Reynolds Consumer Products Inc (REYN) 2020 Q1 法說會逐字稿

Ladies and gentlemen, thank you for standing by, and welcome to the Reynolds Consumer Products' First Quarter 2020 Earnings Conference Call. (Operator Instructions) Please be advised that today's call is being recorded. (Operator Instructions)

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

Thank you, and good morning. Thank you for joining us on Reynolds Consumer Products' First Quarter 2020 Earnings Conference Call. On the call today are Lance Mitchell, President and Chief Executive Officer; and Michael Graham, Chief Financial Officer. Nathan Lowe, Senior Finance Director; and Chris Mayrhofer, Vice President, Corporate Controller and Principal Accounting Officer, will also be available for Q&A.

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 differ materially from actual events and those described in these forward-looking statements. Please refer to Reynolds Consumer Products annual report on Form 10-K and other reports filed from time to time with the Securities and Exchange Commission and its 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 results to non-GAAP financial measures is available in the earnings release.

The company has also prepared a few presentation slides and additional supplemental financial information, which are posted on Reynolds' website under the Investor Relations heading. This call is being webcast, and an archive of it will also be available on the website.

I'd also like to note that we are conducting our call today from our respective remote locations. As such, there may be brief delays, cross talk or other minor technical issues during this call. We thank you in advance for your patience and understanding. (Operator Instructions)

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

Thank you, Mark. We're pleased and excited to have you join the Reynolds team, and good morning, everyone. Today, I'd like to start by extending my deepest gratitude to all of our employees who have worked incredibly hard to keep Reynolds Consumer Products running throughout the COVID-19 pandemic. More than ever, I am proud to work alongside the people who make up this organization. Our #1 priority has always been to keep our employees safe. And this has been and continues to be the foundation of all the decisions we make. The highest measures of safety are enforced as we work to serve the many families relying upon our products in these challenging and unprecedented times. My deepest condolences and thoughts go out to those who are affected by the coronavirus and their loved ones. I'd also like to extend my sincere gratitude to medical staff and frontline workers, including those in essential businesses like ours, who are working tirelessly to save lives and support the economy.

Reynolds plays an important role for families. And now, more than ever, they are living their lives at home. Prioritizing the safety of our employees and simultaneously making our products accessible for families in the current environment has been a company-wide challenge. I commend our entire team for working hard to make both of these goals attainable.

I would now like to take a moment to discuss what we have done from an operational standpoint in response to the virus. We've implemented rigorous deep cleaning processes in all of our facilities. Processes have been changed to enable physical distancing. Our safety and operations teams have analyzed and reduced potential touch points where possible, including door handles, time clocks and more. We're providing protective gear to all of our employees. And we've implemented frequent handwashing and sanitizing protocols as well as making temperature checks. In the event that employees have experienced COVID-19 symptoms, we are providing up to 14 days of paid sick leave, including for those who are self-isolating as a result of being in close contact with a COVID-19 patient.

Our hourly absentee policies have been amended to accommodate health care, childcare and other family needs, and we are covering all COVID-19 testing fees as well as waiving copays for telemedicine health care visits. All of our employees, who are able to do so, have shifted to working remotely, and we continue to provide support for them during the transition. Our employee assistance program has a wide variety of resources to help our employees and their families navigate the changes that they are experiencing as a result of COVID-19, including new work environment, handling uncertainty, dealing with stress and anxiety, grieving, financial concerns and more. Use of the program is entirely confidential, but some of our employees who have attended the real-time webinars say that they have found the program to be helpful during this difficult time. Our cross-functional task force continues to proactively respond to the changing environment on a daily basis and assess risk levels, lead communications and recommend policy changes.

As local state and federal recommendations continue to evolve, we're implementing any new safety measure that is not already in place. We are fortunate that the products produced at our facilities are considered essential in supporting people eating in their homes and keeping their homes sanitary and that our 5,000 employees are able to keep their jobs and paychecks. It is important that we are doing what we can to give back to our local communities who support us. We've donated trash bags to government task forces and hospitals to safely dispose of PPE in key communities. We had a limited number of N95 respirator masks located in our Louisville Reynolds Wrap plants, the type that are in short supply for health care providers. We elected to donate them to first responders in the community. The masks are being used by paramedic s who transport suspected COVID-19 patients.

To help COVID-19 relief, we're working with other companies to investigate ways to use our manufacturing assets to produce products for frontline medical personnel. There are several projects that look to supplement disposable components used with PPE respirators to seal out contaminants. These are temporary stopgap measures to help where we can while there are shortages, and we're glad to be able to donate material and expertise that could make a difference. These collaborations not only help provide needed components for PPE, they also provide real-time learning and rapid prototyping and innovation.

One of the things I'm especially proud to share is that 3 weeks ago, we fully transitioned to an independent SAP system, known internally as project SAPPHIRE. An ERP system migration is challenging under any circumstance. In addition to consisting of multiple technical solutions, considerable testing and training must occur across all functional areas to reduce operational risk. When COVID-19 emerged, we looked at all options, including delaying the project. We determined that the project was ready and that any delay would create more risk, not less. In order to put safety first, the team quickly retooled the original plan to be delivered entirely remotely. Delivering an ERP system remotely is a first for all of us. It's also a credit to careful planning that we were able to successfully implement this project remotely. Our strong customer relationships have also been essential to managing the complexity arising from the implementation of that system hand in hand with substantial pickup in consumer demand.

I'd also like to share what we have been seeing in terms of consumer behavior. Our categories experienced an increase in both purchase and usage in March and April, driven mainly by COVID shelter-in-place requirements as well as the Easter and Passover holidays. The purchase behavior was seen with increases in dollar sales across all channels and elevated in-home usage is tracked via our custom Harris Poll. The poll highlights that well over half of consumers are cleaning, cooking, baking, doing yard work and organizing more often than compared to 3 months ago and that about 2/3 predict they will maintain this higher level of engagement. 80% of consumers indicate they are cooking more meals, and the majority say they are generating more trash and using disposable tableware to ease the burden of cleaning dishes. People are increasing their use of our products because they are at home more than usual and engaging in activities where our product categories play a role.

E-commerce is also a focus. Our products are shelf-stable, and most are cost-effective to ship directly to consumers, which makes us well positioned for growth in online demand. Approximately 30% of shoppers in our categories say they are buying online for the first time in the past 3 months, with the majority of this group saying they'll continue to buy online. That translates into a sizable pickup in our online sales growth, details of which we hope to share after thoroughly evaluating trends in non-track channels.

In any case, as we told you in March, our logistics infrastructure is designed to accommodate increases in e-commerce-related sales.

Since the start of the surge in consumer demand we experienced in March, I've seen employees across various departments and regions at Reynolds come together to address the challenge of beating the sharpest demand increase we've seen in our history. Because of their hard work and ability to adapt quickly, our shipments for the quarter were strong. Although we currently do not have the capacity to maintain the same level of supply going forward, we are adamant in finding profitable ways to increase capacity.

As I've mentioned before, our competitive advantage is our broad portfolio of branded and store-branded products. In comparison to our competitors, who only focus on one or 2 products in the category, we are a one-stop shop for waste, food storage, cooking and tableware products. Because we make it easier for retailers and align with their strategies, we enjoy long-term partnerships with retail senior leadership for joint business planning. We have deep consumer insights across the aisle and the ability to offer the retailer support if they choose to expand their categories. No one else in the household products aisle approaches the retailer the way that we do.

While we're making adjustments to individual tactics over the course of time, our core strategy and values remain. We continue to make progress on each of our 5 focus strategies for 2020: one, putting safety first because families are the priority; two, transforming our business and creating a stand-alone company; three, creating products that people love; four, achieving world-class service and champion in our categories; and five, creating a culture in which we listen, learn, evolve and excel.

As a consumer staples business, we believe that we are well positioned in the categories in which we participate. Going forward, we continue to serve as category advisers to our customers, drive growth through new and innovative products and drive shareholder returns through balanced capital allocation. Because of our resilience to economic cycles, strong brand awareness and loyalties from families across United States and suitability for e-commerce, Reynolds Consumer Products is well positioned for continued attractive growth in 2020 and beyond.

I'll now turn it over to Mike who will discuss our result for the quarter and our outlook.

Thanks, Lance, and good morning, everyone. I'd like to echo Lance's comments in thanking our employees who have just done a tremendous job in navigating our company through the implications of this pandemic. It is this level of commitment that elevates the pride that I have in being on the Reynolds Consumer Products team. With this said, I will now spend a few minutes reviewing our financial results for the quarter.

Total net revenues in the first quarter of 2020 was $730 million compared to $665 million in the prior year. We performed ahead of our expectations in January and February followed by a significant benefit from COVID-19-related demand in March. Additionally, volume was lower in the first quarter of 2019 due to the unusually high demand in the fourth quarter of 2018. This increase was partially offset by the exit of certain low-margin store-branded business in the prior year as well as lower pricing.

Net income for the first quarter of 2020 was $26 million compared to $17 million in the first quarter of last year, and adjusted net income was $63 million for the first quarter of 2020. The increase in net income was primarily driven due to strong volume previously mentioned and lower interest expense, reflecting the capital structure that went into effect with our IPO. These were partially offset by onetime tax expense associated with the legislation change from the CARES Act and IPO transaction-related costs, both of which have been excluded from the computation of our adjusted net income in the first quarter of 2020.

Adjusted EPS for the quarter was $0.30 per share. Adjusted EBITDA was $135 million in the first quarter of 2020 compared to $110 million in the prior year. The increase was primarily due to increased volume and lower material and manufacturing costs.

Now I will discuss the results of our segments. For Reynolds Cooking & Baking, net revenue in the first quarter was $243 million compared to $213 million in the same period of last year. This increase was primarily driven by increased consumer demand associated with the COVID-19 pandemic. In addition, lower volume in the first quarter of 2019 was due to an unusually high demand in the fourth quarter of 2018. Lower pricing as a result of lower material costs and increased trade promotions partially offset the volume increases. EBITDA -- adjusted EBITDA in the quarter was $40 million compared to a prior year of $18 million as the impact of higher volume, along with lower material and manufacturing costs. This was partially offset by the impact of lower price.

For Hefty Waste & Storage, net revenues in the first quarter were $192 million compared to the $165 million in the prior year. The increase was primarily driven by COVID-19-related demand as well as growth with existing customers, driven by increased marketing investments and unusually soft -- and the unusually soft quarter for 2019. Adjusted EBITDA in the quarter was $55 million compared to $39 million in the prior year, primarily driven by the higher sales as well as lower material and manufacturing costs.

Now moving on to Hefty Tableware. Net revenues for the segment were $178 million compared to $164 million in the prior year. The increase was largely driven by COVID-19-related demand, which was partially offset by increased trade promotion spend. Adjusted EBITDA was flat compared to prior year at $35 million as the favorable impact of increased volume was offset by unfavorable product mix and increased trade promotion spend.

Finally, the Presto Products segment had net revenues that were flat compared to prior year at $127 million. The increase in demand because of COVID-19 was offset by the impact of exit -- of the exit of certain low-margin store-branded business during the 2019 period. Adjusted EBITDA in the first quarter was $23 million compared to $20 million in the prior year, primarily driven by lower material and manufacturing costs.

I will now take a moment to focus on the impact of the CARES Act to our financials. On March 27, 2020, the CARES Act was enacted in response to the COVID-19 pandemic. The various tax law changes under the act included increasing the limitation for additional expensing of interest for 2019 and 2020. We expect that the deferred tax asset for the carryforward allocable to the Reynolds from the RGHL Group upon its IPO will be less. As such, we recorded a discrete income tax expense of $23 million attributable to the write-down of deferred tax asset in connection with the tax law change.

Now moving to our capital structure. As of March 31, 2020, we had a cash balance of $200 million and total debt outstanding of $2.45 billion. Adjusted net cash from operations was $19 million for the quarter compared to adjusted net cash used in operations of $1 million for the prior year. CapEx was $23 million for the quarter compared to $15 million for the prior year.

I would now like to comment on our guidance for the fiscal year ending December 31, 2020. We expect adjusted EBITDA to be in the range of $695 million to $715 million, adjusted net income to be in the range of $388 million to $403 million, adjusted earnings per share to be in the range of $1.85 to $1.92 per share, net debt to be in the range of $1.9 billion to $2.1 billion. This is a positive revision to our guidance we communicated in March and provided in the context of our business facing a high degree of uncertainty going forward. It reflects January and February's performance ahead of our expectations and the sizable benefit we saw from COVID-19-related demand in March, and no change to our adjusted EBITDA expectations for the rest of the year. It also reflects changes to assumptions behind the performance we expect for the rest of the year, including what we know about April.

Demand remains elevated due, primarily, to the pandemic, but its magnitude and duration remains uncertain. As a result, the greatest challenge we face is our ability to maintain the level of supply needed to keep up with this increased demand. We are adding necessary capacity as quickly as possible through staffing and capital investments to accommodate the increased demand. Our guidance assumes our ability to execute on these additions. We are incorporating a reduction in expected demand for the tableware products, which typically benefit from the nationwide family gatherings, such as Memorial Day and 4th of July, and higher operational costs arising from safety and the COVID-related measures. We've reduced estimated interest expense to reflect our lower interest rate environment. And finally, it's important to note that we assume no significant disruption to operations, supply chain or retail partners for the remainder of 2020.

As we undertake capacity additions and make other decisions with consequences beyond 2020, we maintain a healthy degree of prudence in doing so. Time will tell how much of this pandemic produces in the way of sustained changes in our at-home consumption. At this juncture, we expect the COVID-19-related volume increases we are experiencing in 2020 to challenge our ability to show a year-over-year improvement in the adjusted EBITDA in 2021.

Therefore, we encourage those of you keeping models beyond 2020 to factor our caution into your estimates. As we look ahead, we believe that our business model is well positioned to drive attractive returns in the long term. Our expectations and focus areas to ensure that this happens are: average annual volume growth in the low single digits, continued investment to support margin expansion, adjusted EBITDA growth of low to mid-single digits, mid-single-digit net income growth annually as we deleverage and a dividend payout ratio of approximately 50% of net income.

With that, I'll turn it back to Mark.

Thanks, Michael. (Operator Instructions) With that, over to you, operator.

(Operator Instructions) Your first question comes from the line of Andrea Teixeira from JPMorgan.

So my question is on top line. Can you please discuss what do your consumer panels indicate for consumption and your April shipments? So you mentioned demand remains elevated. And from your news imprint, it seems that retail shelves are depleted. So I believe you also had some distribution gains in trash bags throughout the balance of the year. So in the promotions in the quarter, you may not be able to -- have been able to cut those. But how do you expect that to evolve for the balance of the year given that there is limited price elasticity at this point? And how should we be thinking of promotions to the balance?

And just a clarification on the business. I think Michael had just reiterated the 50% payout formula. Is that -- like with the raising EPS, is that an indication that we might see higher dividends already in this fiscal year? Or we should be thinking of that happening potentially for the following years?

Thank you, Andrea. Regarding the April shipments, as you might expect, the longer shelter and home restrictions in place, the longer we expect to see demand at elevated levels. That said, we really prefer not to comment on specific months or periods that haven't been reported. But I can confirm that our latest view for April and beyond has been factored into our guidance update. And of course, the Nielsen reports in track channels, I think, are also very indicative of the kind of takeaway that we're seeing as well as the increase in points of distribution. Our challenge in most of our products is not demand. It's supply. As Michael indicated in his remarks, adding capacity is what we're focused on, both for staffing and capital investments, but those will not happen immediately. And we shipped more in Q1 than we had the capacity to be able to continue.

Regarding the dividend, we don't expect any change to the dividend policy and the amount going forward. But certainly, if that changes, we will change that in our guidance.

That's helpful. And then in the promotional environment, can you comment a little bit on how you're seeing for the balance of the year?

Sure. Trade investments like it is for everybody in the category is a mix of both EDLP support, annual incentives and traditional high-low promotions. For the last 4 weeks, trade has been down in all of the categories, primarily driven by retailers canceling events. But going forward, due to strong demand for our products, and in some cases, to manage continuity of supply until we're able to add more capacity, which is particularly true in waste bags, we anticipate ongoing lower traditional trade spending. Now that doesn't mean that we're making any changes to our pricing strategy. The trade dollars will likely shift to EDLP or annual incentives. However, we don't anticipate either a decrease or increase in total dollar trade investment from our current levels.

Your next question comes from the line of Kaumil Gajrawala with Crédit Suisse.

I will stick to the one-question rule, and -- which is the primary question I've been getting from the morning is the delivery of the -- what's much higher-than-expected top line down to EBITDA. And you did highlight that there are significant amount of additional cost as well as some increased trade spend and such. Can you maybe talk a little bit about are those costs -- or some of those costs perhaps temporary at the moment? Because obviously, this was an unanticipated spike in top line and perhaps they can fade over the course of the year where the leverage from the top line to the bottom line will look a bit different as we go through the course of the year. Or is there -- are these more permanent changes where, at this rate of growth, given the stress on the system, we shouldn't really expect the fixed cost leverage to flow through?

Sure. I think what you're referring to is our gross margin. I think, first of all, I'd say that you need to adjust the gross margin for a $4 million unrealized hedge loss in Q1, and when you do that, our gross margin would be in line with what we'd expected. Beyond what we -- beyond that, we saw the impact of lower costs, which was offset by lower pricing and some operating costs related to COVID-19. Those operating costs in COVID-19 really were only in for a couple of weeks in March, and those will continue forward. We're doing things, for example, like shutting down production lines in between shift changes and cleaning them. So that -- and we have individuals working more overtime. So a combination of all those events with the cleaning costs and the -- keeping the physical distancing throughout our plants is adding cost to our manufacturing operations.

In addition, we're seeing higher logistics costs. And I don't mean transportation costs, I'm referring to warehousing and managing of our logistics organization.

Your next question comes from the line of Mark Astrachan with Stifel.

I just wanted to ask a bit about gross margin. So how should we be thinking about flow-through from what's now materially lower input costs, whether it's aluminum now or presumably in the future, resin? And maybe just also update us on just timing and how to think about the flow-through from the resin piece. And so how does the input cost piece affect gross margins? I assume it's more back-half weighted. So maybe if you could talk a bit about that. And then magnitude of the cost that Kaumil was just referring to, how do we think about that as an offset?

Thank you, Mark. I'm going to turn that question over to Nathan Lowe. He has run a lot of our financial analysis and really built the models as we've looked at our forward projections. And he has a command of the details that I think will be more insightful than the top line I just provided. Nathan?

Yes. Thank you, Lance. Thanks. So probably worthwhile unpacking the Q1 part of that question first. So just adding on to what Lance said about the $4 million unrealized hedge loss, important to note, that was an $11 million unfavorable swing year-over-year.

Now going a little deeper into our commodities, we have seen recent decreases in most of our key commodities year-over-year. But in the case of our main resin, which is polyethylene, it closed down in April following elevated pricing in the first quarter to be now back to where it started the year. As you know, we maintain a physical aluminum hedge by carrying inventory of the commodity. So it takes some time for lower aluminum costs to work their way through our P&L. So we had a fair idea of what aluminum costs would be flowing through our first half year result when we set our initial guidance.

Been a mixed bag in other resins in terms of what's in our Q1 results. That said, we do expect raw materials to be a modest tailwind for most of our key commodities for the rest of the year if the current curves hold, and we've factored that into our guidance. Also remember, like I said, polyethylene has not yet decreased from December. And once it is a tailwind, it will take about 3 months to flow through our P&L.

Your next question comes from the line of Lauren Lieberman with Barclays.

I was hoping you could talk a little bit about -- relatively new in terms of formation of the combined company, but thoughts that you could offer on how the portfolio may well perform in a recession. So not just the stay-at-home dynamics where you shared some kind of panel-type data but also between branded and private label intersection.

Right. Well, since RCP was formed 10 years ago, it's not operated through a recessionary environment, but those that came from the legacy companies that formed RCP report that the company has performed well during a recessionary environment. And we sell everyday household products that generally benefit from consumers spending more time at home, which we see during a recession as well as shelter in place. We haven't seen any trading down to private label. In fact, it's been the opposite in most of our categories. But some of that is due to just on-shelf availability. We are well positioned in all of our categories, if there's a trend in that direction given that we're evenly split between branded and private label sales. Of course, key commodity prices, as Nathan just talked about, generally drop in a recessionary environment as well, and we would expect that to be a potential as part of our overall forward improvements.

Okay. And is -- as you talk about the need for incremental capacity, is it possible to reallocate capacity that you have between private label and branded? Is that possibly a kind of near term and more capital light/less sticky approach to the problem or no?

There is a lot of interchangeability there. It does require some modifications in some of our manufacturing equipment, but they're not capital intensive. So there is a lot of flexibility to switch back and forth in most of our products.

I'm showing no further questions at this time. I would now like to turn the call back over to Lance Mitchell for closing remarks.

Well, thanks, everyone, for joining the call today and all of your questions. In closing, I just want to say that in today's challenging environment, seeing what our team has been able to accomplish has given me even greater faith in our long-term potential. And thank you for your interest in Reynolds Consumer Products. Stay safe, everyone.

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