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Edited Transcript of Reynolds Group Holdings Ltd earnings conference call or presentation 1-May-19 1:00pm GMT

Q1 2019 Reynolds Group Holdings Ltd Earnings Call

AUCKLAND May 9, 2019 (Thomson StreetEvents) -- Edited Transcript of Reynolds Group Holdings Ltd earnings conference call or presentation Wednesday, May 1, 2019 at 1:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Allen Philip Hugli

Reynolds Group Holdings Limited - CFO

* Floyd E. Needham

Reynolds Group Holdings Limited - CEO of Closures

* 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

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Conference Call Participants

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* Brian J Lalli

Barclays Bank PLC, Research Division - Director & Senior Analyst

* James Yoon

Citigroup Inc, Research Division - High Yield and Leveraged Loans Research Associate

* Karl Blunden

Goldman Sachs Group Inc., Research Division - Senior Analyst

* Mack Fuller

The Blackstone Group L.P. - Principal of GSO

* Richard E. Kus

Jefferies LLC, Fixed Income Research - Analyst

* Roger Neil Spitz

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

* Samuel Thomas McGovern

Crédit Suisse AG, Research Division - Research Analyst

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Presentation

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Operator [1]

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Greetings, and welcome to the Reynolds Group 2019 First Quarter Results Conference Call. (Operator Instructions) As a reminder, this conference is being recorded.

I would -- it is now my pleasure to introduce your host, Tom Degnan. Please go ahead.

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

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Thank you, Stacy. Good morning, and welcome. Today, I'm going to start off by asking the 5 CEOs to discuss their Q1 results. First off will be Reynolds Consumer Products' CEO, Lance Mitchell; followed by Pactiv's CEO, John McGrath; Graham Packaging's, Mike King; John Rooney from Evergreen; and Floyd Needham from Closures.

Revenue for the quarter at $2.471 million (sic) [$2.471 billion] was down slightly from Q1 of last year of $2.5 billion. EBITDA for the same period was $405 million, up from Q1 2018, $392 million. This result was impacted by our adoption of the IFRS 16 new accounting rule.

Before the CEOs start, Allen Hugli, the group's CFO, will explain this new standard. As usual, at the end, we'll take your questions. But now, I'll give you a few comments on the business.

In the quarter, we are advancing programs, which I spoke of last year. Significant capital investment is happening in automation, which will lessen the impact of the tight labor market and allow us to produce more product. We made investments in logistics management to address the driver shortage with our carriers. Our intelligent factory program is going to help us produce more product on the same asset and improve quality and cost. We're continuing to add capacity to meet customer demands. A couple of examples of this, we are now at capacity in waste bags, so we're investing in new waste bag capacity. And then on the environmental side, we are investing to convert to more recyclable resins to meet the environmental concerns related to plastic cups and bottles. We're building our e-commerce efforts. And we now are the exclusive supplier of private label sandwich bags and waste bags to Amazon. Our mill operations are improving but at a slow rate.

In the course of the year, each of these groups should start to show improved results -- each of these assets should start to show improved results for the group. The strategic review of the Closures business is happening, and at this time, I have really no further comment on that. When there is something to report on this, I will.

With that, I will turn the call over to Allen.

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Allen Philip Hugli, Reynolds Group Holdings Limited - CFO [3]

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Thanks, Tom. On January 1, the group adopted IFRS 16, the new lease accounting standard. The standard requires the group to recognize assets and liabilities in relation to most arrangements that were previously considered operational leases. Approximately, $400 million of additional assets and liabilities are now recorded on the balance sheet. Under IFRS, a significant portion of what was previously recognized in the P&L as a lease expense is now characterized as depreciation and interest. Therefore, as a result of adopting the new standard, the group's EBITDA has increased. The impact is approximately $24 million for the first quarter, $100 million annually. This differs from U.S. GAAP. EBITDA does not change. The standard has been applied prospectively, so the comparatives have not been restated.

And I'll now hand it over to Lance.

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Lance Mitchell, Reynolds Group Holdings Limited - CEO of Reynolds Consumer Products [4]

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Thank you, Allen. Reynolds Consumer Products revenue of $665 million was eventually flat in Q1 2019 versus the prior year. Price increases were offset by lower sales volume. And there are 3 primary drivers for the lower sales volume in the quarter. First, Reynolds Wrap was above in key price points, specifically, $4 for our flagship product, 75 foot standard. This has resulted in consumers' deferring purchases for the entire foil category. We've now lowered prices to retailers to encourage and to reduce prices back below $4.

In addition, there were some high inventories across most channels in Q1 coming off with strong Q4 shipments as you'll recall from our Q4 earnings call. Meanwhile, Reynolds Wrap's share of the category remained strong. Secondly, tableware is due to the timing of promotions this year versus last year, lower film sales in the grocery channel, primarily driven by higher price points, which we're correcting by reducing package counts and also due to the Easter shift from April 1 of last year to April 21 this year, which pushed some shipments into Q2 this year. Third, Hefty waste bag consumption has rapidly converted to flexible embossed bags and smooth bags. As a result, we're temporarily oversold for Hefty embossed bags and have excess smooth bag capacity. We're converting smooth bag production as Tom indicated to flexible embossed. Overall, our Hefty brand sales remained very strong. All of these drivers are timing related. There's no systematic challenge to our sales volume. And for the last 12 months, our revenue has grown 5%.

Turning now to EBITDA. EBITDA for Q1 2019 was up 4% to $112 million versus Q1 2018. Excluding the impact of the change in lease accounting, adjusted EBITDA increased by $1.3 million. Price and trade improvements drove $12 million of EBITDA growth in the quarter, partially offset by $5 million impact of slower volume, which I discussed in detail previously.

Net, price and volume contributed $7 million of EBITDA growth for the quarter. Logistics and SG&A were up slightly above prior year at $1 million each. And conversion costs were $4.5 million higher than prior Q2 (sic) [Q1], primarily driven by higher labor rates, which we planned for and offset with price increases. Finally, advertising was $4.5 million higher. This is timing versus prior year Q1. Our forecast for the full year at advertising is flat for 2018. For the last 12 months, our EBITDA has grown 3%.

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

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

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Thanks, Lance. Pactiv's Q1 2019 revenue increased 3% or $25 million to $918 million during the period. This increase was primarily driven by favorable price pass-through in our contracted businesses. Last 12 months' revenue increased by 1% or $52 million to $3.8 billion. If you exclude the revenue from our 2018 European business divestiture, last 12 months' revenue rose by $98 million or 3%. Pactiv's Q1 2019 adjusted EBITDA increased by 9% or $12 million to $139 million. Excluding the impact of the change in lease accounting, adjusted EBITDA increased by 2% to $130 million. This increase was primarily driven by increased pricing pass-through and was partially offset by higher raw material cost and higher manufacturing/conversion cost. As we discussed last quarter, we have embarked on a program called Total Labor Management, which develops planned specific strategies around recruitment, training and retention. We have now implemented this program in over 50% of our facilities and are encouraged by the early results. We are replacing many of the temporary workers with permanent positions and will continue to realize increases in productivity as these new employees come fully up to speed in their new roles. Additionally, our automation projects continue to be implemented in both our manufacturing plants and warehouses, with an expected annualized benefit in excess of $50 million when fully operational.

Our last 12 months' adjusted EBITDA decreased 12% to $572 million when excluding the impact of the change in lease accounting. We continue to be optimistic about our full year 2019 performance. We have secured new business awards that will materialize and contribute throughout the year. We continue to implement our integrated supply chain solution, which will simplify our sales and operations planning process and deliver warehouse and transportation planning savings. We have also completed our first factory asset intelligent program, and we have now moved on to our second site. Early productivity improvements have demonstrated positive results. These initiatives coupled with full freight -- full recovery of 2018 freight increases should enable us to have a good year.

I will now be followed by Mike King, who will discuss Graham Packaging results.

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Michael King, Graham Packaging Company Inc. - President & CEO [6]

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Thank you, John. At Graham Packaging, I'll open by saying that we're slightly ahead to even where we anticipated for the first quarter of 2019, both in earnings and in revenue. Our revenue Q-over-Q, however, is down 4% from $537 million to $513 million. Our decreases are primarily driven by lower sales volume as a result of a very large customer going to self-manufacture approximately 12 months ago. And so we're seeing a lagging effect of that in both our top and bottom lines. We've had some strategic business exits in our European or U.K. business and a facility in China. We've had -- we've experienced some unfavorable foreign currency impacts, mainly linked to the Brazilian real and the euro. And this has all been partially offset with our ability to pass through resin cost -- higher resin cost to our customers as well as some new business wins across several of our vertical businesses.

On a LTM basis, our revenues also decreased 4% from $2.14 billion, down to $2.06 billion or $77 million, effectively.

Shifting to EBITDA. At Graham Packaging, our EBITDA has decreased 2% to $95 million, down from $97 million. When excluding the IFRS 16 change Allen mentioned, we're effectively down 10% or $96 million, down to $87 million. This decrease is very much the same story as what I shared on the revenue line. We're really down due to sales volume. We do have some higher operational input costs, mainly linked to labor, energy and benefits. In those, we have projects that are in place to offset that as we go through 2019. We have seen a slight decline in pricing linked to us, extending large pieces of business and extending contracts. This again was partially offset from pricing -- us being able to pass through higher material costs to our customers as well as some wins that are coming through here in the Q. At an LTM basis, our adjusted EBITDA decreased 13% from $397 million to $347 million or $50 million, effectively. Taking into account the IFRS 2016 implementation, those numbers go to -- down 15% or from $393 million to $339 million.

Again, we're optimistic at Graham Packaging. We have embarked on several projects linked to footprint rightsizing activity. We've also got some cost control activity around to be able to address the tightened labor market, similar to what you heard in the other businesses. And we're very optimistic about our forecast through the remainder of 2019.

And with that, I am going to hand it over to John Rooney, the CEO of Evergreen Packaging.

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John Rooney, Reynolds Group Holdings Limited - CEO of Graham Packaging Business and Graham Packaging, Evergreen & Closures [7]

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Okay. Thanks, Mike. For Evergreen, our revenue increased by 1% to $398 million in the quarter. The increase was primarily driven by higher pricing, partially offset by lower sales volume. Our LTM revenue increased by 2% to $1.606 billion. Our adjusted EBITDA increased by 14% to $48 million. Excluding the impact of the change in lease accounting, our adjusted EBITDA increased by 10% to $46 million. The increase was primarily driven by, again, higher pricing, partially offset by higher input costs, and the big story there is fiber. Our LTM adjusted EBITDA decreased to $36 million (sic) [$236 million]. Excluding the impact of the change in lease accounting, the LTM adjusted EBITDA decreased by 1% to $234 million or $1 million (sic) [$3 million].

I'm going to hand it over to Floyd Needham.

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Floyd E. Needham, Reynolds Group Holdings Limited - CEO of Closures [8]

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Thank you, John. Our first quarter 2019 revenue was down $30 million or 14%, of which 9% or 4% was due to the strategic business exit in Asia. Excluding the divested business, revenue was down $21 million or 9%, $14 million due to lower volume and $5 million due to the foreign currency impact. Last 12 months' revenue decreased by 9% or $80 million, of which $78 million was due to the strategic business exit in Asia. First quarter 2019 EBITDA was down $3 million or 10% due to lower sales volume for $3 million, lower pricing of $2 million and unfavorable foreign currency impact of $2 million. These negative impacts were favorably offset by material cost reductions of $4 million and SG&A cost controls of $2 million. Last 12 months' EBITDA decreased by 13% or $17 million. Net of the strategic business exit and lease impact, EBITDA decrease by 6% or $7 million. Lower pricing was unfavorable, $10 million, sales volume contributed negative $5 million, and unfavorable foreign currency contributed negative impact of $3 million, once again, mitigated by lower SG&A to a positive $3 million, lower net material, $7 million, and a favorable operational performance. As me and my peers have said, we still expect to be on budget for 2019 with several of our cost reductions offset the softness at the start of the year.

And with that, I'll hand it over to Allen.

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Allen Philip Hugli, Reynolds Group Holdings Limited - CFO [9]

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Thanks, Floyd. In summary, revenue for the group for the quarter was approximately $2.5 billion, down 1% from the same period last year. On an LTM basis, revenue was approximately $10.6 billion, essentially flat. For the quarter, adjusted EBITDA was $405 million, including the estimated $24 million impact of the new leasing standard. We have reported pro forma adjusted EBITDA for the LTM period of $1.91 billion. The full reconciliation is attached as an appendix to this presentation. Capital expenditure for the quarter at $126 million was down $7 million from the same period last year. This decrease was primarily due to timing. I expect in the full year expenditure will be approximately $650 million. The projects are primarily focused on reducing our cost base and meeting customer requirements.

Now I'm going to hand it back to Tom.

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Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [10]

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Okay. Stacy, we can take some questions now, please?

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question comes from Sam McGovern with Crédit Suisse.

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Samuel Thomas McGovern, Crédit Suisse AG, Research Division - Research Analyst [2]

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Just on resin and aluminum prices. Those are substantially lower year-over-year. Should we expect as we move to 2019 that should be more of a tailwind or do volume mix and freight costs offset some of that and labor as well?

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Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [3]

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Do you want to talk to resin?

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

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Yes, so -- this is John McGrath. On the resin side, we expect resin to be pretty flat from the, call it May period through the end of the year. So we're just really now starting to see a lot of that benefit come through because of our vital accounting. So those products coming out of the warehouses and into our customers as we sell out, we're realizing that benefit. I would not anticipate seeing a huge tailwind on resin for the remainder of the year, but we do have plans and programs to offset the increased labor costs and some of the increases that we're seeing in logistics. So net-net, no impact -- favorable impact for resin, but we do have programs to offset some of the cost that we're going to see in our operations.

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Samuel Thomas McGovern, Crédit Suisse AG, Research Division - Research Analyst [5]

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Okay. And then on the labor...

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Lance Mitchell, Reynolds Group Holdings Limited - CEO of Reynolds Consumer Products [6]

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On the...

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Samuel Thomas McGovern, Crédit Suisse AG, Research Division - Research Analyst [7]

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I'm sorry go ahead.

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Lance Mitchell, Reynolds Group Holdings Limited - CEO of Reynolds Consumer Products [8]

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This is Lance Mitchell regarding aluminum. Aluminum has come down, I wouldn't call it, substantially, it's come down some. And as I mentioned in my comments, we are passing that on to retailers to get the price points back below $4. So our margins will remain consistently strong, and we expect velocities to improve as a result of getting below that price point.

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Samuel Thomas McGovern, Crédit Suisse AG, Research Division - Research Analyst [9]

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Okay. Got it. And then in previous call, you guys discussed increasing automation to deal with some of the labor issues you guys had. Can you remind us when you expect that to start to see the benefit in your results?

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Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [10]

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Well, yes. I think this is a significant program. John mentioned that in his plants, he's been addressing the automation. He is also addressing the intelligent factory, which is a just a way of monitoring your lines and their process and figuring out how to make more good product out of the same asset. And the automation issue is having enough people in the plants to run your lines. I would say John (inaudible) on his second plant on the automation of the factory or the intelligent factory. And what do you say, you're about halfway through your...

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John T. McGrath, Reynolds Group Holdings Limited - CEO of Pactiv Foodservice [11]

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Yes. We're probably about halfway through our automation program, so we're actually realizing that benefit. We're starting to see that benefit come through. And as I said, when fully implemented, we expect just an impact to business about a $50 million cost reduction due to automation.

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

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And these projects are existing in the other businesses, but then John's, it's a much larger effort.

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Samuel Thomas McGovern, Crédit Suisse AG, Research Division - Research Analyst [13]

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Great. And then just in terms of the capital structure, any updated thoughts in terms of refinancing? And then in terms of any potential asset sales, can you remind us use of proceeds if there'd be any specific debt issues that you might target?

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

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Yes, Allen will talk to that.

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Allen Philip Hugli, Reynolds Group Holdings Limited - CFO [15]

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Sure. So on the first piece, there is no real update on the capital structure. On the second piece, if an asset fails, whether it's the indenture or the credit agreement, there's quite specific procedures that we need to follow as a tail proceed. And basically, we need to offer the proceeds to the lenders. I would suspect if the lenders don't want the money, we would make some voluntary prepayments.

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Operator [16]

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Our next question comes from Roger Spitz with Bank of America.

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Roger Neil Spitz, BofA Merrill Lynch, Research Division - Director and High Yield Research Analyst [17]

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In terms of the IFRS 16 $100 million pro forma benefit for the year, should we assume that it splits among the segments roughly as it did in Q1 '19?

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Allen Philip Hugli, Reynolds Group Holdings Limited - CFO [18]

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Yes.

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

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Okay. In Graham, are there any major contacts up for renegotiation in 2019?

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Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [20]

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Mike, do you want to talk to that?

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Michael King, Graham Packaging Company Inc. - President & CEO [21]

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Yes. No, there's nothing major that hasn't been renewed that comes to mind.

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Roger Neil Spitz, BofA Merrill Lynch, Research Division - Director and High Yield Research Analyst [22]

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And how about in Closures?

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Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [23]

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Floyd?

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Floyd E. Needham, Reynolds Group Holdings Limited - CEO of Closures [24]

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No, we relatively are calm for the next couple of quarters.

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

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Great. And then I guess, lastly, coming back to Graham, can you provide a sense of what the volume change was in units on a unit percentage basis for Q1 '19 year-over-year?

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Michael King, Graham Packaging Company Inc. - President & CEO [26]

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Yes. So the units I'm going to give you are pounds not bottled units. We're down 4%.

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Operator [27]

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Our next question comes from Karl Blunden with Goldman Sachs.

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Karl Blunden, Goldman Sachs Group Inc., Research Division - Senior Analyst [28]

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Thanks for the color on where you're adding capacity. You mentioned some of your waste bags. Interested in other areas where you're shifting potentially from capacity today and then doing a shift? Or where you feel tight and you're adding capacity?

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Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [29]

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Well, I just gave you a couple of examples of where we're spending capital. There's much -- there's many more projects related to the environmental. So I just talked about bottles and cups. But we have -- you would know that there's a lot more interest in recyclability and environmentally friendly products, single-use products, all of that. And we are working quite hard to make sure that we have alternatives. For example, we have alternatives for straws, and we have -- and we've had for a long time PLA alternative. We've had EarthChoice, which is a full line of environmentally friendly products, which is building off of all of that because our expectation is that this is going to be a requirement by the market. In terms of other capital investment, some of it is refreshing lines. There's a significant amount of that. That's happened at Graham Packaging that we will continue with, and these are 20-year-old lines that are out of sync with a new-generation products. And we're investing for newer lines to lower our cost and raise our productivity. And you can go right across the groups, we're spending, I think, $750 million in capital -- $650 million in capital this year, which is a pretty high number for us, but it's split much more towards improvement of operations. We have stay in business CapEx is the same. And our environmental CapEx is pretty well caught up in most plants. So most of what we're spending is to improve the operations. I hope that answers your question.

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Karl Blunden, Goldman Sachs Group Inc., Research Division - Senior Analyst [30]

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Yes, that does. And then do you have an early read on market share on the environmentally friendly product? It's probably a tough question to answer, but do you feel like market share could be similar as you have in your legacy products?

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Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [31]

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I'm sure. I mean that's our goal. I could tell you that the actual conversion to these kinds of products is very small in part I think because the cost of an environmentally friendly -- paper straw versus the plastic straw is significantly higher. So until our customers convince themselves that their customers, the consumers are willing to pay the cost, I think it's going to move slowly.

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Karl Blunden, Goldman Sachs Group Inc., Research Division - Senior Analyst [32]

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That's helpful. And just quick on the housekeeping front. On your capitalization summary, you provide your net multiple of EBITDA there, excluding securitization facility debt as you typically do. I don't think I'm seeing the lease accounting over there. Should we think about your leverage targets now is including the incremental liabilities from the IFRS 16 change? So you're basically making -- giving you the same target, given you'll have some extra EBITDA and some extra debt. Does that change the way you're thinking about things optically?

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Allen Philip Hugli, Reynolds Group Holdings Limited - CFO [33]

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I mean in terms of our credit agreement, the lease adjustment is specifically carved out. So this does not affect our leverage from a credit agreement perspective, depending how you guys want to look at it, but strictly speaking in terms of our covenant, that does not include it, and it's similar under the terms of the indentures.

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Operator [34]

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Our next question comes from Richard Kus with Jefferies.

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Richard E. Kus, Jefferies LLC, Fixed Income Research - Analyst [35]

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So just quickly to revisit Karl's question on the environmentally friendly options, could you talk a little bit about how margins compare to your traditional products in those products?

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Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [36]

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Well, I mean, the first thing I'll tell you is, again, there isn't a lot of acceptance of these products as yet, so it's relatively small. And then I'll let John and Lance talk about in their own businesses, whatever products they are putting out, what they think of the margins.

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John T. McGrath, Reynolds Group Holdings Limited - CEO of Pactiv Foodservice [37]

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Sure. Yes. So I'll start. For many years, packaging has been purchased based on: one, cost; and two, functionality. And now with the advent of more and more people requesting "environmentally friendly" products, our goal would be that at worst -- as people trade from a commodity product to an environmentally friendly product, our margins will be, at worst, neutral and at best, we will see some improvement. The average cost increase for an environmentally friendly product versus the commodity product, if I look across the spectrum, whether cups, cutlery, straws, containers, is probably 4 to 5x. So if a polystyrene foam container is X, the next closest replacement made out of a what's perceived as environmentally friendly material would be 4 to 5x as expensive. So the [time's] pulling earlier. Everybody wants environmentally friendly products if they were cost-neutral. That's not the case. That's not going to be the case just because of manufacturing process and the inherent cost difference in the raw materials. So we're prepared. We make a pact that we make products that are 13 different basic materials, and many of our production lines are fungible, meaning if it's polystyrene today, tomorrow, it could be PET or PLA. We're material agnostic. So we'll give the customer what they want, but we're not going to take a margin hit for that.

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Lance Mitchell, Reynolds Group Holdings Limited - CEO of Reynolds Consumer Products [38]

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And in Reynolds Consumer Products, similar to what John described, our margins are the same for the environmentally friendly products. For example, we have 100% recycled oil under the Reynolds brand, and we price that at a -- at the same margins that we have for our Reynolds Wrap product. Unfortunately, because of that higher margin or price, we don't see as much velocity as we do in our standard products.

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Richard E. Kus, Jefferies LLC, Fixed Income Research - Analyst [39]

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Got it. That's all helpful, I appreciate it. And then just in Reynolds Consumer, you talked about passing through some of the higher -- or excuse me, some of the lower aluminum cost. Have you guys, since aluminum spiked up last, I think, spring, relative to where you are today, have you taken an absolute margin reduction there simply because you're bumping up against that $4 threshold?

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Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [40]

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No. We have not taken a margin reduction. And we've taken prices back below $4, but we still have maintained our margins.

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Richard E. Kus, Jefferies LLC, Fixed Income Research - Analyst [41]

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Got it. Okay. And then lastly on the Graham business. You said that it was running ahead of expectations so far in Q1. What is it that specifically drove that relative to your expectations? And do you expect this to be sustainable as you progress through the remainder of the year?

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Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [42]

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Mike?

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Michael King, Graham Packaging Company Inc. - President & CEO [43]

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Specifically, we've got projects that are curbing the increase we see in labor. So in our factories, we're able to reduce our input costs ahead of where we anticipated. And then in terms of momentum around that, as I mentioned when I spoke previously, a lot of what we anticipate is some acceleration around footprint and cost-out initiatives in our operations. So yes, we expect to see us outpaced what we've done in Q1, absolutely.

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Operator [44]

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(Operator Instructions) Our next question comes from James Yoon with Citi.

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James Yoon, Citigroup Inc, Research Division - High Yield and Leveraged Loans Research Associate [45]

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Can you just provide a little bit more detail on the footprint and cost rationalizations that you guys talked about at Grahams? Kind of how much cost savings do you guys expect? And when can we expect to see that in your results?

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Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [46]

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Mike, why don't I -- I think that #1, I can't give you a number as to how much or when because we're still determining which locations are viable, which locations maybe should be consolidated and so forth. So I can't tell you that at the end of year, Graham Packaging will have 4 or less plants and the result of that would be a savings of $10 million. I don't know the answer to that. And I don't think Mike does either at this point.

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James Yoon, Citigroup Inc, Research Division - High Yield and Leveraged Loans Research Associate [47]

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Okay. That's fair enough. And can you just remind us the customer -- the decline in contract pricing that you guys experienced at Graham, when do we get to lap that?

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Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [48]

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Yes. Mike, when do we -- the comparative to last year, when did the self-manufacturing customer stop -- when did it start? Was it beginning first quarter last year?

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Michael King, Graham Packaging Company Inc. - President & CEO [49]

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Yes. So it was -- actually, Q4 of '17 was really when we largely started experiencing it. And we anticipate the Q4 really being the period -- Q4 of '19 being the period where we lap those results, influencing the Q-over-Q and year-over-year results.

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James Yoon, Citigroup Inc, Research Division - High Yield and Leveraged Loans Research Associate [50]

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Got it. Okay. And then the customer contract price down, also, where you guys had to extend to -- in order for you guys to extend the contract?

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Michael King, Graham Packaging Company Inc. - President & CEO [51]

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Yes. So it's not an easy answer to that. What I can tell you is this business will always have a price-for-term element, where -- when you renew your business, we're going to have to find a way to create value. I will tell you we're already lapping on a forward-looking basis in turn of backlog business. We outpace our need to reduce price to gain new business. So renewals and then extensions always are going to require value creation as long as it's there. I'm not sure, we lap it outside of our barely reduced cost. And so I would say, the end of this year will be when we first start to experience us getting ahead of that, but that dynamic itself is unpredictable, given the size and the kind of terms that -- no one knows, I can't answer it cleanly.

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James Yoon, Citigroup Inc, Research Division - High Yield and Leveraged Loans Research Associate [52]

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Got it. That's fair enough. And then you guys talked about what you guys expect from your automation initiatives in Pactiv. Just kind of wondering if you can kind of go through the rest of your segments and if you guys have put any numbers on the kind of benefits you guys expect to see in the rest of your businesses.

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Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [53]

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No. I don't think -- I talked about Pactiv and John talked about Pactiv because it's a big program that we spent a lot of time on. I don't think these guys are prepared, or nor am I to go business by business and say that again, there'll be 10 bodies out in this place, and it will save us $50,000. So I don't think we can answer that question.

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James Yoon, Citigroup Inc, Research Division - High Yield and Leveraged Loans Research Associate [54]

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Fair enough. What's the total amount you guys are spending on automation this year?

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Allen Philip Hugli, Reynolds Group Holdings Limited - CFO [55]

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$80 million. Yes, it's $80 million.

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Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [56]

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$80 million to $100 million. Yes. I would -- that's probably a pretty good guess, $80 million to $100 million.

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Operator [57]

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Our next question comes from Brian Lalli with Barclays.

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Brian J Lalli, Barclays Bank PLC, Research Division - Director & Senior Analyst [58]

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Just a couple of follow-ups on some of the previous questions. Maybe to first start with a follow-up to cross questions a few ago. Just so we're thinking about it correctly, the comments around the IFRS impact and how it doesn't impact your ratios as defined by the agreement -- credit agreement and indentures. That applies I assume to both the liability on the balance sheet as well as the EBITDA impact, the $100 million on an annualized basis. Is that correct as we think about the ratios?

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Allen Philip Hugli, Reynolds Group Holdings Limited - CFO [59]

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It is. In terms of the indentures. It is not in terms of the credit agreement. So under the credit agreement, EBITDA that [if kept well] under IFRS is the number, so it will go up. So there's a disconnect there. I mean in terms of the indentures, it's in the sync, the lack of otherwise trading.

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Brian J Lalli, Barclays Bank PLC, Research Division - Director & Senior Analyst [60]

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I apologize. I couldn't hear the end of that. So you're saying under the indentures, it -- you can't have that EBITDA?

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Allen Philip Hugli, Reynolds Group Holdings Limited - CFO [61]

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I can't give you yet -- GAAP is basically frozen under the indentures, so (inaudible) year-over-year basis.

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Brian J Lalli, Barclays Bank PLC, Research Division - Director & Senior Analyst [62]

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Understood. Okay. Great. I guess second on CapEx and maybe ties to the previous question around the automation spending, but I think you'd said that you're now budgeting $650 million for the year, and obviously, that implies a pretty decent ramp relative to the 1Q number, I think, $126 million was spent in the quarter. Just anything on the pacing of that acceleration. Are we supposed to assume it sort of moves higher into the second and third quarter and it stays at that level to get to $650 million full year? Is that correct?

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Allen Philip Hugli, Reynolds Group Holdings Limited - CFO [63]

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Yes, that's correct.

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Brian J Lalli, Barclays Bank PLC, Research Division - Director & Senior Analyst [64]

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Got it. Okay. I just want to make sure we're modeling that correctly. And then last one for me, just working capital usage, I apologize if I missed the prepared remarks on this, but working capital looks like -- cash position there was pretty heavy, heavier than normal in the first quarter. Obviously, you're talking about improved demand for the balance of the year, so maybe I'm answering my question by just assuming that it's going to reverse with demand. But any guidance on how that trends for the balance of the year? And maybe any guidance around what that full year kind of working capital source or use of cash may end up being would be helpful.

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Allen Philip Hugli, Reynolds Group Holdings Limited - CFO [65]

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We are seasonal. So I think if you look back at the last excellent reviews of this group, we typically assume cash, working capital in the first 5, 6 months. So there is (inaudible) cups through the sale of their (inaudible) et cetera, et cetera. So typically Q1, Q2, we build working capital, and in the third and fourth quarters, we generate cash and working capital. I don't have a really buttoned-down number for what that will be at the end of the year (inaudible) publicly.

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Operator [66]

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Our next question comes from Mack Fuller with GSO Capital Partners.

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Mack Fuller, The Blackstone Group L.P. - Principal of GSO [67]

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On Reynolds Consumer, can you just give a sense of what the volume decline was?

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Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [68]

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Could you speak up because we couldn't hear that?

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Mack Fuller, The Blackstone Group L.P. - Principal of GSO [69]

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Oh, sorry. Yes, sure. For Consumer, can you give a sense of what the volume decline was? And what -- it sounded like that was a little timing related so I understand how to contextualize it.

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Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [70]

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I'm not sure I understand the question. Is it asking you what you had on your first slide, reasons of the volume decline?

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Mack Fuller, The Blackstone Group L.P. - Principal of GSO [71]

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Was -- Reynolds Consumer was down, right, volume-wise? I just wanted to know what the magnitude was.

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Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [72]

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Oh, how much it was?

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Allen Philip Hugli, Reynolds Group Holdings Limited - CFO [73]

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3%.

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Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [74]

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The overall volume was down 5%. And it was driven by the 3 reasons I gave in my opening comments.

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Mack Fuller, The Blackstone Group L.P. - Principal of GSO [75]

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Got it. So it's sort of timing related and should rebound, I was expecting 2Q...

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Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [76]

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Throughout the year, yes, as I indicated. There is no -- right.

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Mack Fuller, The Blackstone Group L.P. - Principal of GSO [77]

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Got it. And then just on the environmental product category. I just wanted to clarify when you talk about margins at minimum, it sounded like across the businesses being flat to up. Is that taken to account? Is that at the EBITDA level as well? I'm just looking to get a little color on sort of the fixed cost that might be necessary for that business and how quickly you are to benefit from profitability down to EBITDA level.

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Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [78]

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Yes. So let me go back and repeat. First of all, we're not selling much of this stuff. We have the capability, as John said, to convert a line from one raw material to a more friendly raw material. We are doing it to some extent. And we have the product offerings, but the market is not demanding it as much. The second thing I would say, in some cases, we are needing to make investments. So for example, cups made out of polystyrene, we're looking at making those same cups because of the customer demand out of polypropylene. And that will require investment in our lines to utilize the different resin. So that's the CapEx investment over 2 years, maybe, $20 million a year, John?

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John T. McGrath, Reynolds Group Holdings Limited - CEO of Pactiv Foodservice [79]

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Yes.

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Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [80]

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Something like that.

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Operator [81]

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There are no further questions. I would like to turn the floor over to Tom for closing comments.

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Thomas James Degnan, Reynolds Group Holdings Limited - CEO & Director [82]

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Okay. Stacy, thank you very much. And thank you everybody that paid attention during the call, and we'll talk to you in 3 months. Bye.

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Operator [83]

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This concludes today's teleconference. Thank you for your participation.