Reynolds Consumer Products Inc (REYN) 2022 Q3 法說會逐字稿

Ladies and gentlemen, thank you for standing by, and welcome to the Reynolds Consumer Products Third Quarter 2022 Earnings Call. (Operator Instructions) Please be advised that today's call is being recorded.

I would now like to hand the conference over to your speaker today, Mark Swartzberg. Thank you. Please go ahead.

Good morning, and thank you for joining us for Reynolds Consumer Products Third Quarter 2022 Earnings Conference Call. On the call today are Lance Mitchell, President and Chief Executive Officer; and Michael Graham, Chief Financial Officer. For our agenda today, Lance will focus on market conditions and our fundamentals, and Michael will review our quarter and outlook. Then we will open it up for your questions.

During the course of this call, management may make forward-looking statements within the meaning of the federal securities laws. These statements are based on management's current expectations and involve risks and uncertainties that could cause actual results and outcomes to differ materially from those described in these forward-looking statements. Please refer to our annual report on Form 10-K and other reports filed from -- filed with the Securities and Exchange Commission and our press release issued this morning for a detailed discussion of the risks that could cause actual results to differ materially from those expressed or implied in any forward-looking statements made today.

Please note management's remarks today will focus on non-GAAP or adjusted financial measures. A reconciliation of GAAP measures to non-GAAP financial measures is available in the earnings release posted under the Investor Relations heading on our website at reynoldsconsumerproduct.com. We have also prepared a few presentation slides and additional supplemental financial information, which are posted on our website under the Investor Relations heading. This call is being webcast, and an archive of it will also be available on the website. While we would like to answer all of your questions during the question-and-answer session, in the interest of time, we ask you ask 1 question and a follow-up and rejoin the queue if you have additional questions.

And now I'd like to turn the call over to Lance Mitchell.

Thank you, Mark. We delivered another quarter in line with our earnings expectations in what continues to be a very dynamic environment. Third quarter highlights include the following: household foil and waste bag volume responded favorably to increased advertising, promotions and in-store features of displays. Reynolds and Hefty gained share in waste bags, household foil and disposable plates. Private label gained share in press to close food bags and disposable party cups, where we have a significant private label presence. We implemented previously announced pricing to offset additional cost increases. We accelerated revolution cost savings while also implementing new programs for savings. And as a result, we closed the gap between pricing and cost increases.

Our category leadership and agility drove these achievements while setting the stage for substantial margin expansion and profit growth in the fourth quarter and 2023. Before talking about performance drivers, I'd like to share a few thoughts about the economic environment and our market position. We assume increased elasticities going forward, which contributes to our fourth quarter revenue expectations now being at the low end of our previous range. That's obviously a headwind. But 1 of our strengths is our ability to adapt. And as I said, we are pleased with how consumption is responding to our pickup in promotions, advertising and in-store features and displays.

I think it's also worth remembering that our integrated brand and store brand model is a competitive advantage. Reynolds and Hefty represent a large share of our categories and our private label portfolio complements our brands in mobile categories.

Finally, as we enter the holiday season and develop our plans for next year, it's important to note that increased cooking and working at home have driven many of our categories to levels that are beyond those implied by the last 3 years of household formation. That's clear from our proprietary research, and it's validated by the scanner data.

According to IRI, equivalent volumes of waste bags, disposable party cups, parts for paper, bakeware and slow cooker liners have all grown in excess of 5% since 2019. And some of these categories are now more than 10% larger than they were prior to the pandemic.

Now let's turn to the main drivers of our performance, pricing, consumer demand, innovation and manufacturing and supply chain capabilities. In the area of pricing, recently announced increases in disposable tableware and waste bags have been implemented as planned in September and October, bringing annualized pricing to nearly $1 billion since mid-2020. We are reinvesting a portion of these increases in additional advertising and promotions and consumer demand for our categories and product portfolio is responding to our increases.

In household foil in June, we began increasing promotions, features and displays and are directed more advertising dollars to younger consumers. These measures have contributed to improving household foil trends, along with increases in Reynolds [rent] share of the foil category. We and our retail partners also increased promotions further in October and plan to continue similar promotions this holiday season.

In waste of food bags, Hefty share trends improved and a share of private label remains strong. In disposable tableware, we gained share and maintained a substantial discount to paper plates while also implementing the additional pricing on disposable places.

Third major contributor to our performance is innovation. In waste and storage, Hefty Fabuloso continued to grow strongly, nearing $110 million in annual retail sales for the quarter. We launched Hefty 4 and 8 gallon trash bags with gross string and the new ocean water set in the quarter. We introduced Hefty slider calendar bags, which allow for better recording of refrigerator or freezer storage time and Hefty made-to-fit trash bags in the e-comm channel. And we saw further consumer and retail adoption of standard bill private label food mix.

In cooking and baking, the Reynolds brand continue to benefit from innovation as Reynolds Wrap nonstick foil remains strong, Reynolds kitchen near fire liners and Reynolds Kitchens Butcher paper, helped to build Reynolds presence in certain adjacencies to household foil and other more established categories. And we achieved growth within our portfolio of sustainable products, including Hefty ECOSAVE, which grew strong double digits in the quarter and Hefty compostable printed paper plates. And additionally, we launched a new food bag made from 20% renewable plant and ocean materials.

The fourth driver is the performance of our manufacturing and supply chain. The recent manufacturing and operational performance in the Reynolds Cooking & Baking segment has fallen short of our standards and historical results. Unplanned downtime in 2 of our plants has resulted in incremental manufacturing costs and impacted our ability to adequately supply nonretail customers.

In response, we are implementing operational changes to improve reliability and efficiency. In addition, we have made changes to the cooking and baking organization with new members of management who possess extensive experience in operations and demonstrated business leadership.

In terms of service, we have produced substantial improvements across Reynolds Consumer Products, reflecting attainment of target staffing levels and increased stability across our supply chain.

Now before I pass the call to Michael, I'd like to leave you with the following: the economic environment remains dynamic. Inflationary pressures continue and price elasticity continues to be uncertain. However, we are giving shoppers the trusted performance and additional value they seek in these uncertain times.

And in terms of business performance, the gap between our pricing and cost increases is closed, and we're positioned for margin expansion and earnings growth in the fourth quarter in 2023. That implies not only a return to earnings growth, but also increased flexibility to invest in our categories and drive future innovation and consumption. I'm extremely proud of the RCP team and believe that we are well positioned to benefit from the actions we have taken over the last 2 years.

With that, over to you, Michael.

Thanks, Lance, and good morning, everyone. I'll start with a review of our third quarter results, then turn to our outlook and why we are well positioned for margin expansion and earnings growth in the fourth quarter and in 2023.

Net revenues in the third quarter were $967 million, an increase of 7% over third quarter net revenues of $905 million in 2021, driven by price increases, partially offset by a decline in volume. Adjusted EBITDA for the quarter was $116 million, down 12% versus last year's third quarter of $132 million, driven by lower volume and higher SG&A as price increases fully offset increases in material, manufacturing and logistics costs. Adjusted earnings per share for the quarter was $0.24.

Turning to our segment performance. Details are in our press release and in our 10-Q. However, I do want to cover a few key highlights. Pricing was up 14%, driven by increases across our entire portfolio, offsetting all material, manufacturing and logistic cost increases. This increase was partially offset by a 7% decline in volume, reflecting a 7% increase in Hefty tableware volume, more than offset by a 14% volume decline in Reynolds cooking and baking and high single-digit decline for each of Hefty Waste & Storage and Presto.

When we reported our second quarter results, we shared our expectation of low to mid-single-digit volume decline in the third quarter. This largely played out as anticipated with the exception being nonretail sales that were impacted by unplanned downtime in the Reynolds Cooking & Baking segment and, to a lesser extent, increases in waste bag elasticities.

So let's unpack the volume performance for the third quarter compared to prior year period. Reynolds cooking and baking volume decline of 14% was primarily driven by lower nonretail sales, which included reroll, related party sales and last year's onetime sales excess raw material. In addition, lower household oil shipments represented 3 points of this decline. Volume declined 9% in Hefty Waste & Storage driven by elasticity and increased consumer activity outside of the home.

Innovation was a key driver of Hefty's outperformance of the waste bag category. Presto volume declined 8%, also driven by a lower waste and food bag usage, partially offset by increased private label share of Presto close school bags. Hefty Tableware performance was strong, with volume up 7% in the quarter, driven by continued growth within the club channel and share gains for Hefty disposable plates and private label plastic party cups across channels.

Now before I go into our outlook, I would like to talk a little more about the performance we're seeing in Cooking & Baking. There are 3 key factors impacting the near-term profitability in this business: unplanned equipment downtime; driving higher manufacturing costs; and lower production volume. This lower production volume is impacting our ability to fulfill nonretail demand. In addition, as a result, we are experiencing a negative impact in terms of when lower-cost metal flows through to our P&L. As Lance discussed, we are implementing operational changes to improve reliability and efficiency in our cooking and baking operations.

Now turning to our outlook. We now expect revenue growth of approximately 8% for the year, along with gross profit in the low $800 million range. Adjusted EBITDA in the range of $560 million to $575 million and adjusted EPS of $1.30 to $1.36 per share. Our updated guidance reflects reduced expectations for the comparatively low margin reroll and related party sales as well as a pickup in elasticities in portions of our business. We also assume rates for key commodities are stable by comparison to the end of October levels.

Other key assumptions for the year include depreciation and amortization of approximately $120 million; interest expense of approximately $75 million versus an estimated $70 million previously driven by increasing market rates and an effective tax rate of 25% and capital spending of approximately $135 million to $140 million.

In terms of the fourth quarter, additional elasticity in portions of our business changes our volume expectations to decline in the low to mid-single digits. We are on track for margin expansion and earnings growth in the fourth quarter driven by further recovery of cost increases as new pricing in flows through and cost increases moderate. We also expect SG&A to increase driven by advertising, investment in operational improvements and compensation-related comparisons.

Now before I turn the call back over to Mark and your questions, I want to leave you with a few thoughts on cash flow. Just as we are committed to returning to pre-pandemic profitability, we're equally focused on improving balance sheet efficiency and maintaining capital spending discipline to drive additional cash flow. We expect this to commence in the fourth quarter as we unwind from our normal seasonal peak in working capital, earnings growth and commodity cost pressures ease.

In terms of capital allocation, our priorities are unchanged, and we intend to return to debt paydown in 2023. In closing, while we continue to manage through a very challenging environment. I'm encouraged by the actions we've taken as well as the implications for our future results.

With that, I'll turn the call back over to you, Mark. Thank you.

Thanks, Michael. As I turn it over to the operator for your questions, I'd like to remind you that you ask 1 question and a follow-up and then rejoin the queue if you have additional questions. Operator?

(Operator Instructions) Our first question comes from Bill Chappell with Truist Securities.

I just wanted to follow up on the cooking and baking profitability issue. I appreciate the comments. But I guess -- would a leadership change maybe implies there's a little bit bigger or longer-lasting issues. So maybe any color around that of when you think things can get back to where you want them to be and how long it would take?

Yes. So as Lance stated in his remarks, the recent manufacturing operational performance of Reynolds and cooking and baking is falling short of our standard and our historical results. So we've had demonstrated capabilities as proven in the past. In terms of what's driving that, as I said in my remarks, it's unplanned equipment downtime and this is driving higher manufacturing costs and lower production volume. That's impacting our ability to fulfill nonretail demand, it's also slowing down a flow-through of our lower cost metal, which has a significant impact to our Q4.

While most of these issues are temporary in nature, we are implementing operational changes to address them all, and Lance kind of spoke to that. So we do see this as being a temporary challenge that we're working through. We -- as it relates to the change with leadership, obviously, we brought in a person with significantly greater operational experience to help us manage through this.

Got it. And then just as a follow-up, and you might have talked about this before, but when you comment about returning to kind of pre-pandemic profitability levels in '23, is that -- I know you're not giving guidance, but is that for 2023 or within -- or during 2023, you'll reach that on kind of a run rate?

So it is within 2023 is where we're talking about returning back to prepaid profitability.

Got you. Should be a run rate as we move through the year.

Yes.

Question comes from Mark Astrachan with Stifel.

I guess 2 questions for me. One, if you could just give maybe a bit of background on what happened from a sales perspective relative to early September and your updated thoughts at that point relative to where results came in, kind of what progressed through September? And is that sort of directionally what we're hearing from an elasticity standpoint implied in the fourth quarter commentary.

And then, the main question is what drove the increase in promotion and price gaps in waste bags? And are you happy with where you are as volumes worsened in the quarter and maybe give some expectations on where we go from here?

Thank you, Mark. September volume across our products and segments came in line with our forecast and our expectations. So there was really no difference from what we talked about at the Barclays conference relative to the September results. We have, from a category standpoint in waste bags, we implemented a Hefty waste bag price increase in September.

And the promotions we have added are off of a small base and they're focused on quality, features and displays like end caps, not just price points. The category itself is 7% larger than it was in 2019 year-to-date, but elasticity and reopening are driving some category declines versus year ago levels. So our strategy remains as to what it's been for many years, support the category and our retail partners with a strong portfolio of branded and private label products and drive Hefty as a brand offering with the best combination of value.

That's benefited the category, and our portfolio is -- and requires continued adjustments to be successful. Hefty is outperforming the category. The last 4 weeks ending October 30, and the scan EQ, the category is down 8.5, while Hefty is down 3.8. And for the last 12, it's similar. The category is down 7.5 and Hefty is down 3. And we're looking at EQ performance because looking at dollars in the category is really blurred by the price increases.

Our next question is from Rob Ottenstein with Evercore ISI.

Two questions, please. One, in the shorter term on results, just maybe a little bit more detail and thoughts on the trend in improvement on the foils, and then a little bit kind of forward looking. Can you give us just some way to think about the potential benefit to your business with a more constrained consumer who may be thinking about trying to save money by eating more at home and less at restaurants. And how that's likely to play into your business?

Yes, I think both of those questions can really be answered in terms of what's happening with the foil category and what we're seeing from the promotional activity that we've taken. The pandemic has benefited cooking and baking behavior and consumers. People are in the kitchen more, and we did a proprietary survey that they're cooking more often, the younger consumers have come into the category and stayed in the category. And recently, because of the higher cost of eating out, they're coming back and eating in the home more frequently than they were earlier in the year.

Our category and our brands are responding to advertising promotion as we talked about in the prepared remarks. Now on the challenge side, we do see that the consumers are not leaving the category, but versus during the pandemic, the daily usage has dropped moderately. And there are some other options in the kitchen, which is an opportunity as well as a challenge. They've got other options for creating a meal appliances other than a stove or grill was include air fryers and instant pods and slow cookers, for example.

So overall, we're very pleased with how the promotions have responded. And as we head into the holiday season, we've really got a lot of promotions in place and got the price points in place for the category.

Our next question is from Andrea Teixeira with JPMorgan.

So my question is regarding your comment about the 7% increase in -- from 2019 through the pandemic, especially for trash bags. And then I think for cooking, baking, side some categories, I'm assuring Cooking & Baking was above 10%. Is that a volume consideration? And if so, from a total outstanding from the consumer standpoint, like are you assuming, again, it has been bigger price elasticity. And on top of that, you had these service issues. Is there any indication that this is going to be abating into the first quarter of next year. And if not, what is the scenario that would lead you to for -- that margin inflection you're assuming some volume recovery into 2023? In other words, what we need to see in order for you to get the margin accretion. Is that the pricing continue sticking or the $525 million in inflation abating? What needs to happen in order to get there?

Let's talk about what's happening in each of the categories versus 2019 and as we've gone through the pandemic and we're now in 2022. First, I'll just add to some of the comments I made about the foil category and answering Bill's question. There are several things that are driving the growth in the foil category. People are cooking more now than they were in 2019. Foil and parted usage continues to be higher than pre-pandemic levels, and 78% of consumers are eating at home more in response to inflation, as I mentioned a moment ago.

Importantly, we've achieved key price points for Reynolds Wrap. We've stepped up promotions have gotten below the $5 price point and have gotten that across the other product lines as well. And private label gaps in the category returning to historical levels when Reynolds Wrap is on promotion. So we've achieved those price points. We've introduced additional promotions in grocery, club and dollar channels in October, and our retail partners plan additional promotions leading into Thanksgiving and Christmas.

So Reynolds Wrap is responding better than the category as a result. In EQ, as I mentioned, across all of our categories, we're evaluating EQ performance versus dollar performance and Reynolds Wrap EQ was up 4.5% versus the same period in 2019. So that's the last 12 weeks ended October 30.

Turning to waste bags, the stay at home more frequently trend and working more frequently from home has left waste bags healthier than it was prior to the pandemic. The category is strong versus 2018. It's up 7% year-to-date, as I mentioned, reflecting consumers spending more time at home.

Food bag consumption on the other hand is moderately down versus 2019, and that's primarily driven by elasticity. So as the playbook that we've been using for foil and waste bags, we're going to be doing the same in food bags to get the price points correct.

In disposable tableware, plastic party cups were up 9% versus 2019 levels, driven by increased everyday use at home. Now disposable foam dishes are down versus 2019, but that's completely driven by supply constraints. We are selling as much foam dishes as we have supply. And our brand year-to-date is actually up 5%.

We see the use of disposable tableware has been steady this year across the category and heading into the holiday season. This may continue to be a key theme of driving consumer behavior, desire for convenience as well as keeping tours to a minimum as well as holiday gatherings is factored into our forecast for the quarter. But we are seeing elasticity pick up as we took a significant price increase in October in the tableware business and we'll be watching that closely.

That's helpful. And on the margin front, what needs to happen in terms of like price elasticity and inflation, cost inflation into 2023, going back to Bill's question.

Yes. As we said in our prepared remarks, we've closed the gap. And we've closed the gap primarily through our pricing actions and the tableware was the significant 1 as well as waste bags that we took that led into Q4. So with that, with the easing of commodities, we will have a margin that as we go into 2023 and Q4 as well will be improved and back to more normalized levels.

Okay. That's super helpful. And Michael, I'll pass it on.

(Operator Instructions) Our next question comes from Lauren Lieberman with Barclays.

Great. Lance, your prepared remarks and the comments you've just gone through on category demand and the competitive dynamics all very, very constructive. And so I wanted to just sort of bullet down and see that to ask if the operational challenges you've got in the cooking and baking segment, if that's really what you would attribute fourth quarter looking a little bit softer than prior expectations what that's really attributable to? And I know you said it's short term, you're making changes. But how should we think about that? Does that lead into '23 at all? Or is it kind of a second half of '22 and then you think things should be back to normal from that nonretail in manufacturing side of things?

I'll answer that one, and we can add to it, Michael, if you'd like. The driver of Q4 EBITDA guide being lower is volume. It's $7 million to $8 million at the midpoint. The lower volume is primarily non-retail. And as we mentioned, the specific products in our prepared remarks, what non-retail is and some increased elasticities versus what we saw in Q3. So it's driven primarily by an elasticity look at our volume in Q4 versus where we were in Q3, what we guided. The increased manufacturing costs are short term and offset by revolution and SG&A enabled reductions.

Okay. All right. That's great. So as I look into '23, you guys had previously spoken to mid-900s for gross profit dollars and that really being kind of the math on pre-pandemic profitability with an assumption on volume. I'm guessing now with elasticity being a bit more significant than what you previously expected, we should anchor to something a bit lower when we think about that gross profit level for '23?

Yes. I think that's correct. But mid-900s are still in the ballpark. And clearly, elasticities are greater than we anticipated and reported in Q2. We did kind of give an indication to that, that was a watch out. So that is overall concern. So I think the -- while in the ballpark, I would say that it is a bit lower than we were originally thinking.

Okay. All right. That's great. Yes, go ahead, sorry.

We're working to identify additional revolution savings to mitigate, and we'll obviously be more specific when we report in February.

Okay. That's great. The -- on elasticity, I guess, what is historically -- and I know for a lot of categories, the historic models don't -- aren't even relevant because pricing has gone so far beyond what's been the case historically. So would you characterize that as kind of what's been the case for your elasticity models? Is it something about the kind of cross elasticity of overall inflation that's making it a bit worse? And we're kind of on like a one-for-one type dynamic now is what you're forecasting or something still a bit less than that?

Our categories have been moderately elastic historically with a defined range of 1% to 1.5% negative. Part may be the exception. When price thresholds are crossed, that's more significant in our categories than the actual price gaps. And so that's why we're watching those price thresholds and adjusting accordingly and having success in doing so across most of our categories today. Our categories are defined as staples, need given categories and react to price change accordingly within this moderately elastic range.

Okay. That's great. I'll pass it on.

Our next question comes from Jason English with Goldman Sachs.

So lots of comments today about how volume in your categories is still elevated. I think you mentioned that daily use for core categories is drifting off the highs, but still well above where we were Presto pre-COVID. Lance, Michael, as you guys think forward, how much -- what's the cadence pace and magnitude that you expect that to online as we go through next year?

We have not completed our plan for 2023. And we're going through that process now. It would be premature for us to be able to comment on what our outlook is for 2023 from a volume and elasticity standpoint. We certainly want to see how things develop in Q4 as we've gotten some price points in place, and we're entering our holiday season, which is significant for several of our categories. Once we get through that, we'll have a much better [Reynold] 2023 and the outlook for volume in that year.

Is it fair to say that, that mid-900 guidance out there for gross profit assumes that not all this volume sticks?

As Michael said, I think it's still in that neighborhood, but elasticity is greater than when we reported in Q2. And so we've got to work through that before we're able to update the mid-900s.

Okay. All right. I'll stay tuned.

We have reached the end of our question-and-answer session. I would now like to turn the floor back over to Lance Mitchell for concluding comments.

Thank you for your questions, and we appreciate your time this morning. I think our business is well positioned for any economic environment, and we anticipate earnings growth in the fourth quarter and in 2023. And I also want to thank all of our employees and our retail partners. They've been dedicated and contributing during these really challenging and dynamic times. Thank you, everyone.

This -- the conference has now ended. This concludes today's conference. Thank you for your participation. You may disconnect your lines at this time.