Graphic Packaging Holding Company (GPK) Earnings Call Transcript & Summary

Well, welcome, everybody. I'm glad to see everybody live. It's wonderful to be back. I'm George Staphos, BofA's America's paper and packaging analyst. I'm joined by my team, [indiscernible] and John Babcock, who do wonderful work for us on packaging and paper and forest. And most importantly, we are delighted that Stephen Scherger, and Graphic Packaging Melanie Skijus, are in the audience are here to talk about the latest in a fireside chat. Steve, as we all know, is Executive Vice President and Chief Financial Officer of the company, and has been with the company since 2012 in a variety of senior, finance and consumer positions after 26 years at MeadWestvaco in a similarly large number of leadership positions for that company. Steve, welcome. Again, great to see you live and in person.

Good to see you as well. Thanks, everybody, for joining this morning.

So I guess maybe to start off, we'll talking about near-term trends then go through operations. Some of the things that you talked about at your Analyst Day, returns and portfolio. That's kind of our outline. So I guess, first off, and I hate to sort of start with cutting the chase. But a couple of weeks ago, the publications pick up another $30 to $50 per ton in boxboard pricing. I don't think that was in your guidance. Would that perhaps be additive to what had been the $700 million of pricing going into '22? So maybe we're at -- when we do the math, $750-ish million, how would you have us think about that?

Yes. No, that's right, George. As we talked in our guide relative to the pricing, the latest $50 across the board increases that we're pursuing were not in that guide. We saw a partial recognition, some $30, some $50. And so yes, that will be something that, as you know, kind of comes in on a 6-month lag, your numbers are roughly right, $40 million, $50 million this year, and then the rest of it will kind of move into next year.

Right. Understood. And so one of the things that was encouraging from our vantage point on the last quarter, as you saw, we saw some nice organic growth in food. I think it was 3% if memory serves. Food Service had a nice rebound. Obviously, off a tougher comp, I think it was up 16%. What should give us confidence that, that kind of -- well, you're not going to continue 16% or maybe you are, and you're here to announce that today. What gives you confidence though that, that type of growth and the quality of the growth will continue into 2022?

I think it's a couple of things. One is we now have 3 years of organic sales growth that we can point to. We have 3% over the last 2 years, 2% over the last 3 years. And it's that consistent growth. And yes, it comes in, in different categories, we would service up and down as the pandemic would play itself out. But overall, what we feel incredibly positive about is that the organic growth profile of the company, driven by our innovation activities is supportive of a growing fiber-based packaging business. And so as we look at the momentum we have across -- as we talked at our Investor Day, across a very wide portfolio of innovation activities, gives us a lot of confidence that we'll be in that 100 to 200 basis points again this year.

Wonderful. I want to segue, so we have additional pricing. We have certainly continued optimism on demand. Obviously, in this kind of environment, there could be more cost pressure. Do you have any thoughts in terms of that last mark-to-market at the Analyst Day, recognized it only, whatever, 10 days ago.

Yes. 13 days. So no, not a lot of movement. You, of course, see the same things we do. Obviously, we're seeing some volatility on oil and the like, and certainly, we're in a very unusual time on a global basis. So we'll continue to mark to market. It's not going to be materially different than what we've seen. And we'll, obviously, as we've done, monitor that. I think overall, the guidance range that we provided, we feel very good about. And the $1.4 billion to $1.6 billion and the key components of that with an enormous amount of confidence on the pricing execution, particularly gives us real confidence overall that, that's the right range for the business this year and the cash flow that it generates.

Thanks, Steve. One thing that unfortunately is going to be probably the question of the conference for all of the companies is what is happening in the Ukraine and Russia, what impact it may have on you? You have a couple of operations in Russia. I know you have one facility in Estonia, and I think one other facility sort of in Eastern-Eastern Europe, if you want to use that phrasing. But can you have us think about how much revenue you have tied up there? What contingency planning you're doing? What risks there are perhaps in the guide because of that?

Yes, of course. And obviously, first and foremost, our thoughts and prayers go out to the Ukrainian people. I mean this is a horrible time and what they're enduring. And that is obviously on our mind. We don't have any assets in Ukraine. And for us as a business, we do have 2 facilities in Russia, as you mentioned, 1 in Saint Petersburg and 1 other. And so overall, sales are a little over $100 million. So it's really about 1% of the company. So it's pretty small on a relative basis, less -- significantly less than 1% on an EBITDA basis in terms of the structure there. Obviously, we'll have to stand back and assess the footprint as this plays itself out. These are very difficult times. Overall, we're doing a lot of contingency planning right now about how to run product in other countries, and we'll do that effectively. So overall, not material relative to our economics and relative to our guide in the business. More importantly, we're focused on the safety and health of our people. Certainly, that we have on the ground there in terms of our employees and obviously, being smart and thoughtful about how we support the region given this very complex and unfortunate situation.

Thanks, Steve. If there are any questions from the audience, certainly raise your hand, happy to take live my questions during the session. Maybe one last question on this, Steve, kind of a 2-part. Do you see any signs, again, we're so early into it, and the answer probably is no. Whereby, maybe the European consumer is starting to retrench a bit because of the concerns that obviously are coming out of the Ukraine. And in turn, you have a number of operations with AR in Poland and the like. What are you doing, if anything, at this juncture to maximize security and surety really of operations there?

Yes. No. I mean we've got great teams on the ground right now doing exactly that, which is assuring that our people are safe, that our facilities are safe, that we're securing supply where we can. I think overall, it's very early to imply that this will have overall structural implications on the economy, but it may. And so obviously, we're always looking forward relative to the supply-demand environment. Today, the demand for paperboard solutions across the European platform is very strong. And certainly, that's the momentum of the moment, but we'll do what everyone is doing, which is to aggressively monitor what's happening on the ground. Our teams in Poland have run exceptional businesses. And obviously, they're managing through some of the realities of folks coming in that direction. But overall, we're operating very well today, but it's a day-to-day, as you know, and we feel very good about our teams. And teams from AR Packaging are exceptional in terms of joining us, and we're coming together really well from an integration perspective, and that work remains on track as well.

Thank you, Steve. I want to switch to some of the discussion from the Analyst Day, which, again, I thought you folks did a really fulsome job reviewing the outlook and the operations and all that you've accomplished so far. As you move to a 90%-plus integration rate, your goal by '25, is it possible to target how many times do you think you'll be purchasing at that point, less than 1 million tons? Will you be instead of 4 million tons being produced now, 4.5 million tons? Should we assume maybe you can get 600,000 tons internally over time to offset that 1 million? How should we, to the extent possible, think about that evolution?

Yes. No, I think you're thinking about it the right way. I mean if you look at the 4 million tons that we produce today and the 1 million tons that we purchase today that really creates the packaging company that we are, we've got a nice -- and in fact, the optionality is quite exceptional. If you look out over the next 4 to 5 years, of that 4 million tons, growing modestly, it won't grow materially, but growing modestly with things like the CRB investment that we're making and some of the natural growth that happens in the capacity. But not material growth, but 4 million is moving into the low to mid-4s, but for us, then being able to do multiple things. One, organically grow. And so having that drive integration rates up. bring in some of the paperboard that we're acquiring today in all of the substrates because we buy all of the major -- all the substrates globally at some level. And then investing in the platform, all 3 substrates, to internalize even more than we have in the past. So it's one of the things that was really critical that we were conveying at the Investor Day. Is this enormous optionality to drive integration rates up towards that 90%. I think we feel better today than we ever have around the fact that we have a powerful set of low-cost, high-quality, all 3 paperboard substrates. And that the ability to move substrates between and among is actually better than we expected over the last several years. And you're going to see us continue to do that. and that allows us to internalize, allows us to drive integration rates up pretty materially.

Yes. I mean I would say history shows without enumerating necessarily who I'm speaking specifically of low cost plus flexibility, plus integration usually leads to higher returns in paperboard.

No. And listen, that's -- we believe that, obviously, we've got a long track record of believing and seeing that the margin profile works when you can drive low-cost, high integration, buildup the walls around the business effectively. And the investments over the last several years going all the way back to the bringing in of SBS in the cup business and the Kalamazoo investment. And then 16 acquisitions in total, have really created this global enterprise that has the capacity now to be on display, particularly here in 2022 to show that the margin profile can work effectively.

Steve, one question maybe to the extent that you can comment here. You take that 1 million tons purchased and ultimately integrate it over time without identifying necessarily how much you will internalize. I think at the Analyst Day, you said something between 200,000 and 600,000 tons. An incremental ton would be $200 of EBITDA, would you say?

It depends a little bit, but you're -- it's in that $200 to $300 range when you talk about it because of just the inherent value that comes from the low-cost, high-quality mills. And so that's why that integrated ton drives good strong value. It really spins the flywheel quite nicely. And so yes, it's in that range. And you kind of saw that in some of the economics with CRB investment and you look at what volume can bring, it's in that kind of range.

Over time, that's another $50 million, $100 million?

Right. And that was a little bit of the bridge that you saw from the [ 1.5 up into the 2s. ] That was a critical component of it as we internalize.

And so you talked -- first time I had heard you speaking about some TMP opportunities you have in Augusta. How many more of those do you have? Is that the only one you have currently? And what will -- if you go forward with that, what will the capital cost if there's a way to equate it per line be?

Yes, it's the only one that we have that is specific to Augusta. And as Mike mentioned and we mentioned at the Investor Day, that's an investment that we made a little while back. We're thrilled that we have it. And we're testing, we're looking. I mean, we've been assessing FBB as an alternative for the last couple of years. We do like certain characteristics of the substrate. And I don't have a capital number. It's all in the context of that 5% to 7% of CapEx as a percentage of sales. So anything that we would do there would be inside of that. And so if we get to a point that this is a project that we have high confidence in. And again, is another way to drive integration, both here in North America and potentially in Europe, then we'll come forward and say, hey, here's the very specific investment. It fits in the context of probably 6% to 7% of sales on a CapEx basis, and we can get it done at this time horizon. We're not there yet, but that's what we're working on.

Flexibility, flexibility. I want to move to sustainability. So the products that you had at the Analyst Day from OptiCycle to Colorpak to ProducePack to PaperSeal. Are any of those products not able to be recycled curbside? Or all of them more or less able to be put in with the paperboard waste stream back to the MERFs and the like? And are there any promising projects in your pipeline that you're optimistic about on the revenue side that wouldn't again be easily just dropped into the normal recycling stream?

Yes, it's a great question, by the way. And they're all capable if well handled or if municipalities have the ability. So in other words, the products are set up to be recyclable, to be renewable, to have the ability to produce those products 5 to 7 more time. So they're all there. So like PaperSeal has a sealing on the top. If you take it aside and then recycle the tray, the answer is yes. I mean I think one of the things we're seeing is good investments, particularly around recycled capture, certainly here in the U.S., about 65% of the paperboard being recycled today. You're seeing municipalities do a nice job of saying, hey, listen, we can now take cups as an example. And you're seeing more cups being captured like the ones that are in the room here, having those now work their way through the recycling stream. Thank you for that.

Trying help you make your quarter...

Yes, I appreciate that, I left mine back there. I've consumed it already. But yes, and so the answer is yes, in terms of it's cut capable. And now we, particularly from an industry perspective, continue to look at how do we make sure that the consumer is well educated and that municipalities have the ability to capture it, put it back in. Because that circularity of what we do is really at the heart of why this is a consumer-preferred solution. It really is.

One of the larger brewers mentioned, I think, yesterday or the day before, that they're going to be eliminating plastic rings and moving towards a paper wrap. Did you see that headline?

I did.

Would you know anything about that?

I do know the company.

And not just from reading in the...

Yes, no, no, no. We're aware of it. And listen, that is just another very good example of big major CPGs, in this case, the brewery beer industry, recognizing that fiber-based solutions are preferred. And so they're making that decision and they're making those conversions.

Could that be your product, perhaps?

Unbelievably, it's not.

Sorry. Okay.

But that switches candidly, it's fine because the reality is we have a very large relationship with the customer that you're referring to, vast majority of their packaging. But what we like about this is this is just part of what is just a pie that's expanding both here in North America, you've seen movement in Mexico, similar kind of things. Europe, the momentum on fiber-based for the beer industry, particularly soft drinks as well, very high.

Thanks, Steve. Any questions from the audience as we're progressing on sustainability, the like? One other question, Steve, every substrate understandably talks about why their product is a preferred product for sustainability and they'll point to different metrics in terms of why their carbon footprint is better. Offhand, do you have a 1 or 2 points, aside from the general notion that we know about with paperboard is sustainable, it's renewable where you can prove that paperboard actually does have a lower carbon footprint than say, plastics?

Yes. I think the way to think about that, because you're right, there's always metrics, and I think there's no doubt that there's specific metrics of this product versus this product on a carbon footprint basis. And we've done our work that you can go like-for-like and say our product is either at or similar. The difference maker is that our product gets back into the recycling stream and gets made 5 to 7 more times. And that carbon footprint, 7x over is materially less. I think you have to think about this on a multifaceted basis as opposed to make a product once, potentially have it recycled, potentially have it turned into another product, that's a carbon footprint. The make it once and then make it 7 more times, very cost effectively, is a circularity that I think really is the difference and kind of laying that out. I think we'll, over time, work to kind of lay that out with a little bit of renewable, which is, well, let's look at that because that's really the supply chain that you want to think about. And I think that's where the difference is. And we, of course -- you hear us all the time, every product has time and a place for it to be utilized. I think that broadly speaking, the consumer preference for fiber-based solutions, the consumer bias towards recyclability, renewability, is just very supportive of the growth profile of the packaging company that we are.

Thanks, Steve. I want to move to the end of our discussion here in the next 10 minutes or so. Market trends that you're seeing and also sort of capital allocation and returns. And so as we think about the market, you've been able to grow at least in line with your 100 to 200 basis point goal for the last few years. When we've done the analysis, the overall boxboard market has maybe grown 1% cumulatively over the last 4 or 5 years. One, would you agree with those statistics or would you disagree with that market view? And b, more importantly, given there is more capacity coming in, if, in fact, the market is growing at a lower rate than you, how comfortable are you with the new entrants, number one? Number two, which of your products in particular, allowing you to grow at the higher end of your range? And what is it specifically about your mix that's allowing you to grow more quickly than the market? So those 2. And then we'll deal with both...

I'll attack that here in a moment. So I think factually where you were heading to broad-based paperboard over a multiyear basis, you're probably right, probably more than 1% last year, closer to 2%. And the reality is, right now, we actually need paperboard. The demand profile for paperboard right now is very high. Europe is as tight as a drum for paperboard. We're securing it everywhere we can, the 500-plus thousand tons we buy, we are securing it because we're the largest buyer of paperboard in the region. But it is -- the supply-demand dynamic there is very, very positive. And you're seeing the same thing here in the Americas. So overall, as we stand here today, it's an incredibly powerful and positive environment for demand for paperboard solutions. That being said, the capacity that you're referencing is well chronicled. Obviously, we talked quite a bit about the potential new entrant with the acquisition of the Verso facility. And we talked about that. I won't over go into that here today. We have our points of view actually around kind of how that will play out, time lines, like the paperboard substrates, likely level of investment. I think Stora Enso announcing an investment in Europe, is that -- we've said for a lot of time that we're not required to be integrated in Europe. We'll make those decisions over time. Someone makes a decision like they're making to put $1 billion plus to work will be a good buyer of paperboard. And so I think for us, it goes to where you were going earlier, optionality is positive for us. And as we kind of watch the competitive landscape play out, we have a lot of confidence. And we have a lot of confidence because we're a packaging company. We have a lot of confidence because we make the end products. If we were just a producer of paperboard, I might be having a different conversation with you, but we're not. We make the end products. And so we have multiyear agreements with our customers. We create products for them. We have longevity with them, and we operate in a competitive environment, obviously. But that's what gives us confidence that organically we can continue to grow at that level.

Steve, recognizing the answer maybe all of the above and the flexibilities is what makes Graphic unique and you think is an advantage. Of your substrates, which do you think will be most likely to have grown the most quickly over the next 3 years, by the time you don't -- with your '25 plan? And then you mentioned you make the end product or the package for the end product. Is there an opportunity for boxboard in your view, to be utilized in the fulfillment chain and maybe competing with card and other materials through fulfillment centers to that last mile to the door. How do you see that?

Yes, we're going to see -- we'll see some of that. I don't think it's over encroaches on -- to your question on containerboard, which has an exceptionally good place to play for many, many reasons. But I do think that there'll be pockets where the at-home delivery in the last mile for a branded product. We're seeing it in pet food. We're seeing in other categories is a part of our growth profile. So it's a part of the multifaceted growth agenda that we're pursuing. So I think on that front, that's -- we will see some of that, for sure. And we're seeing some of it today for the at-home delivery. The first part of your question...

Which of you are...

Oh, the substrates. That's going to be really interesting to watch. I think when we made the CRB investment, as you know, we made it on a literally a capacity-neutral cost takeout basis. We see growth as we look at what -- where and what opportunities the coated recycled paperboard products have of the nature that we're now producing to actually be more of a growth engine. And we're seeing it. I mean you saw it -- we talked about a major CPG moving a very large product category out of a bag that was holding lots of individual snack products into a paperboard solution, it's CRB, it's 40,000 tons. Those kind of moves are of substance. And so standing here today, I think we're going to see positive momentum across all 3 substrates, with probably a little more optimism on the CRB side than we had a few years ago. But the other substrates as well, CUK just has such a great global growth profile to it exactly for the reasons you articulated earlier, primarily on the beverage side, that it too has the right profile. So I think you'll -- I think actually we're going to see it be across the substrates.

Thanks, Steve. Last question on returns, I'd say we're going to hit on. If I go back to 2010 and based on our own analysis, your return on capital has grown something around 500 basis points through '22 using our estimates, which is in anyway on guidance, so it wouldn't be that far off. A lot of the other companies in the sector have not seen nearly that kind of performance. What do you think, recognize here all sort of super high-performing companies in the sector what has allowed you, do you think, at the end of the day, to do better than your peers by that amount of gap, number one? Number two, you have a 10% to 12% return on invested capital goal for '25. You achieved 7% in '21, and you're guiding to 8% to 9% this year, what's going to be most critical to you? Again, that's not a mini step to the 10% to 12% over the next several years. What's going to be most important in getting that?

Yes. No. Thanks for that, George. I think on your first question, focus. I mean, we are an incredibly focused corporation. We kind of do one thing. We've integrated high-quality, low-cost, integrated, fiber-based packaging. That's what we do. And so when you wake up every day and 25,000 colleagues do that for a living, that's where we put our time and energy. And so it allows us to be very focused and very disciplined. And as such, we have large market positions in the markets that we're in. And as such, we can -- from an industrial perspective, make -- ensure that the capacity that we need is actually what's required for the marketplace. And so I think that's critical. What you just touched on is, how does the margin profile move from last year 15s plus or minus into the [ 18 to 20 ]. And price cost is absolutely an imperative and that will be materially positive this year coming out of last year's dislocation. That's a big deal. We've got line of sight to it, $700-plus million of pricing, $300 million to $500 million of inflation, that's going to inflect positive. The rest of it, though, is what we've been talking about is we've got to earn on our organic growth. And so that drives that 100 to 200 basis points earning on it, big deal, obviously, it drives integration rates. Having our core productivity more than offset labor and benefits inflation. That drives margin value. getting Kalamazoo to be the lowest cost, highest quality CRB facility on the planet. That drives another $80 million of margin improvement. And then, of course, putting some of the capital to work that we were just talking about, maybe above the 5% of sales, that drives value. And then on a full-blown basis all the way up to 2025, some acquisitions to drive integration rates up. So that walk is really what we're focused on, on how do we drive from today to the really what's inherent in the margin profile that's in Vision 2025.

Thanks, Steve. Any last questions? Maybe one last one for me then, just a quick thought. Supply chain, better, worse, how so versus 3 months ago?

Modestly improving meaning that, broadly speaking, yes, we're still in difficult environments. I mean, logistics costs, moving things around, all still challenged. But we haven't had a material weather event like we had a year ago. So overall, the supply chain, while very tight is modestly better. I think the reality is also -- and you heard this a lot, the realities of Omicron kind of really spiked, had short term but material implications on labor availability. That too is settling back into more normalized environment, hence, sitting here with you today.

Thanks, Steve. So I think what I heard is on the margin, and I'm not trying to put words in your mouth, recent price developments are probably additive to your guidance. Cost inflation doesn't look materially different since we last spoke. Russia is -- certainly, you're watching it in Eastern Europe, but it's manageable, small risk at this juncture. Executing on pricing, getting the volume and integration, the focus, the operations, the productivity all are important. And you're comfortably thinking you can manage that to getting towards your 2025 goals. Anything I left out?

I think you just put it right up together.

Okay. Yes. That's the whole point. We've got multi-taskers. Anyway, everybody, please join me in thanking Steve Scherger for a wonderful presentation.

Yes. Thank you.