U.S. Markets close in 8 mins

Edited Transcript of Reynolds Group Holdings Ltd earnings conference call or presentation 12-Nov-19 2:00pm GMT

Q3 2019 Reynolds Group Holdings Ltd Earnings Call

AUCKLAND Nov 27, 2019 (Thomson StreetEvents) -- Edited Transcript of Reynolds Group Holdings Ltd earnings conference call or presentation Tuesday, November 12, 2019 at 2:00:00pm GMT

TEXT version of Transcript

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

Corporate Participants

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

* Allen Philip Hugli

Reynolds Group Holdings Limited - CFO

* John Rooney

Reynolds Group Holdings Limited - CEO of Graham Packaging Business and Graham Packaging, Evergreen & Closures

* John T. McGrath

Reynolds Group Holdings Limited - CEO of Pactiv Foodservice

* Lance Mitchell

Reynolds Group Holdings Limited - CEO of Reynolds Consumer Products

* Michael King

Graham Packaging Company Inc. - President & CEO

* Thomas James Degnan

Reynolds Group Holdings Limited - CEO & Director

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

Conference Call Participants

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

* Richard E. Kus

Jefferies LLC, Fixed Income Research - Analyst

* Roger Neil Spitz

BofA Merrill Lynch, Research Division - Director and High Yield Research Analyst

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

Presentation

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

Operator [1]

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

Greetings, and welcome to the Reynolds Group Q3 2019 Results Conference Call. (Operator Instructions) Please note, this conference is being recorded.

I will now turn the conference over to your host, Tom Degnan. You may begin.

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

Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [2]

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

Thank you, Daryl. Good morning, and welcome to our third quarter results call. Present with me from RGHL are Lance Mitchell, the CEO of Reynolds Consumer; John McGrath, the CEO of Pactiv; Mike King, the CEO of Graham Packaging; John Rooney, CEO of Evergreen; Allen Hugli, the CFO of the Reynolds Group and myself.

I'll make a few opening comments on RGHL's activities and performance. Following that, each of the CEOs will give more detail on their results. And then Allen Hugli will cover the financial highlights. We'll then take your questions.

In the quarter, the North American and Japanese operations of Closure Systems International have been sold to Cerberus for approximately $615 million. The balance of the company, the South America and Europe operations, are not included at this time. These businesses are small, South America and Europe, generating approximately $10 million in EBITDA per year. The use of the proceeds has not been decided as yet.

Additionally, in the quarter, we've initiated a strategic review in the Reynolds Consumer Products business. This review is the dual-track process that we're considering an IPO or a 100% sale. No final decision has been made and due to strict SEC rules and regulations, I'm unable to comment further on this -- on our process. If and when we decide to sell, we will quickly inform the market.

Now I will summarize the performance of the group and let the CEOs take you through their businesses. When I talk about EBITDA, this will be a net number with the new IFRS rule on lease accounting benefit taken out. For the group, the third quarter revenue and EBITDA were $2.4 billion and $430 million, respectively. Year-to-date, revenue and EBITDA was $7.2 billion and $1.25 billion, respectively. Reynolds Consumer Products year-to-date EBITDA was $450 million is approximately $20 million ahead of last year. Pactiv's EBITDA at $440 million -- year-to-date EBITDA of $440 million is approximately flat with last year. Graham Packaging's EBITDA of $260 million year-to-date is down $25 million from last year. Evergreen's year-to-date EBITDA at $141 million is down approximately $25 million versus last year. As you've heard from the Q1 and Q2 call, this is a result of fiber cost and plant operations, and John Rooney will comment on that.

I'll now pass the call onto Lance Mitchell, CEO of Reynolds Consumer Products.

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

Lance Mitchell, Reynolds Group Holdings Limited - CEO of Reynolds Consumer Products [3]

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

All right. Thank you, Tom. For the third quarter of 2019, Reynolds Consumer Products reported revenue of $737 million, which is $38 million or 5% lower than the same period in 2018. That decline in revenue was largely due to the exit of certain lower-margin store-branded business and lower pricing. For the third quarter of 2019, we reported adjusted EBITDA of $160 million, excluding the change of the impact of lease accounting, which is $3 million or 2% lower than the same period in 2018. The decline in EBITDA was primarily driven by lower pricing and higher manufacturing costs, both of which were mostly offset by lower raw material costs. Taking a closer look at revenue specifically. As I mentioned in my introductory comments, we saw a decline in revenue of $38 million compared to the same period in the prior year. The key drivers of that decline are as follows: We experienced lower pricing, mainly attributable to the higher levels of trade spend in Q3 2019 compared to the same period in 2018. The increased trade spending is related to the following: one, the timing of certain promotional activities, most notably an annual promotion of a major customer that ran in the third quarter of 2019. However, that same promotion in the fourth quarter of 2019, causing us to incur trade spend in the 2019 period that we did not incur in the 2018 period; and second, we increased trade spend in an effort to support our customers, driving a shelf price point of one of our core products below threshold. In addition, the higher trade spend negatively impacting revenue, we exited certain lower-margin store branded business. While this had a meaningful impact on our revenue period-to-period, it did not have a meaningful impact to EBITDA.

On a year-to-date basis, our revenue of $2.2 billion is $38 million or 2% lower than the same period in the prior year. And for the last 12 months, revenue of $3.1 billion was $45 million or 1% higher than the last 12-month period.

Turning now to EBITDA. For the third quarter of 2019, EBITDA increased by $1 million or 1% compared to the same period in 2018. Excluding the impact of the change in lease accounting, EBITDA decreased $3 million or 2% in the third quarter of 2019 compared to Q3 2018. The key drivers of the decline in adjusted EBITDA are as follows: The impact of increased trade spend I discussed earlier, which resulted in lower pricing; two, the impact of higher manufacturing costs, driven by inflationary cost increases and the impact of lower volumes; and three, increased personnel costs. These impacts were mostly offset by lower raw material costs, driven by an overall decline in the market price of 2 primary input costs, polyethylene and aluminum.

On a year-to-date basis, our adjusted EBITDA of $448 million, excluding the change in lease accounting, is $21 million or 5% better than the 2018 year-to-date period. For the last 12 months, our adjusted EBITDA of $673 million, excluding the change in lease accounting, is $43 million or 7% better than the prior last 12-month period.

So I'll now turn it over to John McGrath for Pactiv Foodservice.

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

John T. McGrath, Reynolds Group Holdings Limited - CEO of Pactiv Foodservice [4]

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

Thanks, Lance. Pactiv Q3 2019 revenue decreased by 3% to $943 million. This decrease was primarily driven by unfavorable price changes in both our contracted and noncontracted businesses as raw material declined throughout the quarter. Additionally, lower interest segment revenue as well as the impact of business divestitures contributed to the decline. These declines were partially offset by volume growth with our external food service and food packaging customers in the U.S., Canada and Mexico, continuing the trend we've experienced throughout 2019.

Last 12 months' revenue decreased by 1% to $3.75 billion. Pactiv's Q3 2019 EBITDA decreased by 2% to $158 million in the period. Excluding the impact of the change in lease accounting, adjusted EBITDA decreased by 8%. This decrease was primarily driven by employee-related costs related to a year-over-year change in incentive compensation accrual. We also experienced higher warehousing costs as we pre-built inventories for anticipated sales that will materialize in Q4. Additionally, we incurred start-up costs associated with our new warehouse management system that will not repeat going forward. The increase in manufacturing cost was attributed to a prior year benefit change that did not repeat in Q3 2019.

Last 12 months' adjusted EBITDA decreased by 4% to $597 million. Excluding the impact of the change in lease accounting, last 12 months' adjusted EBITDA decreased by 8%. The major programs we have discussed in prior quarters continue to be on track, with the majority of the benefits to be realized in 2020. Our automation program is roughly 60% complete, and we have already seen a benefit from the reduction in labor. Our integrated supply chain program is roughly 50% complete, and we are beginning to realize gains in efficiency and planning. We have completed 2 plants with our factory asset intelligence program and have realized 5% productivity improvement over the last quarter. As we continue to use and refine these tools, we are optimistic that productivity resulting from increased output and decreased downtime will enable incremental gains.

I will now turn it over to Mike King to discuss Graham Packaging results.

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

Michael King, Graham Packaging Company Inc. - President & CEO [5]

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

Thank you, John. In Q3 Graham Packaging revenue, we experienced an 11% decline from $532 million to $475 million, which equates to a $57 million decline in revenue for the Q. The declines were primarily driven by 2 key factors. The first being lower sales volume; the second being a decline in our raw material inputs, where we pass-through these declines to our customers. So both of those equated to the $57 million decline for the Q. Looking at the last 12 months' revenue, we experienced a 7% decline down to $1.96 billion.

Shifting to EBITDA. For the Q at Graham Packaging, our adjusted EBITDA was flat when considering lease accounting. Sanitizing for the lease accounting, we are down $8 million Q-over-Q in terms of EBITDA. Again, similar to the revenue causal. Our EBITDA was primary -- or EBITDA declines primarily driven by lower sales volumes. We did have some higher operational costs linked to labor benefits and [clean energy]. And then that was partially offset by the lower input cost in our materials primarily HDPE and PET. Our units for the Q were down 10%; our (inaudible) down 9%, respectively. Looking at the year-to-date Q '18 versus Q '19 EBITDA, we're down 1%, 9%, respectively, when sanitized for lease accounting is $24 million from $284 million to $258 million. Looking at the LTM EBITDA, $371 million, respectively, down to $323 million when sanitized for lease accounting.

With that, I will hand it over to John Rooney, the CEO for Evergreen.

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

John Rooney, Reynolds Group Holdings Limited - CEO of Graham Packaging Business and Graham Packaging, Evergreen & Closures [6]

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

Thanks, Mike. For Evergreen, our revenue decreased by 2% or $8.2 million in the quarter. That was primarily driven by lower sales volume and of the $8.2 million of totality, $9.9 million was in paper, the majority of which was coated groundwood. We also had $2.5 million lower sales volume in our North American machinery business, but 100% of that will be made up in the many months. It was just a matter of timing. We also had $2.3 million in lower byproduct sales more specifically associated with lower North American carbon scrap sales to China. Our LTM revenue decreased by $400,000. In terms of EBITDA, our adjusted EBITDA decreased by $18 million. The vast majority of the $18 million is in 2 buckets, the first of which is production inefficiencies, $11.5 million, 2/3 of which is related with our paper mills. The second big bucket, which is $5.5 million worth of higher fiber costs. Those 2 items, the production inefficiencies and the fiber cost represents $17 million of the $18 million. These were partially offset by higher pricing in paper primarily uncoated free sheet business.

Our LTM adjusted EBITDA decreased by 9% to $210 million. And for the fourth quarter coming up, our run rate, while we'll be down year-over-year 2019 versus 2018, our fourth quarter run rate will be better than our prior 3 months of 2019, as evidenced by, we've got a good order book across all product lines, including board paper machines and cartons. Our Pine Bluff mill had a scheduled outage in the middle of October. The outage went as planned, and the Pine Bluff mill was then running measurably better since the outage. And our fiber costs have improved starting in early October and have remained there. We anticipate that our fiber costs will stay at historical levels and barring any unusual weather coming up in the remaining months for 2020, our fiber costs will improve $32 million year-over-year.

And with that, I turn it over to Allen.

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

Allen Philip Hugli, Reynolds Group Holdings Limited - CFO [7]

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

Thanks, John. So as Tom noted in the onset, the group has reached an agreement to sell the majority of the Closures business. This has now been classified as discontinued operations with the related [African] liabilities showing a [take for] sales. And the financial performance shown as a 1 line item in the P&L. Comparative information has been restated to reflect this change. Revenue for the group for the quarter was approximately $2.4 billion and 5% for the same period last year. We do a lower volume, lower selling prices primarily as a result of (inaudible) lower input cost and the divestiture of some operations. Year-to-date revenue of $7.2 billion in Reynolds [group sale]. On an LTM basis, revenue is approximately $9.8 billion. Adjusted EBITDA for the quarter was $486 million, down 3% from Q2 last year. As discussed during our previous call this year, the group adopted IFRS 16, the new lease accounting standard on January 1. And we [refreshed] a significant portion of what was previously recognized in the P&L as lease expense is [now equal] depreciation and interest.

Therefore, as a result of the adoption of the new standards, the group's EBITDA has increased. With difference in net debt, our EBITDA has not changed. The impact was $26 million for the quarter and $75 million year-to-date. We expect it to be approximately $100 million for the full year. Therefore, on a like-for-like basis, EBITDA for the quarter was down 8%. We are reporting pro forma adjusted EBITDA for the interim period of $1.981 billion. A full reconciliation of the cash is in the Appendix of this presentation. Capital expenditure for the quarter at $175 million was up $30 million on the same period last year. The increase was primarily due to work on new projects. These are focused on reducing our cost base and meeting customer requirements. Expected full year expenditure will be approximately $675 million.

On October 16, the group issued a redemption notice for all of the outstanding 6.875% notes due in February 2021. The principal amount, $345 million. The notes will be redeemed on November 15.

With that, I'll hand it back to Tom.

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

Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [8]

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

Thanks, Allen. And Daryl, we will be able to go to Q&A.

I would first like to just remind everybody that I'm not really allowed to comment on either the Reynolds strategic review or any other M&A activities that we haven't mentioned or thought about yet. So if you would try and limit the questions to the operations and the managers of those operations, it would be helpful. Thank you.

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

Questions and Answers

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

Operator [1]

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

(Operator Instructions) Our first question comes from the line of Richard Kus of Jefferies.

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

Richard E. Kus, Jefferies LLC, Fixed Income Research - Analyst [2]

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

So first off, on Pactiv Foodservice, you guys talked about several -- it sounded like discrete issues there, including maybe some start-up costs. It sounded like there was a benefit change, and then there were higher warehousing costs as a result of that inventory build. Can you give us a sense of how much of those ended up costing you in terms of EBITDA for the quarter?

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

John T. McGrath, Reynolds Group Holdings Limited - CEO of Pactiv Foodservice [3]

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

Sure. The higher employee-related costs were $5 million for the quarter. That's mainly incremental incentive compensation year-over-year change. The logistics costs, just the warehousing start-up costs and some other inefficiencies due to high inventories was $4.5 million. The manufacturing costs were $5.4 million. Of that, $4.5 million was a change in the benefits accrual that we had last year that did not repeat. It was favorable last year, $4.5 million. It did not repeat this year, and those were offset by favorable net material cost of $5.4 million.

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

Richard E. Kus, Jefferies LLC, Fixed Income Research - Analyst [4]

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

Got it. And those costs -- I mean how much of that is onetime in nature, and you would expect that to go away in Q4 and subsequent quarters?

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

John T. McGrath, Reynolds Group Holdings Limited - CEO of Pactiv Foodservice [5]

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

Yes. So the higher employee-related costs, obviously, based on business performance, those could stay at that level or into the next quarter and on into 2020. Again, we adjust our incentive compensation accrual based on business performance year-over-year. So that's really relative to how the business is performing. The logistics costs, as we start up incremental warehouses, we'll see some other start-up costs. So we'll -- but on the warehouses that we've already started up on the new warehouse management system, those costs go away. And then the onetime manufacturing hit a $4.5 million, that is a onetime that will not repeat.

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

Richard E. Kus, Jefferies LLC, Fixed Income Research - Analyst [6]

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

Got it. Okay. And then on the Reynolds Consumer Products business, you guys talked about a volume decline in that business. Can you give a little bit more color on what's causing that volume decline? And then how much of that was just timing of some of these promotional activities on a year-over-year basis?

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

Lance Mitchell, Reynolds Group Holdings Limited - CEO of Reynolds Consumer Products [7]

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

I think you can get some color on historic [price level]. I did not talk about volume. I indicated pricing was down. Our volume was actually up modestly in the quarter.

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

Richard E. Kus, Jefferies LLC, Fixed Income Research - Analyst [8]

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

Okay. And then how much EBITDA do you think got impacted as a result of the timing of the issues -- or excuse me, the promotional activities?

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

Lance Mitchell, Reynolds Group Holdings Limited - CEO of Reynolds Consumer Products [9]

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

$10 million.

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

Operator [10]

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

(Operator Instructions) Our next question comes from the line of Roger Spitz of Bank of America.

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

Roger Neil Spitz, BofA Merrill Lynch, Research Division - Director and High Yield Research Analyst [11]

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

For the Closures business that you're selling, those with -- with the $107 million of LTM EBITDA, what were the 2018 sales, the Q3 '19 sales and the LTM Q3 '19 sales of that business, please?

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

Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [12]

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

I think we'll have to get back to you. I don't think anybody in this room has those numbers in their heads. Is that all right?

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

Roger Neil Spitz, BofA Merrill Lynch, Research Division - Director and High Yield Research Analyst [13]

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

Okay. Of course. What is your plan for the remainder of the Closures business that you're retaining? Would you look to do something with it or retain it?

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

Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [14]

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

We're investigating either of those alternatives at this time. I think if there was a good opportunity to sell the South American and European business, we would enter into that. If not, we're happy to retain it.

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

Roger Neil Spitz, BofA Merrill Lynch, Research Division - Director and High Yield Research Analyst [15]

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

Got it. And I wonder the volume changes in each segment. I don't believe -- or maybe I didn't hear it on the prepared remarks. Could you go through the percent change? Obviously, in consumer products, you just said volume was up modestly. So we don't have to do that one, but in Pactiv Foodservice, Graham and Evergreen, can you give a sense of volume percent change, please?

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

Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [16]

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

Sure. So for Pactiv, we're up about 1.1%.

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

Michael King, Graham Packaging Company Inc. - President & CEO [17]

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

For Graham Packaging, we're down 10% on unit.

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

John Rooney, Reynolds Group Holdings Limited - CEO of Graham Packaging Business and Graham Packaging, Evergreen & Closures [18]

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

Evergreen, down approximately 2-point-some percent primarily in the paper business, not packaging.

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

Roger Neil Spitz, BofA Merrill Lynch, Research Division - Director and High Yield Research Analyst [19]

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

I'm sorry. Mainly in paper and not packaging, did you say?

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

John Rooney, Reynolds Group Holdings Limited - CEO of Graham Packaging Business and Graham Packaging, Evergreen & Closures [20]

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

Correct.

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

Roger Neil Spitz, BofA Merrill Lynch, Research Division - Director and High Yield Research Analyst [21]

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

Okay. On -- and just looking at the presentation and impact of Foodservice, it was discussed the unfavorable price change as a result of -- was that prices falling more than raw materials? I mean can you...

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

Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [22]

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

No, no, no. I would -- yes, that's a good question. So 70 -- roughly 65% to 70% of our business is contracted. So as raw materials fall, we pass through the price reductions. On the flip side, as raw materials increase, we get the price up. The remainder of the business that's not contracted is what we'll call street volume that transacts on a daily, weekly type basis, and we have to be competitive. So as raw materials fall, we're required through competitive pressure to lower our price. So if I look across the board, the unfavorable price change for the quarter was about $21 million. The lower inter-segment revenues was about $15 million. Business divestitures cost us another $5 million, and that was partially offset by about $14 million in volume gain. But again, those -- the price changes are nothing new. That happens routinely in our business. Our price goes up and down with the fluctuation of raw materials.

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

Roger Neil Spitz, BofA Merrill Lynch, Research Division - Director and High Yield Research Analyst [23]

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

Sure. But just to make sure I understood. It was in the so-called street volumes that you felt the contraction rather than in the contracted volumes.

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

Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [24]

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

No, no. It was both, it was both. The cost -- so raw material falls, we lag. So if raw materials fell, call it, Q2 and beginning of Q3, we adjust in Q3 to reflect that. As raw materials are falling, our competition of mix and pricing decisions that we either elect to meet or we elect not to meet. And in some cases, in order to retain the business, you have to reduce your price as raw materials fall. So it's not 1 or the other, it's both.

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

Roger Neil Spitz, BofA Merrill Lynch, Research Division - Director and High Yield Research Analyst [25]

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

Sure. But in the contract business with the lag, as raw materials are falling, presumably, you actually get a benefit because the raw materials fall and you buy that presumably monthly. And your prices are sort of lagging behind that. That would give you a short term benefit, would you not?

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

Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [26]

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

Yes. So throughout the second and third quarter, raw materials all did not move in the same direction. We make products out of 13 different materials. Some moved up, some moved down. So I'm giving [just added] for the Q.

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

Roger Neil Spitz, BofA Merrill Lynch, Research Division - Director and High Yield Research Analyst [27]

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

Fair enough. And lastly, in Evergreen, if you didn't already mention this, what was the Q3 '19 and year-to-date impact EBITDA impact of the production inefficiencies?

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

John Rooney, Reynolds Group Holdings Limited - CEO of Graham Packaging Business and Graham Packaging, Evergreen & Closures [28]

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

I did mention it. In the quarter, the production inefficiencies, an $11.5 million adverse.

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

Operator [29]

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

We have reached the end of the question-and-answer session. I will now turn the call back over to Tom Degnan for any closing remarks.

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

Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [30]

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

Thank you very much, Daryl, and thank you for calling in and participating in this third quarter review, and we look forward to speaking to you again in about 3 months. Bye.

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

Operator [31]

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

This concludes today's conference. You may disconnect your lines at this time. Thank you for your participation, and have a wonderful day.