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Edited Transcript of POL earnings conference call or presentation 24-Oct-18 12:00pm GMT

Q3 2018 PolyOne Corp Earnings Call

AVON LAKE Oct 25, 2018 (Thomson StreetEvents) -- Edited Transcript of PolyOne Corp earnings conference call or presentation Wednesday, October 24, 2018 at 12:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Bradley C. Richardson

PolyOne Corporation - Executive VP & CFO

* Giuseppe Di Salvo

PolyOne Corporation - VP of IR

* Robert M. Patterson

PolyOne Corporation - Chairman, President & CEO

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Conference Call Participants

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* Colin William Rusch

Oppenheimer & Co. Inc., Research Division - MD and Senior Analyst

* Dylan Scott Carter Campbell

Goldman Sachs Group Inc., Research Division - Research Analyst

* Frank Mitsch

* James Michael Sheehan

SunTrust Robinson Humphrey, Inc., Research Division - Research Analyst

* Kevin William Hocevar

Northcoast Research Partners, LLC - VP & Equity Research Analyst

* Laurence Alexander

Jefferies LLC, Research Division - VP & Equity Research Analyst

* Michael Joseph Harrison

Seaport Global Securities LLC, Research Division - MD & Senior Chemicals Analyst

* Michael Joseph Sison

KeyBanc Capital Markets Inc., Research Division - MD & Equity Research Analyst

* Rosemarie Jeanne Pitras-Morbelli

G. Research, LLC - Research Analyst

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Presentation

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Operator [1]

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Good morning, ladies and gentlemen, and welcome to the PolyOne Corporation's Third Quarter 2018 Conference Call. My name is James, and I will be your operator for today. (Operator Instructions) As a reminder, this conference is being recorded for replay purposes.

At this time, I would like to turn the call over to Joe Di Salvo, Vice President, Investor Relations. Please proceed.

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Giuseppe Di Salvo, PolyOne Corporation - VP of IR [2]

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Thank you, James. Good morning, and welcome to everyone joining us on the call today.

Before beginning, we would like to remind you that statements made during this conference call may be considered forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995.

Forward-looking statements will give current expectations or forecasts of future events and are not guarantees of future performance. They are based on management's expectation and involve a number of business risks and uncertainties, any of which could cause material results -- cause actual retails to differ materially from those expressed in or implied by the forward-looking statement. Some of these risks and uncertainties can be found in the company's filings with the Securities and Exchange Commission as well as in today's press release.

During the discussion today, the company will use both GAAP and non-GAAP financial measures. Please refer to the earnings release posted on the PolyOne website, where the company describes the non-GAAP measures and provides a reconciliation for the most comparable GAAP financial measures.

Operating results referenced during today's call will be comparing the third quarter of 2018 to the third quarter of 2017, unless otherwise stated.

Joining me today on the call is our Chairman, President and Chief Executive Officer, Bob Patterson; and Executive Vice President and Chief Financial Officer, Brad Richardson.

Now I will turn the call over to Bob.

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Robert M. Patterson, PolyOne Corporation - Chairman, President & CEO [3]

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Thanks, Joe, and good morning. We are pleased to report record third quarter adjusted earnings per share of $0.62, and that is up from $0.58 in the prior year. It's a 7% increase, which has been driven by our continued top line expansion.

Our revenue of $833 million (sic) [$883 million] was an 8% increase over last year. Investments in our commercial team have made performance like this possible.

Our sales, marketing and R&D resources, which have increased nearly 5% organically this year, led to a 6% organic increase in revenue. And whether it's more sellers in high-growth regions, more personnel to lead marketing campaigns or additional R&D technicians to collaborate with our customers, we are delivering for them and the results are clear.

At the same time, we're also investing in our existing teams. We're conducting training to make us more efficient, more strategic, so we can get better and target high-probability, high-margin new business opportunities. And this includes investing in unique training among our sales force to improve regional and cross-business-unit collaboration as well as sales effectiveness that best represents One PolyOne.

Our intense customer-centric selling seminars educate our teams on our portfolio, applications, new technologies and best practices. These sessions are happening all over the world and are enhancing communication among our sales force. And quite simply, this is leading to more projects and more closed new business.

Color and Engineered Materials led the way this quarter with sales growth of 11% and 7%, respectively, and expanding operating income, 13% and 7%, respectively.

The growth in Color was driven by new business gains in consumer and packaging end markets. There continues to be strong pull from the marketplace for our barrier technologies that prolong shelf life, while improving recyclability, processing efficiencies and food safety.

The growth in Engineered Materials was driven by new business wins in outdoor high-performance end market. Our recent investments in this market and in composites is offering the marketplace performance-enhancing capabilities in new and existing applications.

Recall from our Investor Day at May that we provided an overview of 4 key technology platforms: composites, fiber colorants, flame retardants and barrier technologies. These platforms remain our investment in commercial focus. We are confident that strong market pull for sustainability, combined with our ability to formulate innovative solutions, will allow us to drive future growth.

And it's our long-term focus and commitment to our 4-pillar strategy that has allowed us to deliver our third quarter results despite weakening currencies and higher raw material and freight costs. Inflation is impacting all of our businesses.

In terms of freight, costs were up $3.5 million this quarter over the prior year. Our teams have been working diligently with our customers to minimize the impact from this inflation, but it is often the case that higher prices are inevitable.

This quarter, we implemented surcharges, and we are just beginning to capture them. As you know, inflation has been a persistent theme throughout 2018, and Q3 was no different.

With respect to raw material costs, nylon and butadiene, for example, which are key inputs for our Engineered Materials segment, were both up more than 50% year-over-year. Inflation is not new, particularly in the areas I just covered. What was new this quarter and really happened just in September was a slowdown in demand in certain North America end markets, such as building and construction and appliance, as well as in Asia.

Performance Products and Solutions and distribution were the most heavily impacted by these challenges, and that was observable as their operating income declined year-over-year.

The demand slowdown was abrupt with certain customers delaying orders at the end of the quarter. They are citing concerns over tariffs, rising input costs and weaker consumer demand as the primary drivers. I will have more to say on our long-term perspective and strategy, our balance -- our outlook for the balance of the year after Brad provides a segment review and financial highlights.

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Bradley C. Richardson, PolyOne Corporation - Executive VP & CFO [4]

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Well, thank you very much, Bob, and good morning, everyone.

Let me first start with our GAAP results. GAAP earnings of $0.62 per share. Special items for the third quarter 2018 did not result in net earnings per share impact as environmental remediation costs were offset by tax benefits recognized during that quarter.

Adjusted EPS from continuing operations for the quarter was $0.62, up 7% from $0.58 in the third quarter of 2017, marking a new PolyOne third quarter record.

Color, Additives and Inks drove this performance with 11% sales growth, while gaining leverage on the bottom line to improve operating income 13%.

Clearly, our organic and acquisition-related investments are working in this business, and seen by a 6% organic revenue improvement and 6% growth from acquisitions, which was offset slightly by FX impacts of a negative 1%.

Our performance is geographically balanced as well, with all regions contributing at new business gains and pricing initiatives helped to offset weaker demand conditions observed in September. Beverage packaging and consumer applications in particular continue to perform well in all regions, and wins in this market are improving overall margins.

These customers' sustainability goals are increasingly focused on improving shelf life and eliminating waste. PolyOne's barrier technologies from oxygen-scavenging additives in bottles to light-blocking additive to replace unrecyclable multilayer packaging are solving those problems and gaining market traction.

Engineered Materials also had a strong third quarter and continued its positive trajectory, expanding revenue by 7% and increasing operating income by 7%.

Underlying gross margin improvements from our composites portfolio drove this expansion. Our growing commercial team continued to use this technology to close new specialty applications to replace metal, wood and glass in various end markets, such as next-generation furniture, where we are having great success. Our composite material is improving the performance of springs in office chairs, for example, leading to weight reduction, design enhancement, durability and ergonomics in workplaces everywhere.

Our outdoor high-performance customers also benefit from the high-strength, anti-corrosion and precision performance achieved through the use of composites. For example, composite applications in end markets, such as archery, helped to expand our outdoor high-performance business 30% in the third quarter. Growth with applications like these, despite elevated raw material costs, like nylon and butadiene, both up more than 50% over the prior year, is allowing our EM segment to increase both revenue and operating income, just as they did this past quarter.

Performance, Products and Solutions had a challenging quarter, no doubt. Sales did grow slightly, but margins were compressed due to higher raw material and freight costs, as Bob mentioned. Freight costs alone impacted operating income by about $2 million.

We also noted the softened demand towards the end of the quarter within the appliance and building and construction end markets as customers delayed orders citing concerns about consumer demand for these applications.

This late quarter's softening demand largely impacted PP&S, but also POD. In fact, POD volume was flat for the quarter, entirely driven by dropoff in orders in September. POD margins were also impacted by freight increases, which are surcharges only partially offset as they were implemented in August.

It remains, however, that our distribution business is the premier world-class provider in this space with unmatched service. We do not believe we have lost any share and that the previously described weaker market conditions relate to end market demand.

You will note that all of our segments continue to generate tremendous free cash flow, and we are on pace to deliver over $200 million in total company free cash flow in 2018. We will continue to deploy that cash in organic growth initiatives and accretive bolt-on acquisitions, the investments that have and will continue to fuel our growth.

We've also continued returning cash to shareholders, as evidenced by our announcement earlier this month to increase our dividend by more than 11%. This is consistent with our planned 3-year commitment to deliver a 60% increase.

We finished this quarter with more than $480 million in available liquidity, allowing us ample ability to fund our dividend increases, invest in our strategic growth areas, as well as opportunistically buy back shares. And in this recent market volatility and pullback, we will, of course, take advantage of such opportunities.

Thank you. And with that, let me turn the call back to Bob.

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Robert M. Patterson, PolyOne Corporation - Chairman, President & CEO [5]

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Thanks, Brad. So to recap, Color and SEM drove another strong quarter of growth at PolyOne with both top line and operating income expansion. This was made possible, as I said earlier, by the important investments we've been making in commercial resources, specialty acquisitions and innovation.

With respect to innovation, consider the challenges companies are facing today in terms of consumer expectations around sustainability, what it means for their products and what it means for their business; consider the challenges associated with the global political arena, which is introducing everything from currency volatility, turmoil in Turkey and wide-ranging tariffs. There have and always will be challenges, but we've built and committed to our proven strategy that not only helps us navigate them, but to find opportunities therein.

At our Investor Day, we highlighted what sustainability means to PolyOne and the 4 cornerstones of people, product, planet and performance. And our technology platforms are inherently sustainable solutions for our customers to utilize.

Recycling is clearly at the forefront, with local and global organizations beginning to understand and invest in infrastructure that will enable consumers to increase recycling. And we are there to support them as well as our customers and OEMs with polymer solutions that increase the recyclability of their products.

At the same time, leading industry associations, such as the American Chemistry Council, are taking leadership positions to advocate for the tremendous value that plastics bring. The benefits, when one compares total cost of production and the life cycle of using and recycling plastics, in many instances, is very clear.

So there's broad work being done by our industry to first educate consumers, OEMs and governments about the value of plastics, but also to engage deeply to be part of the multi-stakeholder solution to increase recycling at this important juncture.

Earlier, I referenced our 4 key technology platforms and how they are well aligned with these important megatrends. Barrier technologies and additives improve shelf life, reduction of material required, processing efficiencies and food safety. And composites, which Brad mentioned, can light-weight just about anything, reducing environmental footprint, cost and fuel consumption. We really began building our platforms and capabilities around composites back in 2012.

We later expanded our technologies with the additions of Gordon, Polystrand, focused on the next-generation materials. And in June of this year, we expanded our portfolio even more broadly, adding a high-growth, long-fiber technology component via our acquisition of industry leader, PlastiComp, and we will continue to invest to grow in this important space.

Our fiber colorant technology is another core area with clear sustainability benefits as production can be done with less water required and wastewater generated. And our flame-retardant material science gives consumers and the environment increased safety and reassurances for end markets like wire and cable and construction, to name a few.

These are just 4 of the many areas we're innovating for our customers. And as you know, innovation is the lifeblood of a specialty company, and our Vitality Index continues to exceed 35%, which we view as world-class.

So I am incredibly excited about our long-term growth prospects and emphasize our goals of delivering double-digit EPS and increasing return on invested capital. We need to always keep this in mind and not lose sight of our longer-term objectives as we, along with many other companies, face near-term challenges today.

Higher raw material and freight costs aren't going away. And it is likely the same can be said for tariffs, which we expect will impact us directly by $5 million on an annualized basis, given what we import today.

Although our business in Turkey is relatively small, we do expect recent turmoil there to impact us in the fourth quarter. But most significantly, customers are increasingly pointing to a slowdown in certain end markets in North America and China, and we are experiencing this first-hand, as Brad mentioned, in building and construction and appliance, to name a few. And I want to put September in perspective, so please consider these data points.

For PP&S, combined sales for July and August were 7.5% higher than last year, but September sales declined 12% compared to last year. For distribution, July and August sales were up 15%, while September sales were nearly flat. In short, the September dropoff was abrupt. And if I look at the order rate for PolyOne as a whole, for October, it suggests flat sales for the months ahead. And given increase in prices, I believe this implies that unit sales are down slightly.

Although Color and Engineered Materials are expected to expand operating income in the fourth quarter, their growth may not be enough to overcome what we are seeing in PP&S, POD and the other challenges that I outlined. And we believe that this would translate to EPS of approximately $0.41, which is flat with the prior year in the fourth quarter.

Hopefully, what we are hearing from our customers and what we are experiencing today is short term. And during times like this, we have to remain even more vigilant and focused on taking care of our customers.

We are a company and culture built on excellence and execution of our strategy. We ensure it's built to last, and we stay true to it in good times and it helps us to navigate the challenging times.

We recently completed our annual strategic planning process with our leadership team and board. And while implementing freight surcharges and staying ahead of raw material inflation was a major part of the conversation, we talk more about PolyOne's underlying businesses, how we must invest and lead the company to achieve strong sustainable performance.

We discuss how to maximize the momentum from our commercial investments, where to make more and when. We challenge each other on our world-class service model and ask, "How can we make this even better?" And it's this type of approach which has led to hallmark customer offerings like LSS, Customer First and IQ Design. So we continue to ask the question and examine what investments into our customers' experience are necessary for our next innovative service offering.

We studied our technology platforms to ensure they are still positioned well with high-growth megatrends, such as light-weighting, recyclability and improved packaging. And our investments are aligned accordingly to ensure our portfolio of solutions is broad and sustainable.

We spent a lot of time discussing the customer experience and what digital tools and service improvements can deepen our relationships with current customers and earn the trust of new ones with focus on our people, how we will invest in leadership and next-generation talent to execute our strategy and realize the growth potential here at PolyOne.

And of course, we will always, always put our customers first and provide exemplary service to help them innovate and grow their business and ours.

That concludes our prepared remarks. We will now open the discussion for questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from Mike Sison with KeyBanc.

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Michael Joseph Sison, KeyBanc Capital Markets Inc., Research Division - MD & Equity Research Analyst [2]

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I guess, Bob, when you think about the headwinds that you're facing, both in demand, raw materials and as we head into '19, what do you think the propensity for PolyOne to continue to grow or hit your EPS growth goals to double digits going forward?

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Robert M. Patterson, PolyOne Corporation - Chairman, President & CEO [3]

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I mean, obviously, we outlined our expectation for the balance of this year as well as we can in seeing what we do right now. I think it's too early to comment on 2019, Mike. When we get through the end of the fourth quarter and report our results in January, I think we'll be better prepared to do that. Certainly, with respect to the investments that we have made and our commercial resources, where we are positioned from an innovation standpoint and focus on sustainability, I think we're really well positioned to do that. But given these headwinds, that's certainly a challenge in the short term.

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Michael Joseph Sison, KeyBanc Capital Markets Inc., Research Division - MD & Equity Research Analyst [4]

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Got it. And then in terms of the demand weakness, and you obviously have a pretty good feel from your customers, do you think September, October, maybe some of the fourth quarter, will be more destocking? And once they get through that, could those -- could those -- could volumes rebound down the road?

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Robert M. Patterson, PolyOne Corporation - Chairman, President & CEO [5]

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I mean, it's possible that there is a destocking effect here because that is the type of feedback that we got from our customers. As you know, we don't have a long backlog and pretty short window of visibility out into the future. What we did hear from customers was that they had more inventory on hand, in some cases, at the middle of September, and they weren't planning on taking any more in at this time. So it's possible that there's a destocking effect which has impacted September and maybe October, but what I have seen so far is that I'm not seeing that go up appreciably in November. But again, it's a little too early to say.

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Operator [6]

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Our second question comes from Frank Mitsch with Fermium Research.

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Frank Mitsch, [7]

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Guys, obviously, you put in surcharges, I guess, in August, you mentioned. In light of the weakening in demand that you outlined, what has been the receptivity to these surcharges? And maybe you can work it in with your thoughts on when we get margin recovery and expansion in the businesses.

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Robert M. Patterson, PolyOne Corporation - Chairman, President & CEO [8]

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I mean, look, customers -- I think -- first of all, customers really don't ever like getting a price increase of any kind whether or not that's in the underlying material or service provided or surcharge. I think that their understanding of the present landscape is better now than it was at the beginning of this year. Everyone has an appreciation for what we are all facing. And as a result of that, our ability to capture those I think is really high. The reality is when they got implemented in mid to late August, that just made it -- we just couldn't cover everything that incurred in the third quarter. So I think, from a freight standpoint, we should be in a much better shape in the fourth quarter. What, of course, is still a challenge for us is on the raw material side, which I think we'll still continue to see inflation in the fourth quarter.

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Frank Mitsch, [9]

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I see. And then your expectation in terms of when you'll be able to push through pricing to offset those raws. Is that a 1Q '19 event or first half '19 event, an all-year '19 event? What are your thoughts there?

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Robert M. Patterson, PolyOne Corporation - Chairman, President & CEO [10]

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Yes -- sorry I missed the second part of your question there. I mean, with respect to Color and Engineered Materials, I think we have really good line of sight to starting to see margin expansion. And you've seen some early signs of that through the middle part of this year, where I don't think that's going to be the case in PP&S and POD. So with what I know or what I see right now, I think that can continue into the first part of 2019.

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Operator [11]

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Our next questioner comes from the line of Mike Harrison with Seaport Global Securities.

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Michael Joseph Harrison, Seaport Global Securities LLC, Research Division - MD & Senior Chemicals Analyst [12]

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Wanted to see if we could dig in a little bit more on what you're seeing in Asia. Specifically, what end markets are you seeing that are moving lower? And are you seeing any signs that there's sort of a temporary shift going on of manufacturers as they move some production out of China and maybe into other parts of Asia or other parts of the world?

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Robert M. Patterson, PolyOne Corporation - Chairman, President & CEO [13]

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Well, we're certainly having -- or we're certainly hearing from our customers concerns around tariffs, Mike, in that they are giving consideration to where their production should take place. So I think that's part of it. I think to Mike Sison's earlier comment too, there could potentially be some destocking in preparation for where those moves are taking place. It's too early to say definitively on where things are going to land, but that could very well explain some of what we saw in Asia in the third quarter. For us, appliance was -- a comment that we made broadly mostly around North America, but I think that was also impacting Asia, plus just general industrial applications, if I look at the biggest impact to us in China.

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Michael Joseph Harrison, Seaport Global Securities LLC, Research Division - MD & Senior Chemicals Analyst [14]

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All right. And was wondering if you could talk broadly about what you're seeing in the Engineered Materials business. Maybe talk a little bit about the impact you're seeing from higher nylon prices, what you're seeing in wire and cable. I know that's been under pressure. Maybe also comment on the auto market.

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Robert M. Patterson, PolyOne Corporation - Chairman, President & CEO [15]

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If I can take those in maybe reverse order, to just to make sure I don't forget the beginning. Look, from an auto standpoint overall, we have a category called transportation when we think about our end markets, but it really is made up of, let's say, 2/3 traditional auto and 1/3 recreational vehicles and heavy-duty. If you just look at auto -- U.S. auto, for example, that was for the quarter actually down slightly, whereas recreational vehicles and heavy-duty were up, and they had kind of canceled each other out for the quarter, which impacted EM really to the tune of probably just being flat in that end market. Where EM is seeing great traction is in composites. When I mentioned the outdoor industry, that does include these off-road vehicles that I had mentioned, and that's up. Brad mentioned archery as well. And those are the reasons why we're seeing expanding profits and profitability in that segment. So pricing is actually -- we compare and contrast where we were in 2017 from a pricing standpoint, we are doing much better this year in getting ahead of it, moving fast. And again, to my earlier comment, customers I think have a better appreciation for the dynamics that exist today. That's not say that they willingly accept these price increases, but I think they're more aware that they are coming. That's I think being reflected in the better margin performance of this segment.

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Michael Joseph Harrison, Seaport Global Securities LLC, Research Division - MD & Senior Chemicals Analyst [16]

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Wire and cable and nylon impact in EM?

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Robert M. Patterson, PolyOne Corporation - Chairman, President & CEO [17]

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So the nylon impact, again, I think we're actually ahead on price for net positive. And then wire and cable, we have some new business that's actually coming to fruition, which is helping us to offset what I think is some slower conditions from a demand standpoint. Wire and cable, though, Mike, didn't stand out like appliance and building and construction did. So at present, we haven't seen the same demand effects there.

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Operator [18]

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Our next caller comes from the line of Colin Rusch with Oppenheimer.

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Colin William Rusch, Oppenheimer & Co. Inc., Research Division - MD and Senior Analyst [19]

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Can you give us an update on the potential M&A pipeline and how you see that potentially playing out over the next 6 to 12 months? Are there some later-stage processes that you're going through at this point? And are there some assets that you might have to or might want to acquire as folks reconfigure their geographic exposure?

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Robert M. Patterson, PolyOne Corporation - Chairman, President & CEO [20]

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Can you repeat the beginning of that, Colin? You broke up a little bit.

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Colin William Rusch, Oppenheimer & Co. Inc., Research Division - MD and Senior Analyst [21]

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Sure. Just looking at the state of the M&A pipeline for you guys.

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Robert M. Patterson, PolyOne Corporation - Chairman, President & CEO [22]

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Yes. It -- we have -- at the beginning of the year, I felt like things were a little slow. And it's always amazing how fast things can change in the course of a quarter or so. We have a really good pipeline and a number of things that we're looking at right now; in fact, a couple of bolt-on acquisitions that could come to fruition in relatively short order in Engineered Materials. So obviously, I can't say so much more about that, and it's never done until it is, but the pipeline is really robust. I'm not seeing anything from a seller standpoint that suggests at this point that they are doing that because of what's going on with the end market, but maybe so. From our perspective, if we can capitalize on that, we will. So pipeline looks really good, some pretty cool specialty bolt-ons.

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Colin William Rusch, Oppenheimer & Co. Inc., Research Division - MD and Senior Analyst [23]

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Okay. That's helpful. And then just on the PP&S, the headwinds, how much of that is coming from Asia? And how much of that is coming from the U.S. with the residential construction slowdown?

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Robert M. Patterson, PolyOne Corporation - Chairman, President & CEO [24]

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Well, construction -- I mean, PP&S in Asia was pretty small. Operating income there was down some year-over-year, so that does impact the bottom line. But with respect to the end market observations, that was predominantly a North American one.

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Operator [25]

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Our next question comes from Robert Koort with Goldman Sachs.

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Dylan Scott Carter Campbell, Goldman Sachs Group Inc., Research Division - Research Analyst [26]

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This is Dylan Campbell on for Bob. In the context of the $0.41 for the fourth quarter, can you give an updated outlook for free cash flow generation in 2018?

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Bradley C. Richardson, PolyOne Corporation - Executive VP & CFO [27]

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Yes, so Dylan, in my comments, we're on track this year to generate about -- a little over $200 million of free cash flow. So that's consistent with what we've been sharing with you.

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Dylan Scott Carter Campbell, Goldman Sachs Group Inc., Research Division - Research Analyst [28]

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Got it. And I guess going into 2019, can you give a broad outlook, some of the puts and takes we should expect going into next year?

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Bradley C. Richardson, PolyOne Corporation - Executive VP & CFO [29]

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Puts and takes in terms of the operating performance or the free cash flow?

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Dylan Scott Carter Campbell, Goldman Sachs Group Inc., Research Division - Research Analyst [30]

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Free cash flow.

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Bradley C. Richardson, PolyOne Corporation - Executive VP & CFO [31]

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Yes. So I mean, I think -- look, the free cash flow in 2019 will be driven by the underlying earnings performance of the company. I do think maybe our capital expenditures, we've got a lot of -- we've been averaging about $75 million in capital expenditures. I think it might be up next year, just with again what we're funding in terms of capacity expansions. So that could be additional $10 million or so. Our cash taxes may be up next year just with the impact of tax reform here in the United States. But net-net, I would expect we have another year of growth in our free cash generation.

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Operator [32]

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Our next question comes from Kevin Hocevar with Northcoast Research.

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Kevin William Hocevar, Northcoast Research Partners, LLC - VP & Equity Research Analyst [33]

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Bob, I just wanted a quick clarification. You mentioned that October sales were flat. Was that a POD -- you were talking about POD right before that, so was that a POD comment? Or was that a total company comment?

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Robert M. Patterson, PolyOne Corporation - Chairman, President & CEO [34]

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That was then moving to a total company comment, but you can make the same statement about really POD and PP&S.

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Kevin William Hocevar, Northcoast Research Partners, LLC - VP & Equity Research Analyst [35]

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Okay. Got you. Can you comment, too, on the slowdown in Asia? You've mentioned -- you gave us good color on the magnitude of the change in PP&S and POD, how July and August looks versus September. Can you give us some type of comments on how the quarter progressed in Asia? Do you see similar bigger slowdowns in September? Just any color you can provide on how the quarter progressed in Asia and how's that continued in October will be helpful.

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Robert M. Patterson, PolyOne Corporation - Chairman, President & CEO [36]

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Yes. And maybe I'll frame that in the context of the full year as well because I think if you went back to the full -- the first half of the year, unit sales were up 6% or 7%; and for the quarter, they're up 2%. So it was still a growth period for us, heavily weighted towards July and August. And I'm not sure that September effect manifested itself the same way in Asia as what we saw in North America. And there may be something to the destocking comment that was made earlier on the call. But from a sales standpoint, sales in July and August were higher than they were in August, but not quite as extreme as some of the changes I mentioned for POD and PP&S.

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Kevin William Hocevar, Northcoast Research Partners, LLC - VP & Equity Research Analyst [37]

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Okay. Got you. And in the building and construction end markets, you mentioned trying to determine is there destocking, is there a greater slowdown. In your conversations with customers and some of building products coverage sounds like weather -- it was a pretty wet September, so that caused some slowdown -- sounds like that cause some slowdown in parts of the country. So wondering if weather had an impact at all, if you heard that? And I don't know if you heard that, that was an impact as well.

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Robert M. Patterson, PolyOne Corporation - Chairman, President & CEO [38]

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I mean, it's possible that customers were citing that. What I was getting back, though, I think more loudly than weather was really around how much inventory they had on hand. It's possible that, that was weather-driven, but we didn't get sort of the driver of that. We were mostly hearing they just got more inventory than they need or projected that they do for the near term. So it's possible that was a factor.

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Kevin William Hocevar, Northcoast Research Partners, LLC - VP & Equity Research Analyst [39]

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Okay. And last question on -- so obviously, raws have been a headwind here for a while and will continue to be. I wonder if you could give color on price versus raws. How would that -- the net impact of that and how's that trended throughout the year and as you look into the fourth quarter. Has that been kind of stable, getting any better, as you've been realizing some price? Getting worse because inflation has been picking up? Like, how has the net impact of that been trending?

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Robert M. Patterson, PolyOne Corporation - Chairman, President & CEO [40]

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Yes. So for Color and Engineered Materials, it really has trended quite positively throughout the course of the year. It's -- Kevin, we had some challenges in 2017 at EM to start this year. I would say where we are right now, we are past that relative to pricing being ahead of raws. It's a little hard to bifurcate how the quarter would have shaken out for the company as a whole, not that, of course, for what we saw in September for unit demand. So PP&S is sort of flat except behind on freight. So freight was still really a net bad guy for PP&S. And then, as you know, on POD, for the most part that's a pass-through based on our supplier pricing.

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Operator [41]

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Our next question comes from the line of Laurence Alexander with Jefferies.

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Laurence Alexander, Jefferies LLC, Research Division - VP & Equity Research Analyst [42]

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Can you -- given the environment you're seeing, can you discuss a little bit how you're thinking about the pace of new hires, increasing staffing levels and the efficiency of your technical sales force?

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Robert M. Patterson, PolyOne Corporation - Chairman, President & CEO [43]

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Yes. I had mentioned that during our strategic planning session a couple of weeks ago with the board, I said there's a really important theme that I want to convey this year, which is around the efficiency of those commercial resources. We have, as you know, put a lot of investment into hiring over the last few years. And I believe that has been a big driver of our sales growth. But I also believe that you can't just continue to only hire. You do have to continue to see efficiency gains from those resources. And so that was a really important focus. I think we are seeing that right now. Laurence, as you know, when we brought those resources on, our average seller territory size actually went down, right? So that went down. So from an efficiency standpoint, that sounds like it's going backwards, but I think we're starting to see that actually beginning to improve and expect that to be the case in 2019, absent the macro stuff we've talked about here. Look, with respect to our hiring plans, no change to what we tend to do from a commercial standpoint. And sometimes, when markets are like this, you can find really outstanding people who have been displaced for one reason or another. So at the moment, no changes to that. But I can tell you without question we will be closely monitoring all of our other discretionary spending and expenditures, including CapEx, as we go into 2019. It's not lost on us that we need to do that under the current circumstances.

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Laurence Alexander, Jefferies LLC, Research Division - VP & Equity Research Analyst [44]

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And can you give us a feel for how you think about the response function, if there is further erosion? Is there a certain level of end-market decline or customer behavior where you change course? Or is it more of a gradual iterative approach?

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Robert M. Patterson, PolyOne Corporation - Chairman, President & CEO [45]

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Well, one of the things that I think we will be giving more consideration to is that -- Brad had talked about CapEx and expectations for next year. And I think we do have at present, some capacity constraints in a couple of places around the world. It may very well be, if this continues to pull back and doesn't get better, those capacity constraints solve themselves, unfortunately. And maybe that ends up in a little less CapEx for next year. I really want to keep the long term in focus and think about where things are going to be in 3, 4, 5 years, of course, and make the right decisions in that regard, but it's possible in the short term some of those things correct in that way.

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Operator [46]

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Our next question comes from Jim Sheehan with SunTrust.

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James Michael Sheehan, SunTrust Robinson Humphrey, Inc., Research Division - Research Analyst [47]

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In the second quarter, you noted that you had closed 2,500 new business opportunities. What did that number look like in the third quarter?

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Robert M. Patterson, PolyOne Corporation - Chairman, President & CEO [48]

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Pretty similar number. I would say that if it were July and August, my expectation was that was going to be even better. But of course, with the September results, that really negated that being the case.

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James Michael Sheehan, SunTrust Robinson Humphrey, Inc., Research Division - Research Analyst [49]

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Great. And on raw materials, what proportion of your Engineered Materials consists of butadiene as the input? It looks like butadiene prices are starting to ease here. Do you think that butadiene has peaked? And do you expect that to start to become more of a tailwind going forward?

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Robert M. Patterson, PolyOne Corporation - Chairman, President & CEO [50]

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I would say that roughly 1/3 of the segment is a TPE material, which has -- is a basic building block. Butadiene going into the styrenic block copolymer. So that helps to put hopefully sort of order of magnitude into perspective. And to the extent that butadiene does come down and eases some, I think that helps us. We have seen that in the past, where that can be the case in periods of deflation, where we can benefit from that. And hopefully, that's the case in the near term here.

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James Michael Sheehan, SunTrust Robinson Humphrey, Inc., Research Division - Research Analyst [51]

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Could you describe the lag that you have between when raw materials peak and when you start to see a benefit?

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Robert M. Patterson, PolyOne Corporation - Chairman, President & CEO [52]

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We look for the most part in our Color and Engineered Materials segments. That's pretty -- very -- as close to arm's length transactions as we can relative to pricing. Obviously, we struggle with Engineered Materials in 2017 with some of the spikes. And there was a lag because we weren't able to get the pricing that we wanted to. So I think that with respect to deflation, that can happen really inside of a quarter. So I think that if we had deflation, we could see a benefit for that inside of 60 to 90 days.

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Operator [53]

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Our next question comes from Rosemarie Morbelli with Gabelli & Company.

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Rosemarie Jeanne Pitras-Morbelli, G. Research, LLC - Research Analyst [54]

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I was wondering, Bob, when you -- your comments about the capacity expansion or shortages in certain categories, could you give us a feel as to what the categories are?

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Robert M. Patterson, PolyOne Corporation - Chairman, President & CEO [55]

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I'm going to do this by -- well, I'll do it by region first, which is that where we were most capacity-constrained really was in China. And so we had been spending some time looking at where we would invest in a new facility to not only handle that constraint but also to support future growth. Obviously, with everything that is going on in China, we have to take that into consideration. And if things change materially, that could change our perspective on that, but -- so China was #1. Number 2 really relates to being able to broaden our composites penetration into Europe and also in China. So first and foremost, I think it's the region of China; secondly, from a capability standpoint and technology, it's around composites.

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Rosemarie Jeanne Pitras-Morbelli, G. Research, LLC - Research Analyst [56]

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So have you changed your mind in terms of adding capacity in Europe? I understand that you may have, vis-à-vis China, but what about Europe? Can you give us a feel as -- what the economic environment -- demand environment is there?

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Robert M. Patterson, PolyOne Corporation - Chairman, President & CEO [57]

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At this point, no. We haven't changed our perspective on Europe. I really haven't changed the perspective on China either, if I'm optimistic about the future, where we'll be long term, it still makes sense to invest. So nothing new. Obviously, we're aware of what's going on right now and need to take that in consideration. But in the near term, I don't think it changes anything for us.

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Rosemarie Jeanne Pitras-Morbelli, G. Research, LLC - Research Analyst [58]

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And when you were talking about slowdown in China, does that encompass all of Asia? Or is it specific to the country?

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Robert M. Patterson, PolyOne Corporation - Chairman, President & CEO [59]

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I mean, most of Asia for us is Mainland China. Of course, a lot of things that we make in China find their way to the rest of the world based on where our customers ship them. So mostly, I'd say this was a China effect. India actually really did well for us despite a sort of devaluation of the rupee, which we've seen. But mostly, it's a China set of observations.

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Rosemarie Jeanne Pitras-Morbelli, G. Research, LLC - Research Analyst [60]

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And if I may ask one last question. You talked about the decline in September for building and construction demand. Could it be that inventories that your customers had been prebuying in anticipation of price increases and therefore it would be kind of short-lived type of period as opposed to being the industry itself being in trouble or slowing down?

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Robert M. Patterson, PolyOne Corporation - Chairman, President & CEO [61]

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I mean, that is a possible explanation for some of the inventory. I don't think all of it. Inflation has been with us now for some time. And so where we may have seen at the beginning of the year, I don't know if that has carried forward to where we are today. With respect to what our customers were telling us, it was mostly their concerns around end-market demand as being the bigger reason for concern in not taking additional product in September.

Well, that concludes our calls and questions. We appreciate everybody taking the time to listen in on our third quarter results. And I look forward to updating you on our fourth quarter and full year results in January.

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Operator [62]

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Thank you. Ladies and gentlemen, that does conclude today's conference. Thank you very much for your participation. You may all disconnect. Have a wonderful day.