金百利克拉克 (KMB) 2019 Q2 法說會逐字稿

Ladies and gentlemen, thank you for your patience in holding.

We now have your presenters in conference.

(Operator Instructions) It is now my pleasure to introduce Mr. Paul Alexander.

Thank you, and good morning, everyone.

Welcome to Kimberly-Clark's Second Quarter Earnings Conference Call.

With us today are Mike Hsu, our Chief Executive Officer; and Maria Henry, our CFO.

Here's the agenda for the call.

Maria will begin with a review of second quarter results.

After that, Mike will provide his perspectives on our results and the outlook for the full year.

We'll finish with Q&A.

We have a presentation of today's materials in the Investors section of our website.

As a reminder, we will be making forward-looking statements today.

Please see the Risk Factors section of our latest annual report on Form 10-K for further discussion of forward-looking statements.

Lastly, we'll be referring to adjusted results and outlook which exclude certain items described in this morning's news release.

That release has further information about these adjustments and reconciliations to comparable GAAP financial measures.

And now I'll turn the call over to Maria.

Thanks, Paul, and good morning, everyone.

Thanks for joining the call today.

Let me start with the headlines for the quarter.

Organic sales increased 5% driven by higher net selling prices.

We achieved strong cost savings, margin improvements and growth in adjusted earnings per share.

And finally, we're broadly on track with our overall capital plan, and we continue to return cash to shareholders.

Now let's cover the details of our results, starting with sales.

Our second quarter net sales were $4.6 billion.

That's even with year ago and includes a 5-point drive from currency rates.

Organic sales were up 5% compared to flat performance in the base period.

Net selling prices increased 5%, and product mix improved 1 point while volumes fell slightly.

Mike will provide some more color on our top line in just a few minutes.

Moving on to profitability.

Second quarter adjusted gross margin was 34.6%, up 120 basis points year-on-year.

Adjusted gross profit increased 3%

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We now expect full year commodity inflation of $150 million to $250 million.

On average, that's $150 million lower than our previous estimate.

The reduction is driven primarily by pulp, and secondarily, other raw materials.

Other manufacturing costs also increased in the quarter compared to a relatively modest level last year.

These costs are expected to be a bit higher than we planned for, for the full year.

Moving further down the P&L.

Between-the-line spending was up 90 basis points as a percent of sales.

That included higher advertising as we're investing more behind our brands, particularly in digital.

G&A expense also increased driven by higher incentive compensation.

For the full year, because we've reached our sales and earnings outlook, we've also increased our incentive compensation estimate.

The increase versus our original plan is equal to more than 1% of total operating profit.

About half of that increase was reflected in our second quarter results.

Foreign currencies were also a headwind in the quarter, reducing operating profit by a high single-digit rate.

All in all, adjusted operating profit was up 2%.

Second quarter adjusted operating margin was 17.2%, up 40 basis points versus year ago.

That included broad-based margin improvements in all 3 business segments.

On the bottom line, adjusted earnings per share were $1.67, up 5% year-on-year.

In addition to the higher operating profit, the bottom line benefited from a slightly lower adjusted effective tax rate, higher equity income and a lower share count.

Let's turn to cash flow and capital efficiency.

Cash provided by operations in the second quarter was $609 million compared to $787 million in the year ago quarter.

The decrease was generally in line with our expectations and driven by higher tax payments and increased working capital.

Capital spending was $253 million in the quarter.

As expected, that's up versus last year driven by supply chain restructuring projects.

We continue to allocate capital in shareholder-friendly ways.

Second quarter dividends and share repurchases totaled $520 million, and we continue to expect the full year amount will be between $2 billion and $2.3 billion.

Looking at our segment results.

In personal care, organic sales were up 8%.

Net selling prices increased 5%, and volumes and product mix were each up 1 point.

Personal care operating margins were 21.2%, up 80 basis points year-on-year.

The improvement was driven by organic sales growth and cost savings.

In consumer tissue, organic sales were up 4%.

Net selling prices increased 5%, and product mix improved slightly while volumes fell 2%.

Consumer tissue operating margins were 15%, up 90 basis points versus year ago with significant benefits from higher pricing.

In K-C Professional, organic sales grew 1%.

Selling prices rose 3%, and product mix improved 1 point while volumes were down 3%.

K-C Professional operating margins of 19.7% were up 50 basis points versus prior year.

So all in all, we delivered very good results in the quarter while continuing to invest for future success.

I'll now turn the call over to Mike.

Okay.

Thanks, Maria.

Good morning, everyone.

Let me start by saying we made excellent progress in the second quarter.

We're executing our 2019 plan well with a strong focus on price realization to improve our margins.

We're launching innovations, investing more in our brands and pursuing growth priorities for longer-term success.

We're also continuing to return significant cash to shareholders.

As Maria just mentioned, we delivered 5% organic sales growth in the second quarter.

And while that compares to a soft year ago, this was our best performance in over 3 years.

Our pricing initiatives are on track.

Our volumes are ahead of expectations, both in terms of the impact from price increases and from our growth initiatives.

We also continue to improve mix, which was up 1 point for the second consecutive quarter.

Let me share some of the top line highlights, starting in North America.

Organic sales in consumer products increased 5% compared to a 2-point decline last year.

Year-to-date, organic sales were up 3%, which is likely a better reflection of our ongoing performance.

Growth in the quarter was driven by 4% higher selling prices.

Our pricing plans are on track.

Volumes in North America were up slightly overall.

Adult care volumes were up high single digits, and we've recently launched innovations on both Poise and Depend to keep that momentum going.

Earlier this month, we launched Huggies Special Delivery, our new super-premium diaper.

Special Delivery uses the best of our technology from around the world.

This is our softest diaper.

It's made with plant-based materials and provides ultimate skin comfort.

It's also premium priced and a great example of our elevate the core strategy in action.

In North American consumer, K-C Professional organic sales increased 2% driven by disciplined execution of our pricing initiatives.

Turning to developing and emerging markets.

Organic sales rose 9%, and that included 3.5 points of growth from Argentina, which is consistent with our plan.

In terms of our key personal care businesses, in Brazil, organic sales were up double digits driven by higher selling prices.

While category volumes remain sluggish, we're driving strong growth through disciplined market execution and focused expansion efforts in baby wipes and adult care.

In China, organic sales were up double digits compared to a soft performance last year.

In diapers, our net price realization was helped by reduced and more targeted promotional spending.

While Huggies total volumes were down, the product innovations we've launched are delivering growth in the premium end of our lineup and improving mix significantly.

In femcare, we had another strong quarter, and we're on track to achieve 20%-plus organic growth for the third consecutive year.

In ASEAN, organic sales rose about 10% with continued volume strength on Huggies Diapers in Vietnam.

In Eastern Europe, organic sales increased about 20% driven by double-digit volume growth and positive pricing.

Our momentum on both Huggies and Kotex reflects excellent sales execution, winning product innovation and great marketing.

Finally, in developed markets outside North America, organic sales were up 1% with solid performance in South Korea and Australia.

Beyond sales, I'm very encouraged with the margin improvement we've delivered while investing more in our business.

Now turning to the full year.

We're raising our outlook on both the top and bottom line.

On the top line, we're increasing our organic sales outlook to 3%, and that's 1 point higher than our original plan and driven by stronger volumes.

On the bottom line, we're now targeting adjusted earnings per share of $6.65 to $6.80, and that compares favorably to our prior outlook of $6.50 to $6.70.

Our updated outlook reflects strong execution, the improving commodity environment and higher reinvestment levels.

We're encouraged that the commodity outlook has gotten better, and that's especially true for pulp, which has retreated from all-time high levels, although costs remain elevated from a longer-term perspective.

We aren't expecting a significant increase in market promotion activity despite the improved commodity environment, but we'll continue to closely monitor competitive activity.

We're increasing growth investments in our brands and commercial capabilities to position us better for the long-term success.

Brand investments include more digital advertising.

Digital continues to improve marketing ROI and help us grow in many parts of our businesses.

We're also going to invest to improve our commercial capabilities, including revenue management, which is a focus of K-C Strategy 2022.

Overall, we expect to bring some of the commodity benefits to the bottom line while also reinvesting more for top line growth.

That's consistent with our balanced value-creation model we outlined in K-C Strategy 2022.

So in summary, we've made excellent progress in the first half.

We're raising our full year outlook and investing more for the long term, and we're confident in our ability to create shareholder value.

That concludes our prepared remarks, and now we'll be glad to take your questions.

(Operator Instructions) Our first question comes from Ali Dibadj with Bernstein.

A few questions for me, actually.

One is on free cash flow.

Maria, you mentioned that -- particularly on the working capital side, it was a planned change.

But it is a pretty big reduction in free cash flow this year versus last year, even if you try to adjust for some sense of restructuring.

So I'd love a sense of why that shouldn't worry us at all in terms of that trajectory and what you think the trajectory looks like going forward on the free cash flow side.

Sure.

We said coming into the year that we would -- that we were expecting operating cash flow to be down slightly year-on-year, and we still expect that.

If you look at the quarter, the cash from operations of $609 million was driven by higher cash taxes, and working capital was also a use of funds.

So let me talk about both of those.

On cash taxes, it really has to do with timing.

You look at the first part of 2018, we were in an overpayment situation, and so we were paying out less cash taxes last year than what would be kind of a normalized level.

This year, we have the opposite.

We have some catch-up payments that we had to make in the first half of this year and in the second quarter, and so that's what's going on with cash taxes.

It just has to do with timing.

We didn't call anything unusual out there.

In terms of working capital, there's a number of factors.

Our cash conversion days were 13, which compares to what was a very strong 11 days in 2018.

And you'll recall that in the fourth quarter of last year, we had very strong cash flow benefits from working capital.

We had very low cash conversion days.

Part of that was driven by a higher payables balance, which got paid out in the first part of this year.

In terms of working capital and cash conversion days, we are expecting and we are seeing inventory builds around our execution on the restructuring program.

As we close down facilities or prepare to close down facilities and shut down lines and prepare to stand up new lines, we are building inventories so that we can maintain our service levels with customers, and we are seeing that.

On the accounts receivable or DSO side, we've got in the second quarter some timing differences between the sales and collections, particularly with the quarter ending on a Sunday.

So I would expect on the receivables side that to correct itself as we go through the remainder of the year.

And finally on payables, the team is executing some projects to get some benefits there.

And that was a positive, helping to offset the drag on inventory and the timing differences on DSO.

So it's a long answer, but I would expect for the second half that we will have stronger free cash flow.

And that for the year, it will still be down a little bit, Ali.

Okay, okay.

But improved for me.

Okay.

I appreciate the comprehensive answer, and we'll keep watching it.

A couple other things.

One is I guess I was initially encouraged to see emerging and developed markets growing 9% this quarter.

Soft China pricing, a little bit better and start to ask the question of, "Oh, gosh, are we back to kind of this high single-digit type growth rates sustainably in the emerging markets for Kimberly-Clark?" But then I saw that you mentioned Argentina was 3.5 points of that 9% growth.

Mike, Brazil probably helped you out a little bit as well.

China, seems like you're investing a lot in that marketplace as well, particularly on the volumes side.

So just -- that tempered my expectations, and I hope to -- a return of improvement in Kimberly-Clark emerging and developed markets.

Could you kind of rightsize our expectations on that on a sustainable basis, please?

Yes, yes.

Ali, good point.

I think I'd say overall in D&E, we're very encouraged, and we're making strong progress.

That 9%, it's robust, and I'd say it's the fourth consecutive quarter of accelerating performance.

If you go back to the third quarter of last year, I think we were up 3%, then 4%, 7% in the first quarter and then 9% this quarter.

While Argentina is a chunk of that, about 3 -- a little over 3 points, we are seeing improved performance across many of the markets.

And obviously, price/mix is a big piece of it, but we are seeing certainly less volume impact from pricing from some of the significant pricing we've taken, for example, in Brazil and Argentina, less volume impact than we originally expected.

And then on the positive front, in other markets, I would say CE continues to grow at a strong double-digit rate.

We're seeing ASEAN growth at double digits, and then China, obviously returning to growth, certainly aided by pricing, or maybe said a different way, some reductions in promotion spending in China.

But we're seeing good volume growth in our premium tiers, and we're very encouraged by that progress.

Okay.

And just my last question, maybe a little bit of a broader question.

The discourse around Kimberly-Clark among investors is that, that I think people generally understand that pricing has been pretty good because of commodities -- commodity-driven pricing, and also SKUs were better because P&G and GP and perhaps some of the competition in China was a little bit more stable.

Brazil seems like it's getting a little bit better.

Commodity costs were less than what we anticipated, and all those things in the kind of Kimberly-Clark ecosystem are doing pretty well.

But the challenge often in that discourse is, okay, so what's Kimberly-Clark itself doing, what's company specific here that Kimberly-Clark is doing that could benefit it differentially besides cost savings, in particular?

I think we all appreciate the cost savings has been quite good, but it's kind of like the ecosystem is going in Kimberly's favor, but we're not quite sure what company specifics are happening here.

So if you could help us, at least enlighten us on that, that would be helpful.

Yes.

Ali, great question.

It's certainly -- I think one of the big things is the operating environment has improved, right?

And I think that's significantly better than when we met maybe toward the end of the January.

And I think the consumer demand is healthier than it was then, and I'd say our performance is better than it was then.

One of the reasons why we're seeing less volume impact is not because elasticities are lower.

In fact, as we do the analysis, the elasticities, these are pretty close to what we modeled.

It is really more the market execution, and what we got is I think very strong innovation and new products coming out across, let's say, North America, particularly in personal care.

We've got strong marketing in those markets as well, driving improvement consumption.

I think the China business, I think is -- we're in China for the long haul, and I think the team really believes in innovation there, and I think the consumer is following.

And so we are seeing strong growth in our premium tiers behind -- we think it's the best diaper in the marketplace right now.

And so there's a lot going on there.

And then if you look at Latin America, double-digit pricing with almost minimal volume impact.

It's not because there's low losses.

It's because there's really strong innovation, marketing and actually terrific sales execution.

Our next question comes from Lauren Lieberman with Barclays.

Great.

Just following on that.

I think it's telling, Mike, how many times you just mentioned kind of terrific sales execution.

And it feels like in some of your larger emerging markets, I'm curious to the degree to which, I guess, like what's changed.

So you've alluded to, of course, better operating environment.

But the Kimberly-Clark-specific piece, let's go back to maybe what was missing or not as strong over the last 2 to 3 years from a commercial execution standpoint because I think that's a piece of the equation I'm still not grabbing onto, and then it would be in so many markets at once that the execution is driven -- has been like a step change.

So anything further you could offer there would be great.

Lauren, I think it's a combination of the factors I've just mentioned, which is I think the operating environment has improved in which I think the consumer can see the innovation of the product and the marketing and respond to it.

And if you rewind a couple years ago, it's tough to see innovation and advertising when you're going against a buy 1, get 2 free, right?

And so pouring advertising to a marketplace like that just is not effective, but I think where the team's -- and we always believe in elevating our categories or driving better product benefit by making the premium products worth it.

And so I think we've got plenty of innovation across markets that I've just mentioned that's taken hold and getting the consumer's attention, and we're encouraged by that response.

And then obviously, I think for all of us in CPG, we all know when you have good innovation, it allows your sales force to execute much more effectively and get the shelf space you need, drive the promotions you need, and all that kind of behavior flows with it.

So I think -- I don't think there's a magic bullet there, but I would say I think we are more focused on -- in a disciplined way, building our capabilities, both in innovation and digital, which is the big space for us for marketing, sales execution and revenue management.

Those are the big capability areas we've been focusing on, and we're making a lot of progress.

Okay, great.

And then now with the commodity environment being more benign and you've adjusted your outlook, obviously, for this year, but even if we look forward to 2020, with that as a backdrop and thinking about the things you've laid that out as core to your 10-year investing and selling capabilities, marketing, digital, revenue management, there's data needs to kind of get it at those sorts of activities, how are you thinking about the greater flexibility you may well have today versus what you thought 6 months ago and the reinvestment needs of the business, particularly with the new Chief Growth Officer coming on who may have sort of a different perspective on what can be done with your suite of brand?

Yes.

I mean I would -- Lauren, we're very bullish in our categories, both in the near term and long term, and I think that comes back to kind of the 2 of the core strategies that we have, which is -- in big developed markets, elevating the core or making -- premiumizing our categories by making the categories worth more to our consumers.

And then, of course, we're still -- we're in the very early stages of development.

So I think with the -- maybe the commodities have been a little lower than we expected at the beginning of the year.

That does give us the flexibility.

I think the -- when you add up the operating environment, which I think is more conducive to growth and consumer demand is healthier than we have seen maybe in the past year or so, I think that gives us the confidence to invest.

The other part of it is and we've talked about this back in January, which is I think our -- with the innovation and the marketing initiatives and the sales initiatives working, it gives us more confidence to put more money behind that, and we're very excited about that.

Our next question comes from Dara Mohsenian with Morgan Stanley.

You might be on mute.

We can't hear you, Dara.

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mid-single-digit pricing in the last couple of quarters, but that was predicated upon a much higher commodity environment than we're sitting at today.

So curious if you're seeing any initial signs of pickup and promotion from either a private label or branded competitors with the recent commodity pullback.

And as you look going forward, you commented that you don't expect to see a significant increase in market promotion.

What gives you confidence behind that and that you won't have to dial back some of this pricing eventually?

Yes.

Dara, I think we only got the last part of it, so I'll try to answer, but maybe you can push me if I'm not kind of going the direction you were asking for.

But I think it was related to pricing and what the environment looks like.

Right now, I'd say, overall, our pricing initiatives overall across globally are on track.

Maybe a little more focus on North America, they are also on track.

Probably the big area for us was in North America consumer tissue.

I think the pricing was up as we expected.

The big difference was private label, in general, still has not moved, but we are still seeing good volume growth from our brands and probably a little bit in excess of what we had planned.

I think the -- at this point, we had not seen an uptick in maybe competitive promotional pricing.

Don't expect it, mostly because this is a multiyear issue for us, and we've had commodity inflation at record highs.

It's still at a very high level.

And so for us, we are not -- our plans don't have high promotion intensity.

We're really focused on marketing the innovation that we have and driving the advertising.

I'll pause there and maybe -- is that what you're looking for or something else?

Yes.

That's helpful.

And then just if I could slip in a second question.

The gap between North America and reported results in the U.S. scanner data looks like it widened pretty significantly to a few hundred basis points.

Was there some inventory build at retail, particularly with the innovations that you mentioned?

Or is that more just a function of very strong on-track channel growth?

And maybe while we're on the subject, can you give us a bit of an update on e-commerce and the club channel, your sales growth and market share performance there?

That would be helpful.

Yes, yes.

A little different there.

I think what I said in our commentary that maybe the plus 3% was probably a better -- if you look at year-to-date, we're plus 3%.

That's probably the best indication of where we think our business is right now.

We did have a few differences.

Certainly, non-measured for us is generally stronger than measured so that's an ongoing refrain and a good thing in some ways.

Also, we had some spending changes that affected net revenue realization.

Recognize we're still dialing back -- to your prior question, we're still dialing back our promotion intensity and so that affected it.

And then we did have some minor retail inventory changes, but we have those in a lot of quarters.

So...

Our next question comes from Wendy Nicholson with Citigroup.

There was just a comment in the North America commentary in personal care that caught my eye, which was, number one, that volumes were up high single digits in adult care.

And I was curious what drove that because I know that's been obviously a very high margin area for you, but it's an area that's been under pressure.

So is that category growth?

Or is it innovation or more promotion that you're doing?

And then similarly, volume's down mid-single digits in femcare in North America.

What's the plan there?

I know it's been -- I mean your Kotex restage that you did a few years ago was so successful.

Are there any plans for a follow-up to that?

What are your plans in femcare to get that business growing again?

And I'm really focused on volumes, not pricing.

Yes, yes.

We're making progress on adult care, Wendy, up high-single digit.

I think the category is up somewhere -- probably about mid-single digit in that range.

And I think, really, it's about innovation and category messaging -- category-building messaging that's gaining traction for us.

Definitely, our product enhancements that we launched last year are gaining traction, discreet sizing.

We've got Fit-Flex on Depend that's going up now and then Poise Active, and those were all working pretty well for us.

And then we've got strong brand investment and more messaging that's more category building.

So I think those are the 2 things that are working in adult care.

In femcare, it's a great category.

We've got a great global franchise.

We know we need to strengthen the performance of the brand in the U.S., and the team is focused on product enhancements and improving our messaging.

Perfect.

And then just going back to your comment on pricing generally.

I mean I can't remember the last time companies like you got the benefit of favorable pricing and favorable commodity impact.

It's just been a long time, though it's usually worked opposite.

And so just as you think about the current commodity environment, I know you said you don't expect promotional levels to increase, which, hey, I hope that's the case, but that would strike me as a surprise.

But as you look toward calendar '20, the pricing that you've taken, at what point in the cycle do you get to a point where you need to contemplate maybe rolling back some of the price increases you've taken, particularly in categories where you still are struggling from a market share perspective?

Why not be the aggressor there, if you will?

Yes.

I think -- well, if you sit on this side of the phone, you have a memory like an elephant.

And so like last year, I think our commodity inflation was $600 million -- $500 million or $600 million more than our plan.

And so this year, it's a little more favorable but not even close to that.

And so again, as I said, the commodity impact is a multiyear impact, and I think that's driving our behavior as we work to recover margins.

And I think -- and right now, I think we're seeing in the retail environment, consumer demand is healthy.

I think in this environment, consumers can be more responsive to innovation and marketing.

And I think it's a bit more value added for us and our competitors to grow the category versus driving a doom cycle of promotion.

Our next question comes from Bonnie Herzog with Wells Fargo.

All right.

I actually had a follow-on question on private label pricing, which has remained largely unchanged in some of your key track channel category such as diapers.

So just want to hear from you guys how concerned you are with private label choosing not to follow your pricing moves.

And then separately, could you comment on whether you're seeing any stepped-up competitive pressures from some of your online retail partners with your own private label offerings?

Yes.

We're watching the private label pricing pretty closely.

It hasn't moved, notably in consumer tissue or specifically in the back category or in diapers yet.

I do think our brands are performing very well despite that, and I think that speaks to kind of the iconic nature of Scott 1000, our new advertising, and our product enhancements with Cottonelle.

So we feel good about that direction, but it's something that we've got to keep a sharp eye on.

Obviously, we're a volume-sensitive business.

And so while we may fine-tune our promotional plans to make sure we get the volumes that we need, we're going to manage this category -- our role in the category very responsibly.

All right.

Then just a second question from me on China.

Could you drill down just a little further on your performance in that market?

And it seems like volume still seemed to be under pressure.

So just wanted to understand from you when we could see that turn positive or improve further.

Yes.

Okay.

China, our biggest short-term opportunity, our biggest long-term opportunity.

And I think we're -- I think the team is working in the right direction, which is making the investment in innovation.

And we feel like we have the best diaper in the market right now.

Organic was up double digits with big contributions from both diapers and femcare.

In diapers, we launched a breakthrough, what we call our 5D diaper toward the end of last -- middle of last year.

And we think that's the best in the market and that's really fueling the gains.

We're up significantly in the premium tiers, still down a bit in the value tiers, but we're managing through that.

Some of that is conscious because we've chosen to dial back the promotional price points -- or raise our promotional price points and so that drove some of the net price realization that we had in the category.

But I would say we're growing in the tiers that are very important to us, which is premium, and still declining a little bit in the value tiers.

Our next question comes from Jason English with Goldman Sachs.

This is actually Cody on for Jason.

Perhaps the biggest surprise to us was the 8%percent organic sales growth in personal care.

Developing and emerging markets were led by price which could be fleeting, but North America had a balanced contribution for the first time in many years.

Can you provide more details and tell us what's driving this?

Specifically, what do you think your end market growth is compared to what it was a quarter or 2 ago?

How much market share do you think you're taking?

And which categories are you seeing the most share gain in?

And how sustainable do you think that is?

Yes.

Good point, Cody.

I think we are very pleased with the balanced nature of the growth in North America personal care.

I think organic was up 6%, and that was balanced between being up 3% in price and 3% in volume for us, and that really reflects, in our minds, strong product innovation and really strong end market execution.

In diapers, we just launched -- we got a great innovation coming out, and we just launched Huggies Special Delivery, which is going to deliver ultimate skin comfort, and it's got a lot of features.

And if you'll indulge me, our softest diaper delivers really trusted protection.

It's got plant-based materials, free of parabens and other harsh chemicals and hypoallergenic for baby skin.

So it's got great product, great designs and packaging, and it's priced at a significant premium.

And Cody, that's been a -- it's really a good indicator or a good example of our elevate the core strategy in action, so we're excited about that.

In adult care, likewise, we've got, as I just mentioned earlier, a number of product enhancements in Depend and Poise, and those are both working -- those were all working well in the market.

Great.

My other question was your revised guidance calls for higher marketing spend and G&A costs.

Can you just provide more details about your spending initiatives?

What products is it behind?

When should we expect it to hit?

And then also what caused you to increase your spending outlook?

Was it just reinvesting the savings that you have from a lower commodity outlook?

Yes.

Cody, it's a couple of things.

One, certainly, outlook had a piece of it, but it's also -- given the robustness of consumer demand and I think the improving conditions in the operating environment gives us the confidence to invest.

And then that said, some of the early returns from our innovation and our marketing thus far to date, I think, gives us more confidence to invest further.

So the big areas, I think Maria mentioned digital is one big area for us.

That's working effectively for us in a lot of areas.

It has strong ROIs.

It's driving lots of parts of our business, what we would call direct digital marketing in North America personal care and tissue, China fem, diapers in Russia.

I think we've got multiple markets.

And then from a capability perspective, we're also investing in people, process and tools to accelerate some of the capabilities I outlined, including our end market execution and our revenue growth management initiatives.

Great.

And if I can just sneak in one housekeeping item.

You guys have had strong cost savings so far year-to-date.

Even if commodity should come below your outlook for the $150 million to $250 million, should we still expect you to hit that target range of $400 million to $450 million in savings?

We are tracking well on our way to delivering the $400 million to $450 million savings this year.

What I would say is the composition of that may be a bit different than what we were thinking.

Our teams are delivering solid FORCE cost savings as they work to deliver productivity and cost reductions in our manufacturing operations.

Our restructuring program is very much on track.

At the end of the day, it's possible that our FORCE savings for the year may come in a bit light, and our restructuring savings may come in a bit better than we had anticipated coming into the year.

But in total, on $400 million to $450 million combined savings, I think we're well on our way to deliver that.

Our next question comes from Andrea Teixeira of JPMorgan.

So I have 2 questions.

First to Maria on the new guidance.

What are you assuming for pulp prices?

And should we see commodities -- I guess like the spot prices have been rolling over by more than anticipated?

So in your outlook as we progress for the year and probably as you said in a multiyear effect, should we see the timing of these contracts finally having a bigger impact?

And the level of like being conservative on this guidance, on revised guidance is because you don't have visibility of how long it's going to linger, these lower prices?

And then the second question is about China.

So you have the new price of quarters.

In the premium segment, that's finally more than offset the mid-tier segment decline.

Is it sustainable?

Are you seeing-- are you being able to increase the marketing in spite of these marketing spend that you alluded to for the fast-growing channels, including online and baby stores?

All right.

Why don't I start with the commodity outlook?

I guess a good place to start on commodities is just a reminder that commodities were inflationary in the quarter and so that's still a headwind for us in the second quarter to the tune of about 10% impact on our operating profit.

But that said, they did come in a bit better than we expected.

And while they were inflationary, it was the lowest level of inflation that we've seen in 2 years, so we are pleased with that.

Cost on some of the resin-based materials, as well as pulp and recycled fiber, all eased versus our plan, mostly in North America.

We still do see inflation outside of North America, particularly in Latin America.

Distribution costs are also continuing to run high.

There's no change in our view on that, but they do continue to run high.

On your question around the contracts, those contracts, in general, are negotiated annually.

So I'll remind you that we discussed the negotiations that we had coming out of 2017 when we got -- I'm sorry, coming out of 2018 when we got on the call in January.

So we have nothing new to report on that, and we'll have to see where we land and where commodities are as we close out the calendar year and we get into our discussions with suppliers and set our contracts for next year.

We'll update you on where all of that lands in January.

And then the other thing I'd comment on is that, in general, our outlook for commodity assumes that costs are relatively consistent with the recent spot prices, except for pulp, which is forecast to move down a bit further from here.

So that's kind of what's going on with commodities.

Yes.

Okay.

And Andrea, and then on China, I will tell you is we're really encouraged by the progress the team is taking, their strategies to elevate the category by driving sustainable long-term growth.

And I think -- do we believe it's sustainable?

I think that's our intent, and the way we're doing that is through product innovation that seems to be working very effectively in the marketplace.

We've got a diaper that we launched toward the end of last year -- middle of last year, the 5D diaper that's soft and flexible, breathable, as much as any product out there, except that the differences in the marketplace and while it's winning is it protects better than the other products in the category.

At least that's our perspective.

And so that's gaining traction in the premium tiers.

But just to be clear, our volume in diapers was down in the quarter.

It's just that it was growing significantly in the premium side of the business.

That said, organic was up because of the volume differences and also because some of that pricing changes.

So I think the business is headed in the right direction.

We think the work that we are doing is to drive long-term sustainable growth.

And just -- that's helpful.

Just on the follow-up with Maria.

No.

I understand the contracts are 1-year set obviously with the suppliers, but -- so can you kind of bridge to us because they come to mid and last year was obviously a big hit.

This year, what is your assumption for pulp embedded in your revised guidance?

Andrea, this is Paul.

I would say, in general, we're -- there's been no change in how we forecast commodities, and so we're using the forecasters that you know well, including RISI, and then we generally line up with what they forecast.

And include the timing of the contracts, right?

I'm assuming that they don't roll over the way your contracts roll, right?

You can't have the spot prices because they are significantly lower now, but you can't embed it because of your contracts.

Is that the way we should think?

Well, we've got those things that affect us, obviously what the market price is.

And then as we discussed, we also have contracts that affect what we report as commodity inflation for Kimberly-Clark, one you have visibility into and the other one you don't.

Correct.

Yes.

But you're not ready to give us, as you did in the past, where you gave us exact the price of the pulp at this point.

If you're after what we're thinking in terms of our fiber commodities, what I'd say is that on eucalyptus, which is a major input for us on the fiber side, we've reduced our outlook range to $1,050 to $1,100 per metric ton, and that's down $75 per metric ton.

Our next question comes from Olivia Tong with Bank of America.

Great.

Obviously, given your commentary around brand spend and initiatives, a few questions there.

Clearly, that's helping support some of your pricing and mix initiatives.

But when do you actually expect your -- these initiatives to drive some improvement in volume?

So that's the first question.

Then second, just a little bit more around the new Huggies Special Delivery.

Curious as to how you went about in terms of the thought process on marketing around it because that's -- it's conveying a very different message versus what both you and your competitors have done in the past, and it obviously stands up pretty dramatically in the shelf.

So a little bit more color there would be helpful.

Yes.

On the brand investment, I think maybe the overall sale of -- I think it has been working, and that's a piece of the reason why it gives us the confidence to increase the investment in the back half.

The example I'll give you maybe is if you talk about Brazil, pricing is up in the teens.

Volume is essentially a little bit less than flat.

And so while our assessment is the elasticity has taken hold, but we've got a lot of other things going on that make that volume better than what the elasticity would have modeled, which is innovation.

We've got growth initiatives on adult care and baby wipes that's getting very, very strong growth and marketing behind those initiatives and then increased advertising spend or improved advertising on the diaper products.

So I think just kind of one example, but I think we have seen that, and it's part of the reason why we have more confidence to spend more.

And then on Special Delivery, Mike?

Yes.

Special Delivery, we're very excited about that.

Yes, you could definitely see some different hands on the business, very -- maybe a contemporary look and feel.

We've got a great, young team on it that's kind of attuned -- in tune with the, I think, millennial mom and very well tested.

The technology is terrific.

It's a showcase of, I'd say, maybe an enhanced approach from us, which is a partnership globally from a technology perspective.

I mean it takes the best of what we've been doing in North America, China, Korea and Latin America.

And the team worked together to launch this product, and we're very excited about all the features it has, which is softness, skin protection, plant-based liner, a lot of free-froms that make it more attractive to the consumer and then obviously the standout designs.

Olivia?

Sorry.

I was on mute.

Just following up on Huggies Special Delivery, I know it's only been on shelf a short time, but any early color on retailer feedback so far?

And did pipeline fill help at all in the quarter?

Yes.

There's probably a little bit of pipeline.

It's still a relatively -- we're still relatively early, so I wouldn't say the pipeline was huge in the quarter.

But retailer response has been very, very positive.

I think they're very excited about, obviously, the look and the product quality, and so we've got big expectations for Special Delivery.

We're excited about it.

Our next question comes from Steve Powers with Deutsche Bank.

Just a quick follow-up on pulp.

Maria, we've heard from others the idea of expected deflation from where we are now in the near term followed by some level of tightening later in the year and into 2020.

Is that your expectation as well?

Or do you have an alternative view on where the underlying commodities trend?

I mean that would be consistent with what RISI is saying, Steve.

It's just a little too early for us to talk about 2020, but we see those same forecasts.

Okay.

So just to be clear, is it fair to assume that's sort of embedded in the planning process?

Yes.

Yes.

Okay.

All right.

Great.

And then I guess another follow-up on the reinvestments you're making above and beyond the incentive comp that you called out.

It sounds like for the year, it's mostly marketing with a bit more in people, processes and tools to further the ROIs you've been seeing and maybe counter some level of presumed competitive actions that the industry benefits from low cost.

But, Mike, in the past, we've also talked about Kimberly-Clark maybe being in a position to make some more assertive investments and assertive leading-edge investments in opportunity markets like India, going forward, just to position the company better for long-term growth.

How are you thinking about that?

And where do those types of initiatives rank in terms of the prioritization for future investment dollars?

Yes.

I mean great question, Steve.

And obviously, I think, as I mentioned earlier, I think what's changed over the past 6 months or so is the category conditions make investment, I think, more worthwhile or more productive, and we're seeing some of that across multiple markets.

Most of the current investment that we're talking about for the second half is going into digital and capability building around revenue growth management and sales execution, so those are the near-term focus areas.

But we do believe we have great opportunity to enhance our investment in categories, let's say, adult care globally, baby wipes and then in markets like India and so working through those as a team and think we've got a lot of good opportunities to invest in to accelerate growth.

Our next question comes from Steve Strycula with UBS.

Congrats on a good execution quarter.

Thanks, Steve.

So a few quick questions.

For Maria, I think I heard you say that your manufacturing expenses were going to be tracking a little bit higher than you expected versus the start of the year.

What's driving that?

I hadn't heard a lot of other companies really speak to that.

Sure.

There's a number of items that affect what we call other manufacturing costs, which are general expenses that hit us in our manufacturing operations.

They include things like fixed cost absorption, labor rate changes and inflation, product improvement, investments and other onetime types of impact such as write-offs or start-up costs associated with new equipment.

It's not unusual that this is an inflationary area for us, but it is running a bit higher than we expected when we came into the year.

Specifically for the second quarter, we saw increases across all of those levers.

We talked about our volumes being off a bit, which leads to fixed cost absorption impact with our labor rates, all the inflation that we're seeing, particularly out of Latin America, affects the cost there.

And then one area -- we just had the question on investment.

One area where we are investing is in product improvement, and we're investing there behind the innovations that we've been talking about.

And those increased investments in product quality and improvements and innovation flow through that line item, so that's what's going on there, and I'd point to the fixed cost under-absorption and the product investments as 2 of the drivers.

Okay.

And as a follow-up to that, if we think about the $150 million reduction to your initial inflation outlook, that's about $0.33 to earnings or 5 percentage points to EBIT dollars.

And it feels like you're flowing through about 1/3 of that to shareholders.

So is it, Mike, that we just -- this is a really good opportunity to address the wish list of things that you have that are actionable right now in the marketplace, including increasing bonuses and whatnot out there?

Or is this just conservatism as we think about the back half?

Yes.

I mean I think, by our math, we're somewhere between -- flowing through between 1/3 to 1/2.

But again, I think part of it is the market opportunity.

And we think if the conditions are good for us, then best of brands are responding, and it's going to be productive for the long-term health of the business and so that's why we're doing that.

Some of the comp stuff is more formulaic.

Last year, we were cutting comp.

And this year, it's just the math formula that it goes back up.

So -- but really, the focus for us is about brand reinvestment, both, as Maria said, in products in the digital or in the marketing spending and then in some of the capability build.

Yes.

And I think if you took compensation aside, it would look a bit more like 2/3 flowing through.

Okay.

And to close out, Mike, can you just walk us through a few of the key geographies as to what's happening on like a constant currency basis across Brazil, Argentina and China?

You touched on at a high level on a few of them but just give us a little bit more texture as to what's happening in those markets.

Yes.

Very solid growth.

I think in Brazil, double-digit growth overall.

Net selling price and mix were up in the teens.

Volume was about -- down slightly, I would say, almost even.

Overall, in Brazil, I think the market price has generally moved, although some local competitors have been lagging.

The better expected -- than expected volume performance really is related to great execution.

And when I say execution, it is the whole ball of wax, meaning it's the innovation, it's the marketing and then it's selling.

And all those things are working well for us.

In addition, I think in a market like Brazil or Latin America more broadly, we've got very developed plans to expand kind of the categories in adult care and wipes, and that's paying off this year.

Argentina, I guess I would say high double-digit organic growth.

The volume decline was in the, I think, mid-single-digit level, so you could -- again, you could chalk it up to the same thing, which is I think the consumer has kind of reset their expectations for price but also very strong in-market execution of the teams that kind of reduced the volume impact than you would have expected from that level of pricing.

So Latin America, very strong performance from a revenue perspective.

Central and Eastern Europe, up almost 20% or a little bit over 20%.

Very strong performance in Ukraine and CIS.

Russia continues to grow at a very good pace for us, although I will tell you our share is a little bit more under pressure there than we've experienced over the prior couple of years.

But the formula there is also the same thing as it will be a refrain: innovation, marketing and great in-market execution.

ASEAN, up double digits.

So we're feeling good about most of our D&E markets.

Our next question comes from Caroline Levy with Macquarie Capital.

I have kind of a fun one first, which is I was very surprised to see a black diaper package.

Are young families no longer doing blue and pink for their baby's bedrooms and stuff?

So if you could just talk about the logic behind black packaging?

Yes.

Carol, interesting, yes.

I was saying we've got some new hands on the business.

I think the team is attuned with kind of what millennial mom is looking for.

The black packaging kind of is striking off the shelf.

I will tell you we've gotten strong retail response to it.

It is the first black packaging in the category and for us in the diaper category.

Obviously, we've been black for a while in the femcare category.

So I think it's -- so far, early returns would say, even though it's too early to really say, but it's doing its job, which is it's striking its shelf, and it's got a great shelf impression.

And I would say, overall, a more contemporary look and feel, and I think we're trying to address millennial mom.

And so far, it seems like it's heading in the right direction.

Excellent.

So I wanted to just talk about birth rates.

I mean I remember maybe a year ago, you're talking about a shocking decline in South Korea.

We're reading about North America seeing birth rate declines, and yet you're able to put up some really good numbers despite that in some of your -- and certainly in North America.

What do you think is going on?

And how do you deal with that as a long-term trend?

Yes.

Still a decline, maybe a little less shocking than the numbers that you may recall.

South Korea, I think a couple of years ago, it was a low double-digit decline.

I think this year, it looks like maybe about a high single digit, so that's an improvement, but it's still down.

And the driver in South Korea is slower family formation.

I mean, in fact, marriages are still down.

So I think that's South Korea.

In North America, similar.

Birth rate has improved, but it's still down about -- in 2018, our estimate is about -- down about 2%.

And so I think in big developed markets, I think that's a trend that we have to deal with, and that's why you're seeing Huggies Special Delivery or some of the things we're trying to address.

The big thing about Special Delivery is it sells at a significant premium to all the other products in the category.

And the reason we feel good about that, and it's pretty well tested, it's got a lot of benefit that consumers are looking for.

And that falls in line with the strategy we're really driving, which is elevate the core, which is you got to -- in big developed markets, the way to grow them is to drive premiumization, but the only way to make premiumization work is if you make products worth more and worth paying that premium for.

And that's what we're trying to do.

Excellent.

And just retailer pushback, I mean, you've talked about the fact that you haven't seen competitor dynamics change around the price increases.

But I think there's quite a bit of fear that as retailers continue to try to compete with Amazon, they may come back to the manufacturers as costs come down and push back.

And can you just address that?

And versus history, are you seeing anything different?

I don't know that we're seeing anything different.

I think that's an ongoing issue, Caroline, in the industry, but it's also one that those of us who've been around for a long time have been dealing with for a long time, and so we're used to this dynamic and managing through it.

I will say, like most retailers that we deal with, they're mostly interested in driving growth.

And so while they may not like pricing in some categories or some retailers, they do like growth.

And so that's where we're focused on working with them and partnering on to find the right way to grow the category.

Got it.

And just my last one.

On K-C Professional, your West and Central Europe volume was down 8%.

Can you just talk to what's going on there?

Yes.

The biggest driver on KCP and I'd say another solid quarter for K-C Professional, organic overall was up 1%, and North America and developing and emerging markets were up 2%.

The -- I think the biggest thing is we're leading price with our leadership position in KCP generally.

Not all markets have followed, but we feel like this is the right move for us.

And we recognize there's a little stickiness competitively, and there's going to be some volume impacts.

So you think that's temporary?

Yes.

Well, we'll see if it's temporary, but it's something that we're prepared to kind of deal with as we work through the year.

Caroline, I think what I'd add to that is focused on the net of price mix than volume, especially in that market.

And if you do that across developed markets, we were down about 1%.

Our next question comes from Kevin Grundy with Jefferies.

Mike, congrats on a good result this quarter.

Not to beat a dead horse, but I wanted to ask the question on the reinvestment a little bit differently.

So the context, of course, company's results have not been what you've hoped over the past 3 years.

So far, so good, first half of this year.

But even, Mike, like as we look at the Nielsen data, market share trends, I suspect in the U.S., still not quite where you hope.

So the question is as you're working through the quarter and thinking about how the business is progressing, what the guidance is going to be with pulp prices rolling over, was there any thought to investing all of the upside to try to sustain the top line, which, arguably, is going to drive the most value for shareholders over time?

So the question is really around the adequacy of the reinvestment and how you were thinking about that because when we met with you early in the year, the thinking was you were not going to do any sort of earnings reset because you didn't necessarily see the innovation pipeline sort of justifying it.

So sorry for going on a bit, but it's really around the adequacy of the reinvestment, as you saw it, and balancing that with the earnings flow-through.

And then I had one follow-up.

Yes.

Kevin, I'm really glad you raised that.

That is one area we've got to really focus on.

And if there's one part of the quarter that we need to improve on is our share results, and we're a little bit behind what our expectations are.

Part of that is related toward meeting price or being first mover on price in a lot of our markets and categories, and so we were, in some ways, expecting some share impact due to that.

However, it's also a big reason why we wanted to drive this reinvestment here to shore up our share positions and make sure we're healthy for the long term.

I think we laid out on our K-C Strategy 2022 that we were going to deliver a balanced [diagration] plan, and we think that this is an example of that.

Okay.

All right.

Fair enough.

I can leave that, I guess.

But -- and then separately, you guys have, of course, seen tuck-in M&As sort of picked up a bit here in the HPC space, particularly with an emphasis on personal care, largely skin care.

Kimberly, of course, has not been very active on the M&A front in the past.

And, Mike, I think your commentary earlier was we probably should not expect much of a change.

I just want to kind of revisit that in the current environment.

Is that still the course we should really sort of expect investment behind the business and returning cash to shareholders?

Yes.

I don't think we would expect a significant change versus what we've told you earlier this year.

I mean we like our categories.

We still think there's a lot of growth potential in our categories, especially when you look at both our opportunity to elevate the categories and also to grow in D&E.

However, we're going to continue to look at opportunities, and we do that consistently.

We've got a -- it may not appear to be, but we've got a very active M&A and development team that is always looking at opportunities for us.

Mike, would you care to comment just on what specific areas and/or geographies?

Maybe I'll pass for now, Kevin.

Thank you.

At this time, we have no other questioners in the queue.

All right.

Well, we appreciate everyone's questions today, and thanks to the support from our shareholders, and we'll speak with you next quarter.

Thank you very much.

Bye-bye.

Thank you.

Ladies and gentlemen, that concludes this morning's presentation.

You may disconnect your phone lines, and thank you for joining us this morning.