U.S. Markets closed

Edited Transcript of CCK earnings conference call or presentation 18-Oct-18 1:00pm GMT

Q3 2018 Crown Holdings Inc Earnings Call

PHILADELPHIA Oct 19, 2018 (Thomson StreetEvents) -- Edited Transcript of Crown Holdings Inc earnings conference call or presentation Thursday, October 18, 2018 at 1:00:00pm GMT

TEXT version of Transcript

================================================================================

Corporate Participants

================================================================================

* Thomas A. Kelly

Crown Holdings, Inc. - Senior VP & CFO

* Timothy J. Donahue

Crown Holdings, Inc. - President, CEO & Director

================================================================================

Conference Call Participants

================================================================================

* Adam Jesse Josephson

KeyBanc Capital Markets Inc., Research Division - Director and Senior Equity Research Analyst

* Anthony James Pettinari

Citigroup Inc, Research Division - VP and Paper, Packaging & Forest Products Analyst

* Arun Shankar Viswanathan

RBC Capital Markets, LLC, Research Division - Analyst

* Brian P. Maguire

Goldman Sachs Group Inc., Research Division - Equity Analyst

* Clyde Alvin Dillon

Vertical Research Partners, LLC - Partner

* Edlain S. Rodriguez

UBS Investment Bank, Research Division - Director and Equity Research Associate, Chemicals

* Gabrial Shane Hajde

Wells Fargo Securities, LLC, Research Division - Associate Analyst

* George Leon Staphos

BofA Merrill Lynch, Research Division - MD and Co-Sector Head in Equity Research

* Ghansham Panjabi

Robert W. Baird & Co. Incorporated, Research Division - Senior Research Analyst

* Kyle White

Deutsche Bank AG, Research Division - Research Associate

* Mark William Wilde

BMO Capital Markets Equity Research - Senior Analyst

* Scott Louis Gaffner

Barclays Bank PLC, Research Division - Director & Senior Analyst

* Tyler J. Langton

JP Morgan Chase & Co, Research Division - Research Analyst

================================================================================

Presentation

--------------------------------------------------------------------------------

Operator [1]

--------------------------------------------------------------------------------

Good morning, and welcome to Crown Holdings Third Quarter 2018 Conference Call. (Operator Instructions) Please be advised that this conference is being recorded.

Now I would like to turn the call over to Mr. Thomas Kelly, Senior Vice President and Chief Financial Officer. Sir, you may now begin.

--------------------------------------------------------------------------------

Thomas A. Kelly, Crown Holdings, Inc. - Senior VP & CFO [2]

--------------------------------------------------------------------------------

Thank you, Steve, and good morning. With me on today's call is Tim Donahue, President and Chief Executive Officer.

On this call, as in the earnings release, we will be making a number of forward-looking statements. Actual results could vary materially from such statements. Additional information concerning factors that could cause actual results to vary is contained in the press release and in our SEC filings, including in our Form 10-K for 2017 and subsequent filings.

Earnings for the quarter were $1.23 per share compared to $1.32 in the prior year quarter. Comparable earnings per share were $1.71 in the quarter versus $1.46 in 2017. Net sales, excluding the impact of Transit Packaging, were up 5% for the quarter, primarily due to increased beverage can volumes and the pass-through of higher material costs. Segment income in the quarter improved primarily due to the Signode acquisition as higher global beverage can volumes were offset by lower food can volumes and continued inflation in North American freight costs.

On the cash flow statement, adjusted free cash flow trailed the prior year through 9 months, primarily due to working capital. Inventory levels are currently higher than expected in European food cans due to a disappointing harvest and will be brought down in the fourth quarter.

In Americas Beverage, working capital balances are up over the prior year and support a 6% year-to-date increase in volumes over 2017 and will also be converted in the fourth quarter as we collect the increased receivables.

Net leverage at the end of 2018 is expected to be approximately 4.6x, and we expect the ratio to decline by about 0.5 turn a year each year going forward as we use the cash flow to delever.

As outlined in the release, we estimate fourth quarter 2018 adjusted earnings of between $0.97 and $1.02 per share. These estimates assume a full year tax rate of between 25% and 26% and that exchange rates remain at current levels. We are maintaining full year adjusted free cash flow of approximately $625 million, that's approximately $460 million in capital spending.

With that, I'll turn the call over to Tim.

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [3]

--------------------------------------------------------------------------------

Thank you, Tom, and good morning to everyone. As Tom just discussed and as reflected in last night's earnings release, we had a good third quarter and through 9 months are on plan for a solid year. Global beverage can demand remained strong, with volumes up 3% in the third quarter, and when combined with firm demand in Transit Packaging, offset extraordinarily poor weather, which impacted almost all crop harvests and demand for cans across our European Food businesses.

Currency had minimal impact in the quarter, with reductions of only $11 million and $1 million recorded on total sales and segment income, respectively. As a reminder and as discussed previously, double-digit increases in both tinplate, steel and aluminum in 2018 have been successfully passed through. Accordingly, as raw material costs are passed through on a one-for-one basis with no impact on absolute margins, there is a resultant decline in percentage margins.

As you are aware, there were 2 significant hurricanes which hit the Eastern Seaboard and Gulf Coast, one in September, the other in early October. Our sympathies go out to all that have been affected. The impact to quarter 3 results was small, and any impact to quarter 4 is included in the guidance Thomas provided earlier.

Our physical plant locations experienced no significant damage. However, with numerous roads and bridges temporarily destroyed, we experienced a week of downtime at 2 large facilities in South Carolina, one a beverage can plant and the other a plastic strapping facility, as employees, suppliers, haulers and others were unable to move safely to and from the plants. Paper supplies to the transit business were marginally disrupted, have since rebounded, and we continue to monitor the supply chain.

In the third quarter, net sales advanced 29% over the prior year, largely due to the addition of the Transit Packaging business. Adjusting for transit, sales were up 5% in the quarter, primarily as a result of higher global beverage volumes and the pass-through of higher raw material costs, which offset lower European food can volumes. Segment income improved 18% over the 2017 third quarter due to the acquired business and higher beverage volumes, offsetting weak European food can demand and expected volume softness in our Middle Eastern beverage can businesses.

In Americas Beverage, overall unit volumes were up mid-single digits, with gains noted throughout North and South America. North American volumes increased ahead of a flat market and continue to reflect our underweighting to mass beer in that market. In Brazil, volumes were up mid-single digits, in line with the market. Segment income, down 3% to the prior year, continues to reflect costs associated with our oversold position in North America.

Unit volumes in European Beverage were down 1% in the quarter as strong performances in Spain, Turkey and the U.K. were more than offset by expected demand weakness in Jordan and Saudi Arabia. As discussed previously, income in the segment is impacted by the ongoing rebalancing of our portfolio more towards Western Europe.

Unit volumes in European Food were down 7% in the third quarter as very hot temperatures and prolonged drought conditions across most European production regions had a negative impact on the vegetable processing industry. Compounding the effects of the summer drought was a longer-than-normal winter and a very wet spring, resulting in late plantings for many crops. Unfortunately, the root systems of many crops were not adequately developed to handle the hot and dry weather in what has been described as the most serious condition experienced by growers in the last 40 years.

With peas, beans, tomatoes and other crops yielding from 15% to 50% less product than a standard harvest, fewer products are processed and less packaging is required. Fortunately, cans do a bit better than other formats, and when combined with exceptional cost management over the last year, the impact on our results was less than expected from such a crop shortage.

Segment income in Asia Pacific advanced 15% over the prior year third quarter as double-digit volume growth in Southeast Asia more than offset high single-digit declines in China as a result of the late 2017 closure of our Beijing facility. Annual growth in China is expected to approach 10% in 2018. However, our strategy to align efforts and investments to acceptable return environments remains unchanged.

Net sales in Transit Packaging advanced 3.5% in the third quarter as most businesses continued to see strong demand and building backlogs. Increased depreciation expense, the result of updated acquisition step-up accounting, resulted in segment income being about level to the prior year, which was where we guided you in July.

During the quarter, Bob Bourque assumed leadership of the transit business. Bob brings a proven record of sales and earnings growth to a business, which we believe is certain to create long-term shareholder value.

Income in nonreportables and corporate was level to the prior year for both the third quarter and 9 months. So in summary, a solid quarter and 9 months with comparable earnings up 17% and 24%, respectively. Global beverage can demand has been exceptionally strong in 2018, and all signs point to a future where customers and consumers alike increasingly prefer the can over other formats. The 2018 European food can harvest was poor this year, but the team continues to manage costs well, production schedules have been realigned, and inventories will be brought down to appropriate year-end levels to generate the free cash flow that Tom discussed earlier.

(Operator Instructions) And with that, Steve, we're now ready to take questions.

================================================================================

Questions and Answers

--------------------------------------------------------------------------------

Operator [1]

--------------------------------------------------------------------------------

(Operator Instructions) Speakers, our first question comes from the line of Scott Gaffner from Barclays.

--------------------------------------------------------------------------------

Scott Louis Gaffner, Barclays Bank PLC, Research Division - Director & Senior Analyst [2]

--------------------------------------------------------------------------------

First, quick question. I realize it's a little bit nitpicky, but midpoint of the EPS guidance is down $0.02, which is right at 0.4% change to EPS for the full year. But is there incrementally anything? Is it European Food? Is it FX? What is it that you're seeing that's a tiny bit worse than what you would have seen, say, at the end of the second quarter?

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [3]

--------------------------------------------------------------------------------

Well, I think you look at the European food can harvest situation where volumes were down 7%, and you know the food can business, as most everybody on the call does, we need to build inventories well ahead of the third quarter to supply customers in the third quarter. And if there are no crops being grown in the field, there's nothing to be packaged. They don't need our cans. So we need to do the best we can to rightsize our inventories before the end of the year. So we'll have lower absorption in Q4 from just lower production schedules.

--------------------------------------------------------------------------------

Scott Louis Gaffner, Barclays Bank PLC, Research Division - Director & Senior Analyst [4]

--------------------------------------------------------------------------------

Okay. And then as we move into 2019, looking at the North American beverage can business, you have 2 issues in 2018. One, you mentioned the oversold position, which is leading to, I guess, some spot rates in freight, but then also, you'll have PPI pass-through on some of your nonmaterial costs. What type of capture, excluding any sort of commercial opportunities, should we expect as we move into 2019 on the North American beverage can business from those 2 things?

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [5]

--------------------------------------------------------------------------------

Yes. So without being too specific, Scott, I -- you do rightly point out that the formula pass-through for nonmetal costs for the first time will be positive in a number of years. We had a -- perhaps a slight positive this year, but we'll get a bigger positive next year. And clearly, we're looking at ways to regenerate acceptable margins in the North American beverage can space. And so that encompasses not just price but other terms as well and how we deal with the formula. But perhaps it's not appropriate to be so specific on this call. But we understand, and the can is the preferred format. It's going quite well. We provide a great service and package to our customers. We need to be fairly compensated. And we are focused on realigning what we describe as a fair value for the product we provide.

--------------------------------------------------------------------------------

Operator [6]

--------------------------------------------------------------------------------

Our next question in queue comes from the line of Ghansham Panjabi, Baird.

--------------------------------------------------------------------------------

Ghansham Panjabi, Robert W. Baird & Co. Incorporated, Research Division - Senior Research Analyst [7]

--------------------------------------------------------------------------------

So the lower absorption in 4Q for European food cans, will that continue into 1Q as well? Or do you fully anticipate to offset the -- it through rightsizing by the end of 2018?

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [8]

--------------------------------------------------------------------------------

No, I think we should get most, if not all, of it out by the end of the year, Ghansham.

--------------------------------------------------------------------------------

Ghansham Panjabi, Robert W. Baird & Co. Incorporated, Research Division - Senior Research Analyst [9]

--------------------------------------------------------------------------------

Okay. Can you size the impact on free cash flow just as we kind of think about where you are year-to-date versus your $625 million guidance for the year?

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [10]

--------------------------------------------------------------------------------

So we're a couple hundred million behind where we were through 9 months last year. And clearly, there's a significant piece there that is within food, and some of that would have just been converted from inventory to receivable until it's collected. But the larger impact is the inflation that we experienced on tinplate, steel and aluminum that's just hung up on the balance sheet now until we collect the receivables through the fourth quarter.

--------------------------------------------------------------------------------

Ghansham Panjabi, Robert W. Baird & Co. Incorporated, Research Division - Senior Research Analyst [11]

--------------------------------------------------------------------------------

Okay. And just my second question on -- maybe on Signode. Obviously, there's a little bit more growth uncertainty globally at this point, just given some of the peer commentary across different sectors, et cetera. Have you seen any sort of change in volume trajectory in any of the sort of leading end markets for that particular segment driven by the macro? And also, you mentioned increased backlogs for that segment. Can you sort of expand on that?

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [12]

--------------------------------------------------------------------------------

Yes. So the increased backlogs principally in the equipment and solution system part of the business, we do have, in some of the strapping businesses globally, some increase in backlog. We have not yet seen, and we're focused on trying to identify it as soon as possible, any slowdown in demand in several of the markets that Signode or transit sells into. We actually have sold-out positions. So nothing immediately concerning, although obviously, you're always on the lookout for it. But the business year-to-date is up about 8% on revenue and in the quarter was up 3.5%. And this is a business that I think when we announced, we described to you that we thought organically could grow at GDP-type levels, and it's certainly above that right now. And as we described to everybody, for us, it was a platform from which to grow in the future both organically and inorganically, and we continue to be pleased with it. It is a very large global business. There's a -- for those of you who've been to Pack Expo this week in Chicago, there's a very impressive large exhibit. And you'll have gotten a good view as to the breadth of the products that we provide, not only in North America but globally, that we believe is unmatched in the transit space. So we're exceptionally pleased with the acquisition. As we said last time, there's a whole lot we've learned in the time that we've owned it that makes us even a bit happier than we were when we announced the acquisition. But nonetheless, we're always on the lookout for any slowdown that might affect the business, and we're looking for ways to introduce new products and solutions to customers such that we minimize any impact of that in the future.

--------------------------------------------------------------------------------

Operator [13]

--------------------------------------------------------------------------------

Our next question in queue comes from the line of Anthony Pettinari, Citi.

--------------------------------------------------------------------------------

Anthony James Pettinari, Citigroup Inc, Research Division - VP and Paper, Packaging & Forest Products Analyst [14]

--------------------------------------------------------------------------------

Just following up on the full year guidance, I guess, EPS guidance has ticked down a little on the European Food issues you discussed, but free cash flow guidance is unchanged. Understanding it's not a huge delta, I'm just wondering what are some of the offsets on free cash flow that allow you to keep that unchanged as kind of core earnings are maybe a little bit weaker than expected.

--------------------------------------------------------------------------------

Thomas A. Kelly, Crown Holdings, Inc. - Senior VP & CFO [15]

--------------------------------------------------------------------------------

Yes. The -- I mean, the issue was -- as we mentioned, was in European Food, we had the seasonal inventory build followed by poor harvest. So as we -- so the inventory levels are elevated. And we plan to sell through those cans in the fourth quarter, so that will -- and reduce production at the same time, so that will benefit us. And then in Americas Beverage, we continue to see really strong volumes, and we'll monetize those receivables in the fourth quarter. So really, it's kind of what we lost was on food, but we'll get that back with the decline in production in the fourth quarter and selling through those cans.

--------------------------------------------------------------------------------

Anthony James Pettinari, Citigroup Inc, Research Division - VP and Paper, Packaging & Forest Products Analyst [16]

--------------------------------------------------------------------------------

Okay, that's helpful. And then just regarding -- you mentioned the oversold position in North America and the costs there. Is it possible to quantify the cost of that in 3Q and how that goes into 4Q next year?

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [17]

--------------------------------------------------------------------------------

Well, the answer is it's always possible to quantify it. I don't think we're prepared to do that on an open call. But we've talked about freight in the past, and we are buying cans from the competition, and the competition doesn't sell you those cans for free, right? So there's 2 buckets of costs right there. And within freight, there's a number of elements within freight. We're incurring more freight just to move cans around. And as you incur more freight, you're incurring the freight at spot rates as opposed to contracted rates. So our plan is to have our inventory levels catch up a bit in the late fourth quarter, early first quarter next year and minimize the impact that we felt this year as much as we can as we look at 2019.

--------------------------------------------------------------------------------

Operator [18]

--------------------------------------------------------------------------------

Our next question comes from the line of Mark Wilde, Bank of Montreal.

--------------------------------------------------------------------------------

Mark William Wilde, BMO Capital Markets Equity Research - Senior Analyst [19]

--------------------------------------------------------------------------------

Tim, coming back to that oversold position in North American beverage can, we were up at Nichols recently. You've got a pad there for a third line. Can you just give us some thoughts on kind of timing of the third line?

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [20]

--------------------------------------------------------------------------------

Well, it's a big facility, as you saw, Mark. And I wouldn't read too much into the fact that you see pads there. It's just easier to put the pads in when you build the facility such that if you're going to add another line, whether it's in 2 years or 5 years, you're not chopping up concrete and spreading dust all over the production floor while you're trying to produce. So I think far too early to contemplate a third line in that facility right now.

--------------------------------------------------------------------------------

Mark William Wilde, BMO Capital Markets Equity Research - Senior Analyst [21]

--------------------------------------------------------------------------------

Okay. And then for -- just as a follow-on. Can you update us on the conditions in the Middle Eastern business there? I know you've been dealing with sugar tax but also some self-manufacturing by clients, and just whether you need to do any restructuring in that business at all.

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [22]

--------------------------------------------------------------------------------

No, I don't think so. So I think the Saudi sugar taxes and all of these taxes are something that we and the rest of the industry and many of our customers are going to have to deal with from time to time in certain jurisdictions. They tend to have a temporary negative impact, but volumes bounce back as consumers understand that things cost more and their government is just finding a way to tax them in a different way. But people do need to eat and drink. It's one of the great things about supplying the food and beverage industry globally. But I think the bigger issue would be the level of self-manufacturing that has occurred in Saudi Arabia and one of the other North African countries in that once a customer goes to self-manufacture, they're probably not coming back to you. They can make their own cans. And it happens to be a situation that's unique just to the Middle East just given the amount of money and lack of other opportunities for those in the Middle East to deploy their money. So I think as we look at the Middle Eastern business going forward, I think we said in the second quarter, what you saw in the second quarter, you should expect in the third, fourth quarter. And you'll see another downturn in Q4 '18 versus Q4 '17 similar to what you've seen in the last 2 quarters. But once we get to 2019, we're kind of rebased, and we move forward from there.

--------------------------------------------------------------------------------

Operator [23]

--------------------------------------------------------------------------------

Our next question comes from the line of Tyler Langton, JPMorgan.

--------------------------------------------------------------------------------

Tyler J. Langton, JP Morgan Chase & Co, Research Division - Research Analyst [24]

--------------------------------------------------------------------------------

Just on freight costs in the U.S., are you seeing sort of any declines in the spot market at this point?

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [25]

--------------------------------------------------------------------------------

Well, I would say we're not seeing any increases right now. It's hard to feel like we're seeing any declines just given the amount of cans we're moving around and the level at which we're enriching the freight companies right now. So -- but certainly, we haven't seen any increases. It's about where we expected when we talked to you in July.

--------------------------------------------------------------------------------

Tyler J. Langton, JP Morgan Chase & Co, Research Division - Research Analyst [26]

--------------------------------------------------------------------------------

Okay. No, that's helpful. And then just with Brazil, I think you mentioned your volumes were up mid-single digits. I mean, is that -- are cans still doing better than sort of the overall beer industry? And just kind of any sort of thoughts there.

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [27]

--------------------------------------------------------------------------------

I think we're probably up in the 6% to 7% to 8% range. I'll bet you the market was up 8% or 9% in the quarter. I'll bet you for the year, the market's up 9% to 10% for the year, I'm not sure. But they're the kind of numbers we're seeing. It's an extremely strong market, and the can continues to gain share in Brazil. It's -- at least for beer, it's probably just over a touch of 50%. And as we've said before, we see no reason why the can share for beer in Brazil can't approach over time the 70% level that we have here in the United States. So still an extremely attractive market, and we continue to be pleased with the results and excited about the future.

--------------------------------------------------------------------------------

Operator [28]

--------------------------------------------------------------------------------

Our next question comes from the line of Chip Dillon, Vertical Research.

--------------------------------------------------------------------------------

Clyde Alvin Dillon, Vertical Research Partners, LLC - Partner [29]

--------------------------------------------------------------------------------

Could you talk a little bit about what's going on, especially in North America, with sparkling water? I think we've been hearing tremendous growth there. And sort of what is your place in that business? And how much more do you think we're going to see after what seems to be a huge year this year with basically everything put into sparkling water now that we weren't used to seeing in years past?

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [30]

--------------------------------------------------------------------------------

Yes, you're right. It's been a tremendous year for sparkling water volume. So prior to this year, much of the sparkling water was private label and/or smaller branded regional companies who have extremely strong positions and franchises that are multi-decades old. And in the case of one of the customers, it's a company that's probably 130 years old. So really well-run businesses, well-thought-out business plans. As they begin to enter into more national agreements with retailers, they have the opportunity to spread their brands on a wider, wider scale. And then when you combine that with the entry of one of the majors into the sparkling water market this year, you've got promotional levels that are much higher than the smaller guys or the private label guys can afford. And that benefits not just the large branded CSD companies, which are promoting sparkling water, but it benefits everybody making sparkling water. And I think the consumer likes carbonation. The consumer likes flavor. Flat water is kind of boring after a while. So it's always been -- the big thing about not wanting to drink soda is the boredom of drinking flat water. And so sparkling water is -- for those people that are concerned about drinking too much carbonated soda, sparkling water is a nice offset. So I think we're going to continue to see growth in this market. It's pretty exciting for the can industry, and it's a great replacement for boring flat water.

--------------------------------------------------------------------------------

Clyde Alvin Dillon, Vertical Research Partners, LLC - Partner [31]

--------------------------------------------------------------------------------

And you mentioned that -- switching gears to beer, that 70% was packaged in cans. I assume that doesn't include on-premise. I mean, you might correct me or whatever is bought on draft. And also, how does it look with craft as you look at it? Where is the share there? And where do you think that can get to?

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [32]

--------------------------------------------------------------------------------

I'd say the share in craft in cans is probably in the -- let's say, in the 30 -- 25%, 30% range and growing. I think the guys who brew craft beer are very proud of the -- of what they're doing. They've got a religion all among themselves, and they understand that the can protects the integrity of the product better than other -- any other format. So the can is growing in popularity. The limiting factor for cans in craft beer, quite frankly, has been the can industry's inability to supply more cans to them. I think if we had an ability to supply more cans to the craft beer industry, that 30% would certainly be much higher.

--------------------------------------------------------------------------------

Clyde Alvin Dillon, Vertical Research Partners, LLC - Partner [33]

--------------------------------------------------------------------------------

Yes, got you. And last quick question for Tom. When you mentioned the 4.6x leverage at the end of the year, I assume that's looking at net debt to the last 12 months EBITDA, and of course, adding in, for the quarter, you did not own Signode so that it would be fair. Is that the way to look at it?

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [34]

--------------------------------------------------------------------------------

Of course.

--------------------------------------------------------------------------------

Operator [35]

--------------------------------------------------------------------------------

Our next question comes from the line of Arun Viswanathan, RBC Capital Markets.

--------------------------------------------------------------------------------

Arun Shankar Viswanathan, RBC Capital Markets, LLC, Research Division - Analyst [36]

--------------------------------------------------------------------------------

Just wanted to, I guess, just confirm, did you talk about Asia? What are you seeing there, I guess? Is it also continued strong growth, especially in Southeast? Any update there as well as in China? Anything you can say there?

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [37]

--------------------------------------------------------------------------------

Oh, yes, so if -- you probably joined late, but in the prepared remarks, we discussed double-digit growth in Southeast Asia, and that number is probably about 12%. And in China, we were down 8%, and that reflects the fact that we closed the Beijing facility last year. What we did say was that we expected the Chinese market to be up 10% this year. Having said that, our strategy is to certainly try to find returns which are more appropriate for the product we provide. And we're not going to chase Chinese growth at this point given where pricing is in that market. So we're extremely satisfied with performance in Southeast Asia, and we continue to manage the Chinese situation as prudently as possible.

--------------------------------------------------------------------------------

Arun Shankar Viswanathan, RBC Capital Markets, LLC, Research Division - Analyst [38]

--------------------------------------------------------------------------------

And just going back to the idea of getting compensated properly for the product. There's been a lot of inflation obviously, especially in the freight side. We've seen a lot in North America, but it's obviously cropped up elsewhere as well. So are you in a position to just recoup those costs? Or is there potential for -- to actually get ahead on cost recovery? Will you still be kind of chasing that inflation next year or do you think you can kind of make it up?

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [39]

--------------------------------------------------------------------------------

Well, I think for the contracts that are -- that come due at the end of 2018, we have an opportunity to recapture the value that's been lost over the last several years as whether it's freight, utilities, labor, coatings, all the nonmetal costs that we've intended to recover through a formula, with the formula going one way and costs going the other. And so we've fallen behind a little in that regard. So we'll have the chance to recover that and reset ourselves as we go forward. And then for the other contracts, we got to wait for those to expire, so we have a chance to reset. But clearly, as we said earlier, the North American beverage can market, the returns are not acceptable, and they need to be improved.

--------------------------------------------------------------------------------

Operator [40]

--------------------------------------------------------------------------------

Our next question comes from the line of Adam Josephson, KeyBanc.

--------------------------------------------------------------------------------

Adam Jesse Josephson, KeyBanc Capital Markets Inc., Research Division - Director and Senior Equity Research Analyst [41]

--------------------------------------------------------------------------------

Tim, just a couple on the last comment you made, just about the returns being unacceptable in the North American beverage can market. For how long has that been the case for you? And why has it seemingly reached the tipping point now as opposed to a year ago or 2 years ago?

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [42]

--------------------------------------------------------------------------------

I think if we went back 2, 3, 4 years, we wouldn't have said that. But you start layering on negative formula pass-throughs for 2, 3, 4 years in a row while at the same time, the specialty chemical guys are putting coating costs up to you, and labor goes up every year, and freight has been going up recently, and utilities go up, and other costs go up, other packaging materials go up, it starts to move, compound and move in the wrong direction. And there comes a time when if you're going to be -- if the business you're in is going to remain sustainable, you need to make a change. And I think we're prepared to make a change.

--------------------------------------------------------------------------------

Adam Jesse Josephson, KeyBanc Capital Markets Inc., Research Division - Director and Senior Equity Research Analyst [43]

--------------------------------------------------------------------------------

Okay, got it. And just on the operating rates in the industry, I know you're oversold, but the industry is flat to slightly down. To the best of my knowledge, there's been no net supply reductions in the industry over the past couple of years. Obviously, you added a plant, shut a plant. Your competitors added a plant, shut 2 plants. And it doesn't seem like any supplies come out. Demand is flat to modestly down. Have operating rates gone up at all over the past few years? And what would you say the operating rate is compared to where it's been over the past several years?

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [44]

--------------------------------------------------------------------------------

We're -- clearly, we and I'm assuming one of the other companies are well over 100% as we're sold out. One of the things that happens is that when we convert -- when we have -- we give ourselves the flexibility to make more can sizes, whether that's height or diameter, we do lose some capacity output as you change lines over. But I'd say the real issue is that the market, while it is flat this year, it's only flat because mass beer is down 3% to 4% in cans. And with the exception of mass beer, everything nonalcoholic is up a few percent. And when you look at the decline in mass beer and the cans that are not being utilized throughout the entire system, those extra cans are located perhaps with a guy who makes his own cans. And so it leaves the rest of the market fairly tight.

--------------------------------------------------------------------------------

Operator [45]

--------------------------------------------------------------------------------

Our next question in queue comes from the line of Brian Maguire, Goldman Sachs.

--------------------------------------------------------------------------------

Brian P. Maguire, Goldman Sachs Group Inc., Research Division - Equity Analyst [46]

--------------------------------------------------------------------------------

I just wanted to stick on the topic of the oversold condition in North America. You're talking about having to outsource production to some competitors, and there's been a lot of freight to move stuff around, and if you had more cans, the craft beer market could grow faster. Just trying to juxtapose that with your answer to Mark's question about potential new capacity that you might think about adding. It seems like this might be the point where you would be normally thinking about adding capacity to satisfy some of the demand in those conditions. Just wondering how you think about that versus maybe if you don't, somebody else will. Or is there anything about the current environment where you think some of this volume might go back to competitors or something over the next year?

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [47]

--------------------------------------------------------------------------------

Well, we can't control what others might do, and we certainly might be inclined to add capacity in the future. But we need to get fairly compensated for the product we sell. So as it stands currently, we don't believe we're being fairly compensated. If customers want more units for what appears to be the preferred packaging format for beverages today and going forward, especially with a lot of the negative news you hear on one of the other packaging formats, they're going to need to fairly compensate us if they want us to invest more money in a market that we've been less than satisfied with over the next couple of years.

--------------------------------------------------------------------------------

Brian P. Maguire, Goldman Sachs Group Inc., Research Division - Equity Analyst [48]

--------------------------------------------------------------------------------

Okay. And then just switching gears. On the industrial business, I know when you acquired Signode, part of the thesis was it was a fragmented industry, lots of opportunity to grow through acquisitions there. Just wondering if you could update us on the acquisition pipeline, what you're kind of seeing, if there's any deals where you're feeling you might be -- have some visibility into them closing by year-end or early into next year. Or should we think of that being more of like a 2020 event when the leverage is lower?

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [49]

--------------------------------------------------------------------------------

Yes. So it's a very good question. I -- what we said last time, I think, is one of the nice things we found in the business after we owned it was that there were numerous opportunities for acquisitions. And I'm not talking about large, I'm talking about smaller, bolt-on type acquisitions that fit nicely in the field that Signode already plays, and there could be some adjacencies in the future. But there are enough of those available such that as we're delevering over the next couple of years, if we miss 1 or 2, then we'll have plenty of opportunities in the future. Clearly, there could be 1 or 2 that pops up along the way that you wouldn't want to miss. And while leverage is a concern for many right now, given our strong cash flow and our past history of generating cash and delevering post-acquisitions, I am not as concerned with leverage as you may be with our leverage. And I firmly believe that a year or 2 from now, we won't be taking about leverage, we'll be talking about what are the opportunities to continue to grow the Signode platform such that if there was something that was compelling that made a lot of sense now that yes, you're right, we probably wouldn't want to miss that opportunity. You'd want to take on that opportunity. But I -- it's only math, Brian, when you layer in a relatively small acquisition on our balance sheet, it doesn't move the needle a whole lot in leverage. So we'll continue to look at those. I don't think I'd want to necessarily talk about anything because that wouldn't be the right thing to do. But we bought this business as a platform to grow in the future, one that we firmly believe is a leading platform globally. And it is one that will benefit from general economic and industrial growth, and it's a tremendous business. So -- but it's a good question, and we continue to look at the opportunities.

--------------------------------------------------------------------------------

Operator [50]

--------------------------------------------------------------------------------

Our next question in queue comes from the line of George Staphos, Bank of America Merrill Lynch.

--------------------------------------------------------------------------------

George Leon Staphos, BofA Merrill Lynch, Research Division - MD and Co-Sector Head in Equity Research [51]

--------------------------------------------------------------------------------

Most of them have already been asked. But what I had left in the till, guys, when we look at the fourth quarter implicit guidance, it's come in a little bit roughly $0.09, $0.10. Is that largely just the food can underabsorption you expect in the quarter? Is there anything else that we should be monitoring? And related to that, if you're underabsorbing whatever it is by $0.09, $0.10, let's say that's the entirety of the variance, was there any overabsorption in the third quarter that we should keep in mind for comparisons next year? Or was the third quarter food can production more or less in line with your expectations?

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [52]

--------------------------------------------------------------------------------

I don't think there was any overabsorption in the third quarter. I think if we went back to the second quarter, George, we were -- I wouldn't say we were overabsorbing, we were preparing and building inventories for what we expected would be a more normal harvest than what we expected. So -- but assuming we get back to a normal harvest next year, then there's no reason to believe the second quarter next year won't look like the second quarter this year. And the third quarter would look better in that we're going to have profits on cans we sell as opposed to those cans sitting in inventory. And then the fourth quarter, you wouldn't be bringing production down as harsh as we're going to bring it down this year. So we're hopeful for a more normal pack next year. I got to tell you, the -- European-wide, they're hopeful for a normal pack next year. The field inventories across the entire retail space are extremely low, and consumers from region to region are going to feel it not just in price but in the availability of product. So this is not an insignificant event that's happened this year. The last 2 harvests were not great either. So field inventories coming into this year were not great. And so our hope is for a much better harvest next year, knowing that the food industry will pack everything they can possibly pack, which should yield very good results for the can next year.

--------------------------------------------------------------------------------

George Leon Staphos, BofA Merrill Lynch, Research Division - MD and Co-Sector Head in Equity Research [53]

--------------------------------------------------------------------------------

Sure. And Tim -- but Tim, just to be clear, so fourth quarter, that's entirely food can in terms of the variance from where you would have otherwise been in prior guidance. Would that be fair?

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [54]

--------------------------------------------------------------------------------

The only other 2 small things, George, and they're all incremental, right? So when I say small, maybe it's $0.01 or $0.015 each. But currency in the fourth quarter, I think the euro's about $1.15, $1.16 now. When we talked to you in July, it was $1.19. So it'll be a small impact there. We could sit here all day and talk about all the pluses and minuses, so we gave you the big one. And then the only other thing is we did lose production for a full week in South Carolina at our largest beverage can plant. And as we're sold out, we can't make those cans up, George. Those cans that were not made, we can't make again because we're already sold out. So that's a week's production in an extremely large factory that we don't get back, and they would have been sold in Q4. So that's just another item. But there's -- you've got pluses and minuses all over the place. We gave you the big one, which was rightsizing European inventory levels.

--------------------------------------------------------------------------------

George Leon Staphos, BofA Merrill Lynch, Research Division - MD and Co-Sector Head in Equity Research [55]

--------------------------------------------------------------------------------

And that's a very efficient plant from what we remember, too, so that makes sense.

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [56]

--------------------------------------------------------------------------------

Yes, it is.

--------------------------------------------------------------------------------

George Leon Staphos, BofA Merrill Lynch, Research Division - MD and Co-Sector Head in Equity Research [57]

--------------------------------------------------------------------------------

Now on free cash flow, again, we've largely covered it. And while you have to make up $650 million in the fourth quarter, that's not unheard of for the company just given the seasonality in your working capital. You mentioned inventories. You mentioned receivables. Obviously, aside from when you report earnings in February for the fourth quarter, are there any things that we can track from where we sit in terms of public domain or key factors we should be asking about in terms of how you track against that free cash flow and that working capital conversion?

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [58]

--------------------------------------------------------------------------------

No, I don't think so. I think it's largely as we've -- it's largely as been executed in the past. We have the -- okay, we'll bring Q4 inventories down in food. But one of the big items is the significant inflation we experienced in tinplate, steel and aluminum this year. It's just that inflation is currently hung up on the balance sheet, that'll release in Q4. And when I say hung up on the balance sheet, whether it's an inventory or receivables waiting to be collected through Q4.

--------------------------------------------------------------------------------

George Leon Staphos, BofA Merrill Lynch, Research Division - MD and Co-Sector Head in Equity Research [59]

--------------------------------------------------------------------------------

Fair enough. And actually just one quickie. When will you get pack indications for Europe? Would that be kind of a March, April event? Or will you get that earlier on? Sorry for asking a quick one there at the end.

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [60]

--------------------------------------------------------------------------------

I'm sorry. Just explain that better, George. I didn't understand the question.

--------------------------------------------------------------------------------

George Leon Staphos, BofA Merrill Lynch, Research Division - MD and Co-Sector Head in Equity Research [61]

--------------------------------------------------------------------------------

So basically, growers in the field, when will they be coming back to you and telling you, "Hey, Tim, we expect to be up 5%, down 5%, et cetera, for the upcoming year"? Sorry about that.

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [62]

--------------------------------------------------------------------------------

Okay. Well, they can tell you whatever they want to tell you in March, April. It's far earlier -- it's far too early at that time in Europe -- certainly in Northwest Europe for them to be able to tell you how much they're going to plant. I do believe they're going to plant everything they possibly can. But depending on how long the winter month is -- winter months are and how wet the spring is, it matters when they can actually get in the field. My expectation, as I said earlier, given how low the field inventories are throughout the entire retail chain, they're going to plant everything they can possibly plant next year. And we just have to hope for a good summer next year.

--------------------------------------------------------------------------------

Operator [63]

--------------------------------------------------------------------------------

Our next question comes from the line of Debbie Jones, Deutsche Bank.

--------------------------------------------------------------------------------

Kyle White, Deutsche Bank AG, Research Division - Research Associate [64]

--------------------------------------------------------------------------------

It's actually Kyle White filling in for Debbie. I know it's a smaller portion of your business, but I was just curious how you would characterize the North American food pack this year.

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [65]

--------------------------------------------------------------------------------

Well, I think we've had a fairly good campaign across all of what we describe as the nonreportables businesses, which is North American and European aerosols and primarily North American food. And business is going well. We're managing costs well. That business as well has rising input costs. And despite that, we're basically right on top of Q3 and full year performance, and we've done quite well in that business. There have been -- depending on the region, we're not in every region in North America in food. We're not on the West Coast. We're big in the Upper Midwest, and we have a couple of significant customers in the Southeast. And one of those customers experienced a fair amount of damage to its crops from Hurricane Florence. But the business is going quite well this year.

--------------------------------------------------------------------------------

Kyle White, Deutsche Bank AG, Research Division - Research Associate [66]

--------------------------------------------------------------------------------

Got it. And then shifting gears and looking at the global beverage projects that you have. You guys just started the Spain plant, you started the Myanmar plant, and you're starting the third line in Cambodia this quarter. I'm curious, as you look to 2019, you start beginning your capital budgets, what regions are you kind of most excited about in terms of growth capital? And how do you feel about your global footprint?

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [67]

--------------------------------------------------------------------------------

Well, I think the footprint is -- there's some areas we'd like to be bigger in, but you're not going to get bigger without causing other issues. I think we have a very good footprint. There's some regions we're exceptionally strong in, and we see those regions continuing to grow. The -- there's always concern over the emerging markets, and we've been fielding questions about emerging market concerns now for 15 years. And boy, I'm glad we didn't listen to all the guys who were nervous about it because we wouldn't be anywhere. These are markets that are going to continue to do well, they're going to continue to grow, and the can is the preferred format. So we're excited about the future in the emerging markets. And when I say emerging markets, I mean Brazil, Southeast Asia, Turkey, a number of the -- some of the other Mediterranean markets that just continue to grow. And a little too early for us to describe what our capital plans might be for those regions. But we continue to talk to our customers and new customers in the region that are looking to convert from other packages to the 2-piece beverage can.

--------------------------------------------------------------------------------

Operator [68]

--------------------------------------------------------------------------------

Our next question in queue comes from the line of Edlain Rodriguez, UBS.

--------------------------------------------------------------------------------

Edlain S. Rodriguez, UBS Investment Bank, Research Division - Director and Equity Research Associate, Chemicals [69]

--------------------------------------------------------------------------------

Just one quick one. I mean, with all the noise about the environmental impact of plastics, et cetera, like are you seeing any benefit from that yet? Or like how long do you think it will take before you start seeing some shifting from plastics into can also?

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [70]

--------------------------------------------------------------------------------

Well, I would say that there's a lot of discussion. There's certainly a lot of discussion in Europe. There's some discussion throughout Asia. In 1 or 2 of the states on the West Coast, there's a lot of discussion. I don't think we're seeing any move. Quite frankly, the can industry doesn't have the ability to take on any meaningful change at this point. And our view would be that before we're prepared to invest any meaningful amount of capital, we'd need to see meaningful change beginning to occur. So we have long held and we've been strong proponents for a very long time as to the benefits of the can, not only to our customers and consumers in terms of cost and convenience but also in terms of the environment. And the can is the best package in that regard, and we'll see where it goes in the future. But a big wholesale change is -- that'll take some time, and I'm not prepared to tell you when I think that may happen, if at all. It'll be incumbent on governments, the suppliers of the other packaging formats to try to actually have a package that's actually recyclable as opposed to just talking about its recyclability. And we'll see where the brand owners go and how they want to market their product.

--------------------------------------------------------------------------------

Operator [71]

--------------------------------------------------------------------------------

Our next question comes from the line of Gabe Hajde, Wells Fargo.

--------------------------------------------------------------------------------

Gabrial Shane Hajde, Wells Fargo Securities, LLC, Research Division - Associate Analyst [72]

--------------------------------------------------------------------------------

I guess in light of sort of the commentary about diverging industrial economies across the globe, can you give us a little sense for maybe how the business -- the Signode business, Transit Packaging, is different today than it might have been 5 or 10 years ago, whether it's you have more equipment and service in place today versus those time frames, where your, I guess, profit centers might be coming from in that regard, and then maybe end markets that you're serving that could behave differently today? Just so we can model that.

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [73]

--------------------------------------------------------------------------------

Yes. We probably talked a little about this in the past. I'll do my best now, and clearly, at the Analyst Day, we'll give you a real good presentation on this. I would say that as compared to, let's just say, 10 years ago, if consumable and equipment sales to the metals industry represented 28% to 30% 10 years ago, it's probably 20% now. Food and beverage is obviously a bigger percentage of the business today than it was then. The Asia Pacific region that they supply is probably $150 million to $200 million more in annual revenue today than 10 years ago. The protective packaging business is a couple hundred million dollars greater today than it was 10 years ago. So there are a number of changes that have been made to the business as you would expect any business to evolve over time. Times change, and good businesses change. And this is a good business, and they've made changes, and they'll continue to make changes. So a lot different. We don't dispute that it's more cyclical than cans, but it's certainly not as cyclical as you saw in the 2008, 2009 global financial meltdown. But it's a tremendous business that offers exceptional opportunity for us.

--------------------------------------------------------------------------------

Gabrial Shane Hajde, Wells Fargo Securities, LLC, Research Division - Associate Analyst [74]

--------------------------------------------------------------------------------

The next one, and I hate to go back to it. It's always a delicate balance as it relates to supply/demand and trying to predict what products are going to be successful, and some of it's weather dependent, et cetera. But in North America beverage, can you give us a sense -- I mean, presumably, you want to avoid having to outsource cans and incur the footprint freight. Is this a situation where better planning or better visibility in order patterns can prevent -- could prevent that, and in fact, do have the capacity to serve a little bit of growth next year? Or a part of it depends on where and how it comes?

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [75]

--------------------------------------------------------------------------------

No, I think what you said, you said it inside your question, is absolutely correct. We certainly -- it would help if we had some better forecasting from our customers. But having said that, we're here to serve customers. And anytime a customer wants more cans, we're delighted and we should be delighted to sell more cans. We need to do a better job of forecasting and planning and building our inventories ahead of season. And we're going to undertake that as we get into early '19.

--------------------------------------------------------------------------------

Operator [76]

--------------------------------------------------------------------------------

And our last question in queue comes from the line of Adam Josephson, KeyBanc.

--------------------------------------------------------------------------------

Adam Jesse Josephson, KeyBanc Capital Markets Inc., Research Division - Director and Senior Equity Research Analyst [77]

--------------------------------------------------------------------------------

Just back to Edlain's question for a second about cans versus PET and have there been any market share gains for can, just a couple of points or questions. Aren't cans and PET bottles used for fundamentally different purposes, first of all, that PET is resealable and on the go versus cans are more at home because cans are not resealable for one thing? And just two, what are your customers saying about cans versus PET bottles and their relative attractiveness? Because we haven't heard much from the beverage can suppliers about what their actual customers are saying about this.

--------------------------------------------------------------------------------

Timothy J. Donahue, Crown Holdings, Inc. - President, CEO & Director [78]

--------------------------------------------------------------------------------

Yes. So I think cans are used for beer, PET is used for flat water, and that's the only difference. Everything else, carbonated soft drinks, sparkling water, juices, teas, they're used for the same thing. Yes, they're resealable, but generally, the resealable feature is used on flat water. I've -- if you can't drink a 12-ounce soda, then you can buy an 8-ounce soda in a can. So there are different packaging formats for cans today for carbonated drinks. And cans, the one great feature that cans have over PET is they hold carbonation much longer as opposed to having a flat soda when you open it up later. If you talk to the brand marketers, they would say they like to have a nice mix and a nice balance among the 2 substrates. And -- but I don't think they're used for different purposes. They're used for the same purpose: they're used to sell product. One sells product that -- at much higher volume levels that helps them cover and run their system at the lowest cost possible, that's the can. And then the other product, they use to price aggressively to those consumers who are more on the go, who are willing to pay a very high price for one unit at a convenience store or otherwise. So they use them differently in terms of their marketing, but they are used for the same purpose in terms of the product.

Okay. So Steve, I think that's it. That concludes the call. Thank you for everybody for joining, and we look forward to speaking with you again in late January to talk about the full year results and the outlook for '19. Thank you very much.

--------------------------------------------------------------------------------

Operator [79]

--------------------------------------------------------------------------------

Thank you, speakers. That concludes today's conference. Thank you all for participating. You may now disconnect.