy. We are focused as ever on enhancing our operational plan and are making great progress towards completing the strategic refresh process and sharing this with you on December 7 at our Investor Day. I will then share our year-to-date performance and then turn the call over to Glenn, who will provide a detailed look at our third quarter financial results and discuss our outlook for the remainder of 2022. Once complete, we will then open the call up for any questions.

Before we move ahead, I do want to take a moment, as I always do, to thank our dedicated colleagues around the world. It continues to be an unpredictable year, and our colleagues continue to work tirelessly to deliver for our customers. Our global IFF team members are truly committed to servicing our customers, and I continue to be so inspired by our team's determination and ingenuity.

Now beginning with Slide 6, I'd like to provide an update regarding our progress to complete our strategic refresh and begin putting this enhanced plan into action. We are now working diligently to operationalize our new divisional strategies and begin executing these focused, integrated and value-additive strategies with our customers and in the marketplace.

This next chapter in our company's transformation is intended to ensure we are going to market as the most effective and innovative IFF we can be to extend our position as a trusted partner to our customers and maximize value for them, employees and shareholders, both in the near and long term.

Let me review what we focused on and what we've accomplished through this comprehensive enterprise-wide review process. This review of our portfolio and our business is designed to ensure we are able to [defend] and extend our industry leadership in key markets, geographies and grow our business with key accounts and new customers. This has included evaluating our portfolio through a return on invested capital lens, identifying portfolio optimization and divestiture opportunities.

This discipline will enable us to reduce debt and reinvest in our [high-performing] businesses as well as identify additional growth opportunities in attractive end markets and geographies that will allow us to foster long-term growth even amid ongoing external headwinds. It has been an important endeavor not only to help us streamline the business, but also ensure that we are focusing on only the highest-value opportunities and maximizing our return profile across the entire business.

We are in the process of refining our operating model and organizational structure to ensure better commercial engagement, enhance [one] IFF's company culture, strengthen talent in key roles and realign incentives to ensure accountability and ownership. We are also finalizing our financial aspirations for full year 2023 as well as what we believe the business should deliver longer term under more normalized conditions and the capital allocation strategies necessary to achieve them, all while prioritizing accelerated growth of our high-performing businesses.

With this collective foundational planning, I am confident that IFF will fully capitalize on our clear portfolio advantage and deliver value to all of our stakeholders. We look forward to sharing more with you at our Investor Day on December 7.

Moving to Slide 7. I'd like to provide highlights of IFF's performance year-to-date. Despite a volatile market environment over the last 9 months, IFF has continued to execute on our operational priorities to achieve strong top and bottom-line results. Year-to-date, we have delivered $9.6 billion in sales, which translates to 11% comparable currency-neutral growth, and our comparable currency-neutral adjusted operating EBITDA grew 6% to $2 billion.

Through the first 9 months, we continued to take strategic pricing actions as necessary to offset inflationary pressures, and as a result, have fully recovered total inflation cost to date.

Turning to productivity by focusing on efficiency in our manufacturing processes and optimizing our supply chain and procurement, we captured over $125 million in extremely valuable operational efficiencies and deal-related synergies through the first 9 months of 2022. Accelerating productivity represents one of our top priorities and is increasingly important given the more challenging economic environment heading into the fourth quarter and full year 2023.

To this end, we are accelerating and expanding our efforts beyond our existing supply chain, end-to-end manufacturing, economic profit and global shared services platform initiatives we outlined on our second quarter conference call. We are now looking at our total cost structure to ensure we are optimized around go-forward strategic priorities to drive greater efficiency and effectiveness. These initiatives will be critical to support our growth strategy all while positioning us to drive long-term profitable growth.

To support our continuous improvement efforts within operations, I am pleased to welcome Ralf Finzel to our executive team as Executive Vice President and Global Operations Officer. He joined us from Honeywell International Performance Materials and Technologies Business Group, where he most recently served as Vice President of Integrated Supply Chain. Ralf brings decades of leadership experience, and his focus on operational excellence, sustainable continuous improvement and customer satisfaction ensures he will be a key contributor to IFF's success moving forward as he will be accountable to deliver on our net productivity goals.

In addition, I am pleased to announce that we've hired a new Chief Procurement Officer, [Alex Turolla], who will be responsible for leading all of IFF's procurement efforts globally with the goal to move from procurement to strategic sourcing. [Alex], who joins from [Mondelez International], where he served most recently as Senior Vice President, Sourcing Global Direct Materials, managing $11 billion globally, brings significant experience in end-to-end supply chain operations and procurement.

We also continue to progress against our portfolio optimization efforts now having successfully completed the divestiture of our Microbial Control business at the beginning of the third quarter. The proceeds were used to reduce our net debt to credit adjusted EBITDA ratio to 3.9x from 4.4x at the end of the second quarter. As mentioned earlier, we continue to assess the profitability and potential of each of our businesses and explore additional noncore divestitures and other timely optimization opportunities to improve our capital structure and achieve our deleveraging target.

Now I'll turn it over to Glenn to provide a deeper dive into our third quarter as well as an overview of the performance of each of our businesses.

Thank you, Frank, and welcome, everyone.

Starting on Slide 8, I would like to provide an overview of our third quarter performance. In Q3, IFF generated approximately $3.1 billion in sales, representing 10% year-over-year growth on a comparable currency-neutral basis, primarily driven by double-digit growth in our Nourish and Pharma Solutions divisions. Pricing was a strong contributor to growth and as expected, volumes were down marginally in the quarter.

It should be noted that on a 2-year average basis, which factors our strong 8% year ago comparison, volume growth is running at about 4%. And while we have seen strong volume growth across most parts of our Pharma and Scent businesses in the third quarter, Nourish and H&B volumes were challenged.

To provide some more color, nearly 2/3 of our volume decline in the quarter came in Protein Solutions, which is part of the Nourish business, where we have seen customer destocking to address higher inventory levels in response to sluggish end consumer demand. In H&B, our Health volumes were also challenged in the third quarter, a direct result from weakening market demand in the U.S. and Europe reflected in public market data.

Gross margin was negatively affected by the significant inflationary pressures we faced across our markets. Yet through strategic pricing and productivity gains, IFF delivered adjusted operating EBITDA growth of 3% on a comparable currency-neutral basis. We also delivered solid adjusted earnings per share, excluding amortization of $1.36. The strong dollar continued to be a headwind to our business. In the third quarter, we saw an approximately 7% impact on sales, an 8% adverse impact on EBITDA due to foreign exchange.

Before moving on, I want to share that we recorded a noncash goodwill impairment charge of $2.25 billion for the third quarter related to our Health & Biosciences business. The primary drivers of the goodwill impairment are related to increases in interest rates and lower business projections due to adverse macroeconomic impacts on volume, continued cost inflation and unfavorable foreign exchange rate variations.

Now moving to Slide 9, I will provide a brief overview of the performance across our business segments. In the third quarter, we achieved year-over-year currency-neutral sales growth of 10% driven by broad-based sales growth across all of our business segments and nearly all of our sub-business units. Nourish had another strong quarter with double-digit growth and particularly encouraging performance from Flavors, Ingredients and Food Design. Health & Biosciences also saw strong single-digit growth despite pressure in our Grain Processing business.

Scent again saw continued currency-neutral sales growth in the high single digits, thanks to our Fine Fragrance, Consumer Fragrance and Ingredients businesses. Pharma Solutions rebound continues with an impressive 28% increase in sales driven by continued strength in both Industrial and Pharma.

Turning to Slide 10 and looking at our profitability for the quarter. Third quarter adjusted EBITDA totaled $612 million. Comparable currency-neutral adjusted operating EBITDA grew 3% year-over-year due to the disciplined pricing actions to fully recover total inflation. We also achieved meaningful productivity gains and operational efficiencies from our productivity program, which have helped offset volume headwinds. As discussed last quarter, while we are clearly seeing signs of raw material inflation easing, we will continue taking appropriate targeted actions to offset inflation to maintain profitability.

Now on Slide 11, I'd like to discuss the underlying dynamics impacting the third quarter performance of each of our business segments. Nourish delivered another strong top line quarter. Nourish's 10% year-over-year sales growth on a currency-neutral basis was driven by double-digit growth in Food Design and Ingredients and sustained growth in our Flavors business. Health & Biosciences also maintain strong performance, delivering 3% in comparable currency-neutral sales growth driven by mid-single-digit growth in our Culture & Food Enzymes, Health, Home & Personal Care and Animal Nutrition offerings. However, for each of these segments, we saw 4% and 1% year-over-year decreases, respectively, in comparable currency-neutral adjusted operating EBITDA as our price increases and productivity gains we discussed earlier were offset by lower volumes.

Our Scent division once again delivered a strong performance with 9% currency-neutral sales growth this quarter driven by mid-teen growth in Fine Fragrance and Fragrance Ingredients and high single-digit growth in Consumer Fragrance. The division also saw 3% growth in currency-neutral adjusted operating EBITDA due to volume growth, our price increases and productivity gains.

Pharma Solutions contributed very strong performance with 28% growth in currency-neutral sales, led by strong double-digit growth in Pharma and Industrial. Similar to Scent, Pharma Solutions also benefited from strong volume, our pricing actions and the productivity gains we achieved in the quarter, leading to an impressive 76% growth in currency-neutral adjusted operating EBITDA.

Turning now to Slide 12, I would like to cover our cash flow and leverage position. Through the first 9 months, we generated $189 million in cash from operations with CapEx finishing at $344 million or approximately 3.6% of sales. The net result is that our free cash flow through 9 months was a negative $155 million. Our free cash flow has been significantly impacted by much higher inventories due to a combination of inflation, strategic increases and improved customer service levels and to slowing volumes.

In addition, included in our free cash flow numbers are onetime deal and integration-related costs. As a result, we are implementing a series of initiatives to improve our cash flow with an intense focus on managing inventories down. Much of this will be driven by leveraging new S&OP processes and tools in concert with specific targets for each business unit, which [we believe] will improve our inventory efficiency across all parts of the business while continuing to maintain high service levels to our customers.

In addition, we will be taking targeted actions to reduce CapEx spend and improve other working capital metrics to further improve our cash position. Importantly, we continue to make progress towards achieving our deleveraging target. As Frank mentioned earlier, we improved our net debt to credit-adjusted EBITDA ratio to 3.9x from 4.4x, which was supported by proceeds from our recent Microbial Control divestiture. We finished the third quarter with cash and cash equivalents of $538 million, while gross debt for the quarter totaled $10.8 billion.

Turning to our consolidated outlook on Slide 13, I want to provide some update on our expectations for the remainder of the year. Our business and broader industry continues to face challenging operational conditions with persistent foreign exchange, inflationary and other economic pressures. These challenges have only increased since last quarter.

We are certainly encouraged by the consistent sales growth achieved across each of our businesses this quarter, especially in this environment. However, we are adjusting our sales expectations for Q4 as we expect volume to further decelerate due to lower end-market demand, and we expect foreign exchange to remain a significant headwind. These factors will also present challenges to adjusted operating EBITDA.

In light of these factors, we are adjusting our full year guidance and now expect full year sales between $12.4 billion and $12.5 billion and comparable currency-neutral sales growth of 9% to 10%. We are reconfirming our adjusted operating EBITDA guidance of $2.5 billion to $2.6 billion, though we anticipate results to be at the bottom end of this range as we maintain strong cost discipline and accelerate productivity to offset persistent headwinds and softer volumes.

Looking into 2023, the current macroeconomic environment makes us cautious. And as a result, we anticipate that we will be in a low-volume growth environment, particularly in the first half of next year. In addition, while we see raw material inflation easing, we do anticipate some year-over-year increases in raw materials and continued volatile energy markets, which will require additional pricing actions.

As a result, we will continue to examine and refine our resource allocation to focus on strong cost discipline and accelerating our productivity across our business. We will also continue to implement pricing actions surgically to support our profitability, ensure our business remains resilient.

And while it's still early in our planning process, we are targeting strong comparable currency-neutral sales growth in 2023 to be driven more predominantly by price with more modest EBITDA growth on a comparable currency-neutral basis as we reinvest in the business to accelerate sales momentum and drive long-term profitable growth. Foreign exchange will continue to be a headwind as we roll forward current spot rates. We will spend more time on 2023 at our Investor Day in a few weeks.

I'll now turn it back to Frank for closing comments.

Thank you, Glenn.

I am tremendously proud of the work our teams at IFF have accomplished in the last quarter as we remain laser-focused on developing innovative solutions and exceeding the expectations of our customers around the world.

As you can see from our outlook, though we are moving into Q4 with caution, I am confident as we have demonstrated time and again and our global team's ability to navigate even the most complex environments. As Glenn said, we are closely monitoring shifts in the market to effectively address any emerging challenge.

We remain intensely focused on controlling the controllable through the year-end, and we continue to work with our customers to surgically implement pricing actions, meet or accelerate our productivity and portfolio optimization objectives, continue to delever our balance sheet and focus on driving profitable growth.

As you know, we have made significant progress this year to strengthen our business and become more efficient. By leveraging our strong foundation and being laser-focused on our growth initiatives, I am confident in IFF's ability to be resilient and drive long-term value creation regardless of the market environment.

Before I open the call up to questions, I would like to share official details about our upcoming Investor Day, which will be held on Wednesday, December 7 in New York City. We are excited to host this event and share more about the opportunities ahead for IFF, including how we will capitalize on our leadership position, innovate for our customers, generate strong productivity and grow our business for the future.

We hope you will all join us, and we look forward to seeing you there for what promises to be an engaging, interactive and informative experience. Registration links for the in-person live event have been sent out, but if you have not received one or have questions, please feel free to reach out to our Investor Relations department. This will also be webcasted broadly for those that cannot travel to New York City.

With that, I would like to open up the call for questions.

(Operator Instructions) Our first question today comes from the line of Adam Samuelson with Goldman Sachs.

I guess a question on cash flow, which year-to-date has been more challenged. I think, Glenn, previously, there's been a target of $800 million or so of free cash flow this year. Can you provide an update on what that might ultimately shake out to be? And just more broadly, what's the plan on improving the cash conversion as we go into 2023 and beyond?

Yes. Thanks very much for the question. Clearly, it has been more challenging than expected this year, and that's principally been driven by our inventory balances. So maybe if I can actually even start back in the [first] of the year, you cited the $800 million. We began the year at $1 billion target. And since that, it's been a combination of incremental pricing/inflation that was outside of plan. That's costing us about $125 million.

And in addition, there's another $200 million of additional inventories we expect to be at year-end. By the way, that's a reduction of about $100 million from where we are. We ended the third quarter with inventories up $600 million from the start of the year. That was a large -- about $200 million of that is basically based on raw material inflation. About $400 million is basically based on, as Frank had mentioned, building inventories for service levels.

But importantly, basically, demand has slowed down and we've ended up with higher inventory. So again, that's about $200 million delta from our original target. We are fully confident we're going to get that $200 million back. We expect to get that back targeted in the first half of next year and even targeting more.

On top of that, our business has slowed down and there's been some differences in terms of our tax payments, really a timing element for us. That's collectively about $150 million. So those adjustments get us to sort of north of $500 million. So it's $1 billion minus $200 million higher volume-related inventories, about another $125 million related to inflation, about $150 million slightly softer earnings than previous outlook and in addition, some timing on tax. So that's a little over $500 million.

I would note, as we mentioned in our script, within our free cash flow that reported, it's a GAAP basis in terms of free cash flow, so take it directly from our cash flow statement. That includes deal-related and integration costs. That's very material for us this year given the sale of our Microbial Control business. So all the transaction-related costs, number of items for the standup [et cetera] were basically paid for as part of the deal and some integration-related costs.

So there's about $225 million this year that's sort of in -- it will be netted against that $525 million. So on it's a reported basis, if you will, that's more than $300 million. But frankly, the $200 million is really a charge against operating cash flow when it's really related to sales of businesses. It's a little bit of an apples and oranges.

So I'd sort of point to maybe $500 million as the true sort of operating cash flow this year. Of the [gaps] this year, clearly, $200 million inventory will get back. I'd say taxes clearly timing of another $100 million. That gets us to north of a little bit $800 million. And over time, we would expect the incremental raw materials that are sitting in our inventory this year, we'd expect to get that back over time. And again, that's over $250 million from the start of the year. So over time, we expect that to reverse as well. So hopefully, that was helpful.

The next question is from the line of Mark Astrachan with Stifel.

I guess just to start, I wanted to follow up on the last question. So thinking about free cash flow more broadly, you wrote down the H&B business. I assume that implies incremental investment for that. So the question maybe sort of broadly is how do you fund that? Obviously, you just talked about free cash flow improvement kind of over the next 12, 18 months with other sort of underlying drivers. But can you comment on what a reasonable rate of free cash flow productivity for the business would look like kind of '24 and beyond? Certainly, in the context of some of your competitors having targets out there, are those reasonable levels?

And then second question is just on volumes. You're implying the volumes will be down mid-single digits in the fourth quarter. Which categories are driving that? And then how do you think about those trends through at least the first half of '23, I would guess, are challenged before comparisons get easier?

Mark, it's Glenn. Relative to our longer-term objectives on cash flow, we're going to hold that to our Capital Markets Day. So we're less than a month away from that. We'll have a chance to actually discuss more specifically our longer-term targets.

And then I'll turn it over to Frank to talk about some of the (inaudible) trends.

Mark, a couple of things that I wanted to highlight. You are correct. We are in the fourth quarter, assuming volumes do decelerate versus the Q3 number that we just posted. And it's really 2 factors, and I'll give you where the areas that are a focus for us right now, what we're seeing.

I'll start with our health business under the Health & Biosciences division, Mark. In health, and I signaled this, I think, even earlier in the quarter, we are seeing both end-market demand slow as consumers are making choices between probiotics, dietary supplements. So we are seeing some slowing end-market use in health, and we are also seeing destocking in that business, in particular, in North America. And we expect that to continue through the fourth quarter as also well in Europe. So that's what we're seeing in our health businesses.

And we went through the quarter, Mark. We did see July down. We saw August come back. September was down. And as we now started to see in October, we're seeing a similar trend of the deceleration I mentioned in that business. In Ingredients under Nourish, and we highlighted this on our prepared remarks, Mark, we are also seeing more inventory destocking is the primary aspect of what we're assuming will continue as we go into the fourth quarter.

We also, within the Ingredients business, did make some trade-offs from a pricing perspective. We had some of our Protein Solutions business that was capacity-constrained, where we did increase price, made some volume trade-offs to preserve some margin, but it's primarily destocking. So that is the main reason, and we're also assuming in that business that will continue in the fourth quarter.

As we go into '23, we're expecting at least in the first half moderate volume growth. We'll explain a lot more of what we're anticipating for '23 as we get to Capital Markets Day, Mark, but that's what hopefully gives you some color on what we're seeing in the business.

The other thing I would highlight, though, and I think it's an important reminder for us that if you do take a step back over the 2-year time period, and we mentioned this through Q3, we are growing our volumes 4%. And we are still seeing good growth, in particular in Scent and Pharma that we highlighted as well. So the isolation that I highlighted is really primarily in those 2 areas, which is where we're anticipating seeing the deceleration continues, as mentioned.

The next question comes from the line of John Roberts with Credit Suisse.

The goodwill write-downs seem to only affect Health & Bioscience, but I assume the higher discount rate would have affected goodwill on the other segments as well. So the difference must be in the longer-term assumptions for Health & Bioscience relative to the macro assumptions for the other segments. Could you discuss a little bit why the longer-term macro assumptions for Health & Bioscience appear to be worsening relative to the other segments?

John, thanks for the question. Actually, it's more related to the amount of goodwill and intangibles that are allocated to the business. So let me -- just by way of background, as I'm sure you're well aware, we, prior to the end of the quarter, had about $25 million of goodwill and intangibles on our books. They were assigned to each of the 4 divisions. They're directly related to the acquisitions. And by definition, the majority of that is from the N&B acquisition. So that allocation is concentrated in H&B and Pharma and somewhat Nourish, but Nourish obviously has legacy IFF business as well. H&B and Pharma do not, right? So if you will, it's a heavy sort of burden in terms of the goodwill and intangibles against those 2 businesses.

For context, about 45% prior to the write-down of goodwill and intangibles was sitting on the books of H&B. So that's point 1; point 2 is, you're required to do an annual test or if there's an event that suggests there may be an impairment, have to do it within the year. The event largely is attributable to the interest rate environment. So the way you basically run the calculation is you basically do a discounted cash flow for each of the businesses, you do forward projections.

The forward projections on the H&B business were brought down. Those were in part because of exchange rates. So all the businesses actually have lower earnings because we have to use the current exchange rates. Part of it is slightly lower operating performance, but exchange rates played a meaningful role. But the most significant variable is the discount rate. As everyone's well aware, the interest rates are going up rapidly. So the discount rate we were required to use for the cash flow was materially higher than a year ago, and that's what resulted in the $2.25 billion.

We do note in our disclosures that we have about 10% cushion on Pharma. As you would expect, that will be the second business that would be under scrutiny just given the amount of goodwill and intangibles [assigned] to the business. It is less significant on a relative basis for Scent and Nourish because you have the legacy IFF businesses that don't carry the goodwill and the other intangible impact as much. So it's really -- to some extent, I'd say it's a minor reflection on the outlook of the business and more reflective of the interest rate environment and what we're experiencing from the exchange rate.

The next question is from the line of Gunther Zechmann with Bernstein.

Now your Q4 guidance, also from what you just said on volumes, implies around 10% pricing. That's pretty similar to Q3. We know that peers reported pricing getting harder in a weakening demand environment, which is what you're flagging as well and new price rounds getting even tougher. So how do you see this develop into 2023 then? What are your expectations for the raw material cost into next year as well? And also, how much of the lower volumes that you indicated, do you think, are due to stronger price increases that you pushed through as opposed to consumer demand down-trading or destocking, please?

I'll actually start by talking about the inflationary environment. I think then Frank will probably pick it up to talk about pricing dynamics relative to volume. First of all, we are clearly seeing a deceleration environment relative to raw materials in the marketplace. So that's happening in certain commodities going forward. But let me kind of step back and talk about our overall outlook for '23 in terms of 3 components.

One, logistics is actually looking very favorable, flat to maybe slightly down. We are encouraged by an ease up of the supply chain, which is helping not only in terms of cost for freight, but in addition, just making sure that we're able to deliver on time to our customers. So that's a plus.

Energy is incredibly volatile, as everybody knows. And it's very difficult to call that. What we have been doing with our customers, as many have been doing, is implementing direct surcharges or variable pricing that's tied to energy prices. So that will ebb and flow depending upon the market dynamic. And again, that's fairly consistent with what's happening with many players. That tends to be, as you're well aware, more concentrated in the European market globally in terms of the impact.

And then as it relates to raws, we are seeing -- we're still seeing inflationary pressure. I would basically put that in 3 buckets where there are certain commodity groups that are impacted by the energy environment and/or supply chain: so synthetics; chemicals, as an example; pulp, as an example.

Secondarily, we're clearly seeing some roll-off on contractual pricing we had or hedging this year. So that's actually impacting. And while there are certain price commodity categories that are beginning to decline, year-over-year, they represent some modest increases for us, such as soybean, palm oil, et cetera.

And related to that, we are expecting next year's raw inflation to be about half of what we had this year, so call it, high single digits in terms of the impact. You are correct, [the] pricing environment continues to tighten up. By definition, with a slowdown in consumer, everyone's trying to be a little bit more thoughtful in terms of commodity [prices would be] passed through.

We are about to go to market for '23 pricing. We have spent a lot of energy being very surgical relative to what makes sense (inaudible) customer in terms of pricing [tagged] directly to what we're seeing in the marketplace. So we are -- again, it will be a much lower number versus what we have, but we are expecting another round [up through] '23 pricing actions to offset the residual of raw materials.

And Gunther, this is Frank. With regards to the second part of your question about the lower volumes and strong price increases, we do not see it broadly, Gunther, that our pricing actions have impacted volume. In fact, if you look at what's happening in the market, many of our peers are also increasing pricing. So we do not see that as an impact.

In fact, we've also reached out to many of our customers, and we've been doing this in [concern] obviously with them. And they have clearly signaled that we have not seen any share losses per se, Gunther, because of our pricing actions. The one area that I did highlight is where we made a conscious trade-off was within our Ingredients business, where we were capacity-constrained. We did increase price and made some volume trade-offs to preserve margins. So that is the one area that I would highlight.

The other thing is with regards to what is the driver, primarily as mentioned, it is destocking for our business is what we're seeing, Gunther. And that is -- the main driver is our customers are looking at year-end, their inventory levels and wanting to obviously manage their working capital appropriately. So that's really the driver.

The last thing I will say, though, with all of that, one of the things, and we'll spend more time on the Capital Markets Day, is we are looking at ways to really continue to build our commercial execution, how do we work with our customers to really bring the full portfolio of IFF forward, increasing our market share with our key customers, regional customers and global customers as well as new customer acquisition? And I'll be spending some more time here at Capital Markets Day really talking about our plans in that area to focus on our aspirations for growth, Gunther. So much more to come.

Our next question today is from the line of Heidi Vesterinen with BNP Paribas.

So I have another question on your outlook, please. We noticed that your peers aren't calling out a volume decline or any major destocking in Q4, although I do appreciate that many of them reported much earlier than you have. Have market trends weakened significantly in recent weeks? Or is your cautious outlook driven more by IFF-specific factors?

Yes. Heidi, it's Frank. And as I highlighted, as we went through the quarter and in particular, in September, Heidi, we did start to really see the destocking that I mentioned. And also, we are seeing that in the month of October. So as we look at now for our forecast for this fourth quarter, we're obviously taking those most recent data points into consideration. And that is why we feel as though, appropriately so, we have guided to the top line sales that we've mentioned in our prepared remarks.

The one thing I do want to take a step back, though, Heidi, and do highlight, though, is we still are confident that for the full year, growing the business 9% to 10%, if you were excluding exchange, we feel as though is a very good overall performance. Like I said, clearly, the fourth quarter is where we're seeing some challenges, and this is primarily due to our customers wanting to manage the inventory. And we think it's the prudent approach to take based on what we're seeing in the last couple of months, end of Q3, and then as I mentioned in October.

Our next question is from the line of David Begleiter with Deutsche Bank.

This is Anthony Mercandetti on for David. You touched on it a bit throughout the call, but I was wondering if you can maybe elaborate on how much more destocking you're expecting into '23. Will it be a headwind in Q4? And then maybe what particular end markets and regions you expect the destocking to be more pronounced in regards to maybe the first half of '23?

Anthony, this is Glenn. Thanks for joining us. I'd say it's really difficult for us to predict. We do track very closely end-consumer demand. So what information we get from largely the scanner data; secondarily, obviously, in very extensive dialogues with our customers in terms of what they're doing. And as a byproduct, we do believe that destocking in addition to declining the end-consumer demand are the key contributors to what we're seeing.

And of note, as Frank had mentioned, we see it most pronounced in a couple of categories: one in Protein Solutions; second, in probiotics. And as you follow the end market and look at what some of the major CPG firms are reporting, they're double-digit drops in terms of the end market. And particularly, as you think about probiotics, which had a big, big booms related to COVID and the value of these things, it's sort of understandable why we would see the decline.

So point one is we believe that this is destocking end consumer. Point two, relative to how long this will run, we really don't know. A number of our customers have communicated to us that they believe by year-end they will have their inventories in place. That, of course, assumes they have a good crystal ball relative to where the consumer is going. Others have indicated that they believe that this may extend into the first and second quarter of next year. So we'll be providing more perspective at our Investor Day relative to our outlook on '23, but we do -- we will ultimately be factoring in potentially further destocking and slow down the consumer as we think about the outlook for our financial performance for next year. So appreciate the question.

Our next question comes from the line of Mike Sison with Wells Fargo.

Guys, nice quarter. Frank, when you think about the portfolio now, and it does seem like folks think we're heading into a downturn in 2023, how do you think each of those segments should perform if the recession unfolds? And maybe give us a little bit of color what you've learned on those businesses as we head into '23.

Yes. So thanks, Mike, for the question. A couple of things. As I look at the total portfolio, one would say that overall, we feel as though -- and going into a recession, we are very resilient when you look at our portfolio overall. If I start with Nourish, Mike, clearly, if you think about Ingredients in the end markets of food and beverage, we should be very resilient there. Our Flavors segment is a resilient business and then also Food Design. So if you were to exclude some of the near-term challenges that we're talking about from an inventory destocking perspective, we think that our nearest division would be overall very resilient in recessionary times.

If I look at the Scent business, what is really interesting, Mike, is that the one area that we have thought would be more of a challenge during a recession would be Fine Fragrance. However, we are seeing really good growth in our Fine Fragrance business this year, and our Scent business overall has continued to hang in there very well with overall good strong volume growth.

As I look at Health & Biosciences, clearly, we think that holds up very well also, Mike. In particular, if you think about Cultures & Food Enzymes or Home & Personal Care business within Health & Biosciences, we think, is a really good business and holds up during a recession. Obviously, we've highlighted on this call the challenges we're seeing in that health segment in the probiotic marketplace. But overall, fairly resistant. And then clearly, we see Pharma as being very resilient in a recessionary period of time.

With all of that said, as you mentioned, we do see some challenging headwinds on the horizon. That's something that we are obviously spending time as a team. We'll share much more on our '23 outlook. But think of the overall business, we feel very resilient across our different businesses, Mark -- or Mike, I should say, and it's something we will clearly spend a lot of time here at Capital Markets Day unpacking even more for you.

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

This is actually Matt Krueger sitting in for Ghansham. So I was hoping that we could touch on some of your own internal initiatives here. So what are some of the internal offsets across the business that can counter the tougher macroeconomic backdrop as we cycle into 2023 and into the back half of this year? And what are some of the primary concerns when entering a downturn for the business? Are you already taking actions to offset this? And if so, what might those be?

This is Frank. I'll start, and we've highlighted our significant focus this year on our productivity initiatives, which have primarily been in our operations group, where we focused on our supply chain. We're focusing on really looking at economic profit as a key driver of our choices and decisions in our manufacturing operations group or logistics costs. So I would first start that we have made really good progress in improving productivity. And I think Glenn highlighted that in his prepared remarks.

With that said, as you go into an additional -- or a downturn, one of the things that we are now looking at is our total cost base for IFF. So we are looking at ways to think about accelerating productivity beyond our manufacturing operations focus that you've heard us talk about and we highlighted on our second call. That's something that we are going to share much more Capital Markets Day. We do think there are ways to reduce our cost base and accelerate productivity while also preserving 2 things: one, our investment in innovation; and two, really also making sure we're continuing to focus on working with our customers to drive growth. So more to come at Capital Markets Day, but we do think we will be able to accelerate productivity as we head into '23.

Our next question is from the line of Josh Spector with UBS.

I was wondering if [you'd] discuss the margins in Scent in the quarter. You previously talked about that segment taking much longer to catch up on price/cost. I believe prior calls, you talked about maybe later next year. I mean it appears you made a pretty big step-change improvement this quarter. So what happened in third quarter? And does that change any of your expectations for the forward few quarters from here?

Yes. We're very pleased by the progress that our Scent business is making. 2 things are exhibited in the third quarter trend versus the first half of the year. One is we are beginning to sort of normalize for price versus inflation. So there was another round of pricing [in the] year to sort of catch up for what's been happening with raw materials. That has been implemented. So it's been extremely helpful relative to the gross margin performance, and we expect that to normalize into the first half of next year.

But then secondarily the team has also undertaken actions to continue to manage their costs very tightly. So you'll notice that their [RSNA] expenses also showed improvement from the first half to the third quarter as well. So the team is smartly and on a paced manner implementing pricing, maintaining volumes quite well and on top of that, taking additional productivity actions to make sure they manage the bottom line and had a nice currency-neutral year-over-year growth as a result of that.

Our next question comes from the line of Christopher Parkinson with Mizuho.

You kind of hit on a few of these just tangentially [your] other remarks. I just want to circle back to it. Despite the 3Q result being solid, it still appears the cost backdrop is still challenging. I understand you want to save a lot for your Analyst Day, but just can you currently just highlight what you're seeing in raws, transportation and logistics and then just also general operating costs, just how we should be considering those at least on a preliminary basis entering 2023?

Chris, relative to logistics costs year-over-year, pretty flattish to slightly down. So we've actually seen nice improvement in the global supply chain. As I mentioned previously, raws, we still have pressure, about half of what we've seen this year. So think about it as sort of high single digit on our total raw material cost. And that's a function of contracts rolling off. It's also a function of certain categories, those driven by energy prices, continue to see escalation in areas that are being affected by continued war in Ukraine and other global supply chain issues.

So call it, half of the rate of this year still meaningful for us to basically go capture. And as a byproduct of that, not only do we need to be smart on our next round of pricing actions, but everything Frank had mentioned around managing our cost structure as a way to sort of offset those pressures as well.

Our next question comes from the line of Jonathan Feeney with Consumer Edge.

I think I've got a pretty good handle on how your customers -- primary customers are dealing with trade-down among consumers. But specifically to your business, other than -- you mentioned taking pricing, in some cases, prioritizing pricing over volume, presumably to protect margins is what you meant. How do your customers trade down within your portfolio sort of not innovating or going to a competitor? Are there signs of trade-down? And how is that different in the legacy DuPont businesses, the businesses that are newer to IFF? Because I felt we had a pretty good handle on how all that worked before 2021.

Well, let me attempt to answer it in a couple of dimensions, Jonathan. Obviously, with the consumer under pressure from inflation, there is a visible movement from branded to private label. So that's happening both in Europe and the U.S., although more pronounced in Europe. We play across the customers that play in both spaces. So we serve both markets. In general, not all cases, but in general, our margins are fairly consistent between branded and private label from the standpoint.

So from that standpoint, while the consumer is moving across branded to private label, generally, we hold up well relative to the shift of our business. The customer also will look at formulations and how do they think about saving money through reformulations, it's very constant. It actually happens in all environments, but it's more pronounced in this type of environment. So we work very closely with them in terms of helping them reformulate products, basically, to take cost out and deliver the same solution for the consumer.

The third thing I would say relative to the behavior of consumer is, and this is clearly happening in the marketplace, is while the consumer may still actually stay within branded, oftentimes, they will reduce dosage. So think about that as sort of less Home & Personal Care products usage or less fabric softener, as an example. So that is another factor that's happening that affects our business as well as the customers' business. But it may, in essence, also result in sort of lower volumes in the marketplace as well. So hopefully, that's helpful.

Yes. The only thing I would add, Jonathan, I think it's important, though, that we do still continue to see our customers seeing how important innovation is for the future. So as we engage with them and as Glenn mentioned, some of what we're seeing some down-trading near term, et cetera. But the fact is we are still seeing very high engagement from our customers wanting to work with us with regards to our pipeline, new projects, innovation, which we think is going to be very important for the future for us and going forward.

So that's something that I just wanted to also make sure that is reinforced. We're not seeing a pullback of customers not wanting to innovate for their future growth. And that's something that we're focused on really helping them to deliver on.

Our last question today comes from the line of Matthew DeYoe with Bank of America.

So I wanted to ask a question on Nourish. Basically -- like basically every $1 you gain in revenue, you lost $1 on EBITDA. And that's a fairly sharp downshift in decremental margins from 3Q and maybe a little at odds with the price offsetting raw commentary. So what happened there? And how does that kind of set up for margin progression into 4Q?

Yes. Matt, one underlying factor relative to the quarter is how we're trying to correct manufacturing volumes to offset the decline in demand in order to address our cash flow and inventory problems. So as a result of that, the production volumes in the third quarter for Nourish were dropped even more so than demand. So there's an absorption issue relative to that's hitting the business. So that does affect sort of the marginal flow-through of the dollar, if you will.

Also quarter-to-quarter, there was some inflationary pressures like energy and some other things that were sort of not outside of the period per se in terms of kind of the effects. So it's a little bit hard to sort of normalize 1 quarter to another as being sort of an apples-to-apples. But the reduction in volumes in order to get our inventories down is a factor that's hitting our business collectively in Q3 and also in Q4. And it's more pronounced in Nourish and H&B, we've seen a more pronounced volume decline. So that's a factor in that calculus you cited.

There are no further questions waiting at this time. So it's my pleasure to turn the call back over to Frank Clyburn for closing remarks.

So thank you, everyone, for joining our call. Hopefully, you can see and hear despite some of the near-term challenges, we are extremely excited about the future in front of us with IFF. We look forward to December 7 in our Investor Day in the next couple of weeks, where we'll really spend time sharing with you our growth, our aspiration from an innovation perspective, how we'll continue to drive productivity to be able to reinvest in the business and why I'm very excited about the future of IFF going forward. So look forward to seeing many of you in New York City on the 7th, and thank you for joining our call.

That concludes the IFF Third Quarter 2022 Earnings Call. Thank you all for your participation. You may now disconnect your lines.