Avery Dennison Corporation (AVY) Earnings Call Transcript & Summary

Ladies and gentlemen, welcome to Avery Dennison's Earnings Conference Call for the Second Quarter ended on June 30, 2026. [Operator Instructions] I would now like to be in this over to William Gilchrist, Avery Dennison's Vice President of Investor Relations. Please go ahead, sir.

Thank you, Ellen, and welcome to Avery Dennison's Second Quarter 2026 Earnings Conference Call. Please note that throughout today's discussion, we'll be making references to non-GAAP financial measures. The non-GAAP measures that we use are defined, qualified and reconciled from GAAP on schedules A4 to A8 of the financial statements accompanying today's earnings release. remind you that we'll make certain predictive statements that reflect our current views and estimates about our future performance and financial results. These forward-looking statements are made subject to the safe harbor statement included in today's earnings release. On the call today are Deon Stander, President and Chief Executive Officer; and Gregory Lovins, Senior Vice President and Chief Financial Officer. I'll now turn the call over to Deon.

Thanks, Gilly, and good morning, everyone. We delivered strong second quarter results across the board. On a year-over-year basis, organic sales growth accelerated to 8%, adjusted EBITDA margins expanded, adjusted EPS grew by 19% and adjusted free cash flow generation was strong at more than $360 million. While these results benefited from continued customer inventory stocking materials group. Excluding this tailwind, we continue to drive a step change in the pace of our sales and earnings growth. Our performance this quarter once again demonstrated the strength and the resilience of our portfolio. Sales growth was balanced across both base and high-value categories with high-value categories returning to mid-single-digit growth as we expected. Combining this improved organic growth with our commercial and operational excellence allowed us to expand adjusted EBITDA margins across both segments, even against a volatile and inflationary cost backdrop. Our priorities are clear. We are continuing to drive both earnings growth and business resiliency by leaning into our proven playbook. First, we're investing in innovation, service-led differentiation to drive share gains and expand new business opportunities. The strength of this focus was evident in our second quarter performance, where organic sales growth accelerated. Second, executing commercial and operational agility including productivity and pricing actions to mitigate inflationary pressures. And third, generating strong free cash flow and maintaining a healthy balance sheet. Our balance sheet strength and robust cash generation supported the increased pace of our share repurchases during the quarter and another increase in our dividend while continuing to invest in our long-term growth priorities. Turning to our segment results. Materials Group delivered organic sales growth of approximately 10%, driven by high single-digit volume mix growth as well as low single-digit pricing realization as we began to pass on cost inflation. During the quarter, the business delivered solid performance across both base and high-value categories. Encouragingly, high-value categories grew mid-single digits year-over-year, led by specialty and durable labels as well as intelligent labels. Base categories grew low double digits, driven by underlying market growth, continued share gains and the benefit of customer prebuys. In label materials, customer prebuying persisted longer into the quarter than we initially anticipated, driven by accelerating raw material inflation as well as customer concerns regarding surety of supply, particularly in Europe and parts of Asia. Looking forward, while it is difficult to predict the timing of when the unwind will happen due to continued geopolitical uncertainty, we anticipate the majority of the unwind in the third quarter with a smaller carryover into Q4. From a profitability perspective, Materials Group's adjusted EBITDA was strong, growing high teens with margins expanding compared to prior year. In the Solutions Group, Organic sales grew 3%. The quarter was characterized by solid low single-digit growth across both our high-value categories and base solutions. Within our high-value platforms, Embelex delivered robust low double-digit growth driven by core market expansion and strong World Cup demand. Intelligent Labels grew low single digits, while Vestcom was down slightly as we left a major customer rollout from 2025. In our Base Solutions, we were pleased to see sales return to low single-digit growth. From a profitability perspective, execution on our productivity playbook more than offset higher employee-related costs. This allowed us to deliver strong EBITDA margin expansion. Pivoting to our enterprise-wide Intelligent Labels platform. Sales were up low single digits compared to prior year, in line with our growth expectations for the quarter. As anticipated, this headline number reflects varying dynamics across our major end markets. In our largest category, apparel and general retail, we delivered another quarter of strong performance with sales up approximately 10%. This growth was driven by continued program expansions in apparel alongside a solid recovery in general retail. Conversely, we experienced a headwind in logistics where sales were down double digits. This was driven by the difficult comparison of lapping outsized share gains from 2025 and softer overall customer demand in this segment. Looking ahead, we continue to expect 2026 growth for our enterprise Intelligent Labels platform to outpace 2025. In apparel and general retail, we expect to deliver strong full year growth as adoption continues to deepen. In food, we are positioning the platform for an acceleration in the back half of the year, driven by the beginning of the rollout with the largest U.S. grocery retailer and expanding activity across other customers. Finally, logistics, we are managing through the normalization of outsized volume and share gains from 2025 with the largest partner, while continuing to expand pilots with new logistics customers. As to our outlook, we are returning to providing full year guidance, reflecting our team's strong execution through a dynamic environment and the challenges of precisely timing the second half customer inventory destocking in Materials Group. For the full year 2026, we anticipate $10 to $10.30 in adjusted earnings per share on organic sales growth of 3% to 4%. In summary, our strong second quarter performance, delivering another quarter of accelerating sales and earnings growth highlights the differentiation and the underlying strength of our enterprise. We remain focused on the key secular tailwinds shaping our long-term strategy while continuing to execute the operational actions required to navigate cyclical dynamics and inflationary shifts with agility. The proactive steps we are taking to accelerate innovation-led differentiation serve our customers and ensure supply chain resilience further strengthens our competitive moat. Our proven strategies, market-leading resilient businesses, agile teams and disciplined capital allocation approach give us confidence in our ability to deliver sustainable growth in 2026 and beyond. I am proud of the global Avery Dennison team. Their agility and operational execution continue to drive strong results, giving us momentum as we execute across the balance of 2026 and beyond. Now over to you, Greg.

Thanks, Deon, and hello, everybody. In the second quarter, we delivered strong adjusted earnings per share of $2.89, up 19% compared to prior year. Earnings growth was driven by higher volume and productivity, partially offset by higher employee-related costs and targeted growth investments. As Deon mentioned, customer inventory pre-buys were contributing factor during the quarter. adding an estimated $0.25 to earnings. Second quarter reported sales were up 11% year-over-year, with organic sales growth of 8%, driven by strong volume mix and slightly favorable pricing. We estimate that roughly half of the organic growth was from customer prebuy activity. Reported sales also benefited from approximately 2 points of growth from foreign currency translation and 1 point of growth from the Tailored Adhesives acquisition. Adjusted EBITDA margin was 17.1% in the quarter, up 50 basis points compared to prior year. And we generated strong adjusted free cash flow of $365 million in the quarter, primarily driven by earnings growth and working capital improvements. Our balance sheet remains strong with the quarter end net debt to adjusted EBITDA ratio of 2.3x. Capital allocation during the second quarter remained consistent with our established framework. We returned over $210 million to shareholders through a balanced combination of $76 million in dividends and $138 million in share repurchases, an accelerated pace relative to the first quarter. This brings our year-to-date capital return to shareholders to roughly $350 million. These actions underscore our ongoing commitment to disciplined capital deployment while preserving our financial flexibility. Turning to segment results for the quarter. Materials Group organic sales were very strong, coming in 10% higher than prior year, driven by high single-digit volume mix growth. Excluding our estimate of the year-over-year benefit from customer prebuys, underlying organic sales growth remained strong at mid-single digits. Turning to Label Materials. Similar to the first quarter, we believe we successfully gained share and realized favorable year-over-year pricing as we acted to mitigate the impact of rising raw material costs. From a regional perspective, compared to prior year, volume mix in North America was up mid-single digits. Europe delivered strong mid-teens growth in an emerging market. Both Asia and Latin America grew high single digits. Organic growth across our Materials Group high-value categories grew mid-single digits, led by low double-digit growth in Specialty and Durable Labels and high single-digit growth in Intelligent Labels. Industrial Tapes grew low single digits, and Graphics and Reflective sales were comparable to prior year. Materials Group adjusted EBITDA was up 17% compared to prior year, with margins up 20 basis points. This margin expansion reflects strong volume, ongoing productivity actions and the net benefits from pricing and raw material costs, inclusive of cost-out reengineering. These factors more than offset an unfavorable product mix and higher employee-related costs. Regarding raw material costs, we experienced mid-single-digit year-over-year raw material inflation in the second quarter, representing high single-digit sequential inflation, slightly above our expectations. Our teams continue to execute our proven playbook to navigate the current inflation environment through strategic sourcing actions, reengineering and the timely implementation of pricing actions. Looking ahead for the remainder of the year, while the situation remains uncertain, we're currently anticipating high single-digit year-over-year inflation in the second half. Shifting to Solutions Group. Organic sales were up 3%, with both high-value and base categories delivering low single-digit growth. Within high-value categories, Embelex delivered strong low double-digit growth. Intelligent Labels grew low single digits with particular strength in apparel and general retail categories, while Vestcom was down low single digits as we lapped new program rollouts from the prior year. Solutions Group adjusted EBITDA margin was 18.6%, expanding 150 basis points year-over-year and 220 basis points sequentially. This margin expansion was driven by continued execution of our productivity initiatives, the reversal of prior year tariff-related network inefficiencies and a positive net price cost impact, inclusive of tariff-related costs. Together, these benefits more than offset higher employee-related costs and our targeted investments in growth. Turning now to our full year 2026 outlook. We anticipate reported sales growth of 5% to 6%. This includes organic growth of 3% to 4% with approximately 1.5% from currency translation, 1% from the Tailored Adhesives acquisition and a nearly 0.5 point headwind from the fiscal calendar change. We expect full year adjusted earnings per share in the range of $10 to $10.30, representing 7% growth year-over-year at the midpoint. This full year earnings growth is driven by benefits of organic growth, which is primarily volume mix driven, a largely neutral impact from customer inventory management for the full year. Productivity actions, including restructuring benefits of more than $60 million, offsetting headwinds from wage inflation and the normalization of 2025 temporary savings, which are largely incentive compensation related and a net benefit of approximately $0.30 from combined currency, share count, interest and tax. Additionally, we remain committed to strong free cash flow, targeting roughly 100% conversion for the year with fixed and IT capital spending of approximately $260 million. From a quarterly earnings cadence perspective, we're assuming that third quarter will see a larger-than-normal sequential earnings decline, driven by our customer destocking timing assumption, which will represent an approximate $0.50 sequential headwind versus the benefit we saw in the second quarter. While we expect a sequential headwind in the second half as these customer prebuys unwind, underlying earnings momentum remained strong across the balance of the year. In summary, we delivered a strong second quarter, achieving 8% organic sales growth and 19% adjusted earnings growth. We generated very strong free cash flow, increased our dividend and accelerated share repurchases while maintaining a strong balance sheet with leverage coming down to 2.3x. Our updated 2026 outlook anticipates 3% to 4% organic sales growth and roughly 7% EPS growth, demonstrating positive momentum toward our long-term targets. Overall, our resilient portfolio, agile execution and disciplined capital allocation give us high confidence in our ability to deliver strong long-term value to all stakeholders. With that, we'll now open up the call for your questions.

[Operator Instructions] Your first question comes from the line of Ghansham Panjabi with Baird.

Can you just give us a bit more granularity as it relates to the growth outlook for Intelligent Labels for 2026 relative to the low single digits you generated in 2Q. And in particular, how is your view on the major end market verticals such as apparel, general retail, fluid and logistics changed, if at all, relative to the last time you reported 3 months ago?

Thanks, Ghansham. Yes. Our anticipation has always been that we would continue to see our growth ramp in the second half of the year. And when I look at the individual segments in apparel and general retail, we continue to expect solid growth as we go through the second half of the year, largely on the new program rollouts we're doing as well as the continued strengthening in some of the general retail execution as well. In logistics, specifically, we're expecting a continued share and volume challenge relative to 2025 when we grew outside share and volume in that period. And we expect that to business for the remainder of the year, while we continue to also expand pilots with our existing customers that we have and some new customers in the logistics pipeline. And in Food, we're expecting a much more meaningful contribution from the food programs as we go through the second half of the year, largely on the significant retailer rollout that we've talked about for a while as well as a lot more activity in new customer programs overall that we're seeing in the food sector, Ghansham.

Your next question comes from the line of George Staphos with Bank of America.

Congratulations on the progress. I wanted to dig into the prebuy effect in Materials. And there are a couple of components to it. I think you said that the effective prebuy was more or less 5 points mid-single digits in the second quarter and recall the figure being 1 point in the first quarter, and I think it was 1.5 points at the materials level. Did I relate to those correctly? And does that mean, in essence, there's 6% or 6.5% that ultimately has to be destocked over the rest of the year? How should we interpret that? And why is there so much going on, especially it sounded like in Europe?

Yes. Thanks, George. So in 1Q, we talked about a relatively -- around 1 point of growth from customer inventory building. I think I mentioned earlier about half of our organic growth in Q2, we would estimate, is related to inventory build. So in total, closer to 5 points of growth in the first half or added net first half, about 2.5% growth for the whole half of the year. And we would expect to see that come out in the second half, as we said. So I think you would see that change from first half to second half. At the same time, from an organic growth perspective, that will largely be offset in the second half by the fact that we'll have more pricing action versus prior year, where we still had deflation in the first quarter carry over from last year. We'll have more pricing impact year-over-year in the second half. I think to your point, we're seeing that more in Europe and Asia, and that's where we're seeing more of the inflationary pressures as well, as well as just more customer concern, I think, about surety of supply. And as we move through the second quarter, we continue to see that inflation increase in the middle part of the quarter. And obviously, it's been quite up and down since then. So customers are still seeing a pretty uncertain environment. And I think that's what led to a lot of the stock build to continue to do throughout the second quarter.

Your next question comes from the line of John McNulty with BMO Capital Markets.

So I guess maybe a couple of related points on the margin side. I guess can you help us to think about price cost in the second half and if you'll catch up with pricing just given your expectations for cost to be kind of up in the high single digits. And then I guess, somewhat related on the margin front in solutions, kind of hitting a high watermark, anything special about that in terms of why you're kind of at these levels? Or is this kind of the new baseline now that you're starting to see volumes stabilize and IL to starting to grow again.

Yes. Thanks, John, for the question. So when we look at the second quarter from a price cost perspective, and I'll talk sequentially. We saw high single-digit inflation from Q1 to Q2. And we had mid-single-digit price increase from Q1 to Q2 to help mitigate that in addition to, obviously, material engineering, and our procurement team is continuing to work to mitigate that as well. So I think we largely mitigated the majority of that in the second quarter from a sequential perspective. When we look Q2 to Q3, we would expect low single-digit sequential inflation, largely carryover from what we saw as we moved through the second quarter. But I will say, it continues to be a pretty uncertain environment there. So we've seen oil, like I said a minute ago, move up and down quite a bit over the last few weeks. But right now, our expectation is low single-digit sequential inflation and low single-digit sequential price as well, Q2 to Q3. If I shift to your second question on Solutions margins, I think, overall, there's a couple of drivers there. That team has continued to drive pretty significant productivity year-over-year. Certainly, that's having a benefit on our margins there. At the same time, it's a nice volume rebound. Our apparel business is growing mid- to high single digits in the quarter as we lap some of the tariff implications from Q2 last year with some strong growth in our [indiscernible] platform, our high-value category there that we talked about earlier as well. So overall, it's both strong volume growth in apparel as well as productivity across the business. And we did have a couple of small onetime type benefits in the quarter, but still strong underlying results. You may see a little bit of moderation in that margin in Q3, but we still expect the second half to be above prior year.

Your next question comes from the line of Jeff Zekauskas with JPMorgan.

A two-part question. It sounds like you're gaining more traction with your customers in Intelligent Labels in the general food category. Is it baked goods or frozen food? Or are there themes that are allowing you to expand your reach? And for Greg, you've talked about inflation in employee costs. Is this onetime? Or what's the rate? Or how large are your employee cost as a percentage of your cost base? Can you help frame the employee cost issue?

Thanks, Jeff. Let me deal with the first and Greg can take the second. We continue to have very strong conviction in the growth in the Food segment as we move forward over the years to come because we see the return on investment at the retail level to be so strong in all the pilots that we've done and some of the rollouts that have been underway for a while. I think the way I'd characterize it, Jeff, is the initial focus has been really around bakery. It's a more simple one to implement. But we are, as you know, working through protein now, which has been more technically difficult to do, but that's where we brought our innovation to bear where I think we continue to sustain advantage. And then beyond protein were then the next categories are really at the periphery of the store will be in perishable items, the further perishable items. And I think those will follow in so. I certainly think that 2 things are also playing in thematically. So one is, I think retail at an aggregate level is recognizing that the greater and the urgency of which they digitize their stores overall to drive more of a digital platform to their stores. The more they're likely to succeed in driving the efficiencies and consumer connections they really desire. And clearly, technologies like IL play a very significant role in enabling that driving return on investment, both from a labor productivity and gross margin expansion and sales uplift. We've seen that consistently, particularly in perishable foods. And so -- I think the only other thing I'd say from our perspective is it's an area where we're going to continue to invest. The scale of our customers that are now in pilot has continued to expand. Our pipeline has expanded in that regard, includes a number of other U.S. retailers and European retailers and also some areas very specifically where, for example, DSD deliveries are taking place in certain categories as well. So we have high conviction in it, and I see it as a longer-term growth opportunity within our broader high-value category portfolio overall.

Yes. And Jeff, on your second question, I think there's 2 areas of employee costs where we're seeing a headwind year-over-year. One is the normal year-over-year wage inflation that we see across the business. And that's more normal levels of what we've seen in the recent past. I think the other one is -- the larger one really this year from a year-over-year perspective is incentive compensation. So last year, clearly, we delivered below our targets -- incentive comp payouts were well below target levels last year. And this year, we're on track at or above depending on the business, to deliver on our targets. So there's a relatively sizable incentive compensation headwind. When I look at the overall earnings growth formula kind of year-over-year, from an order of magnitude perspective, our productivity is basically largely offsetting our wage inflation and our incentive compensation. So that's roughly the size of those headwinds versus our productivity.

Your next question comes from the line of Josh Spector with UBS.

I wanted to just dig into the organic growth guidance of the 3% to 4% range. If we try to unpack that a bit. I mean, my calculations here would say pricing in the second half is up, call it, 3%, maybe to 4%, and you have that, call it, 3-ish percent headwind in the second half. So therefore, volumes then at the base level, excluding the kind of destocking dynamics are maybe flattish. Is that how you would frame it? Because you sound more positive on some of the higher growth areas within materials, RFID improving? I don't know if there's an offset that we're missing.

Yes. So I think, Josh, when you look at first half to second half, first half organic growth is around 4.5% on the full first half basis. With a couple of points to that, we would estimate from stocking as we've talked about here. And we had, as I said earlier, a little bit of price down, particularly in the first quarter as we start to lap some of that deflation from prior year. So volume growth -- volume mix growth in the first half of the year in that low to mid-single-digit range. I think second half is somewhat similar from a volume mix perspective, but we have the destocking impact coming in and it's a headwind in the second half, largely offset by the fact that price now, we're no longer lapping the deflation from prior year. So the price actions that we're taking are a positive year-over-year in the second half. So I think underlying volume mix trends relatively similar, low to mid-single digits in the first and second half with a little bit of price differential between the halves as well that's impacting that in addition to the stocking impact.

Your next question comes from the line of Matt Roberts with Raymond James.

Deon, I appreciate all the comments you've given thus far on food, but if I could dive a little bit deeper on the contribution in second half, very specifically on [indiscernible] How far has that rollout progressed? Is there still incremental run [indiscernible]. I know that's beginning the year in the second half, but what percent of that initial rollout should we be thinking about in '26?