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

The Global Ag Materials Conference for BofA. I'm George Staphos on paper and packaging. And next up, we're delighted to host Graphic Packaging and its President, Chief Executive Officer, Mike Doss; as well as our old friend, Mark Connelly. Mark, as you know, is Senior Vice President, Investor Outreach, Strategy and Development for the company and also heads up Investor Relations. Meantime, Mike has been in the Chief Executive Officer role since 2016, having been in a number of senior leadership positions in the company dating back over time. We're delighted to have you both here, gentlemen. Thank you for being here.

Great to be here, George.

It's our pleasure. It's our pleasure and honor.

I guess, first off, Mike, last week, you were in town. You shared a lot of color, and we're going to get into that in a minute. But we're starting off all the presentations just talking a bit about what investors should have as table stakes for the start of the year to the extent that you comment and the outlook for the year. You mentioned during the Analyst Day that volumes are relatively flat right now, an improvement versus '23 trend. But there's a bit of a negative variance in the first quarter. Which, as I recall, is related perhaps to inflation and also perhaps some of the open market pricing, which we're going to get to, and that you're ultimately distancing yourself from. A, if you want to affirm or rebut any of that? Anything else that we should keep in mind in terms of the outlook early in the year and into...

It's a good summary, George. I think if you look at what our volumes on our packaging side of the business did in Q4, they were down around 5%. Europe in particular was down pretty substantially in the last 2 or 3 weeks of December. As I said at the Investor Day, it really seemed like many of our customers just kind of threw in the towel at the end of the year, which sometimes happens. Particularly in a bad year, they kind of reset those expectations. And as we've rolled into 2024, we've seen a recovery of those volumes. And as we said last week, we're really flat on a year-over-year basis, which is good. Both sequentially and against prior year because last year in Q1, we actually showed a little bit of growth, as you know. So look, I'm not sure we're ready to completely say it's all in our rearview mirror in terms of destocking, but it does seem like we're seeing some green shoots there, and our innovations continue to resonate. As you said, one of the biggest dislocations here in Q1 will be some of the conscious decisions we're making around our open market paperboard sales, and that will drive $35 million to $40 million of year-over-year variance against prior year, largely related to Augusta, which we talked about last week as well.

And on the conscious decision, is that more the volume that you're choosing to perhaps not serve that you might have served? Or it's the implications on that relative to what we're seeing in some of the published pricing...

No, it's really a function -- we operate our -- all of our facilities to demand, and we're doing that in our paperboard manufacturing facilities as well.

Understood. Thanks for that, Mike. The Investor Day presentation, by the way, we wrote this in our research, it doesn't mean it's right. But we thought you did a very, very good job, and we appreciate the thoughtfulness that you put into your Investor Days; and the fact that you, frankly, you hold ourselves accountable as we were talking about come back 2 or 3 years afterwards and we see what your progress was. You made a good case or why you see GPK as becoming a true consumer packaging company beyond operating rates, beyond cereal boxes and 12-packs. That was a pretty good line from last week. Why did you feel you had to make that case? And what are you hoping to accomplish? And what do you see as the risk? Now you hold yourself to a different bar, got different risk, right?

Yes. So I mean, if you really -- I spent a fair amount of time talking about this in how I framed the difference in the pivot where we've made the Vision 2030 from Vision 2025. Vision 2025 was really a transformational heavy lift, heavy investment, both in terms of physical assets and some M&A, to kind of position the company where it is today. And with Waco kind of being the one outstanding thing that we're still working on, the vast majority of Vision 2025 is in our rearview mirror. And it worked. We hit our financial targets. We made progress against almost all of our nonfinancial targets, which is fantastic. But if you look at the company we have today, it's very different than the company we had in 2019 when we laid that out. Our portfolio is much more robust. We move with the consumer. We've got real opportunities for innovation. And if you think about Vision 2030, that's where we're going to win with the investments that we've made in driving sustainable innovation solutions for our customers. So that was the point we wanted to make.

And what do you hope to accomplish from that as investors become more comfortable -- assuming they do, they may disagree. I mean, all in the performance. What else do you hope to accomplish from getting us to pivot in our thinking about what Graphic Packaging is or isn't?

I think if you look at the stability of the cash flows and the earnings profile of the company, it's been derisked a bit with the moves that we've made along the way. I mean, we do move with the consumer. If one aspect of our portfolio is down, say, inflation is high and consumers aren't going through the drive-through as much, they're eating at home, we win. If the opposite is true, we've got a portfolio that allows us to be able to benefit there, too. So we've become much more agnostic around where the consumer moves because we've built it out purposely along those lines.

Thanks, Mike. Any questions from the audience? Hopefully, it won't be -- get a lot of engagement here. We'll keep going then. What gave you the biggest pause, if any at all, on the divestiture that you planned for Augusta? And you've put a fair amount of capital into your mill system overall. Broadly speaking, how difficult is it to part with an asset like that?

And we invested in Augusta, too, as you know. And so we take those decisions very seriously, but we do it through the lens of taking a look at the opportunities, the strategic opportunities we have because we can't be all things to all people, right? We've got a certain amount of financial resources. We have to put those resources where we can get the greatest return for our shareholders. And as we look back and consider our other opportunities, for our wood fiber mills in our recycled fiber manufacturing facilities, we ultimately decided that those opportunities were greater and they weren't as big in Augusta. So the right thing to do was to divest that mill, which we did to Clearwater Paper. And their vision for the future and what they want to be is much more consistent with what that mill is capable of doing. So we're excited for them. Look, bleached paperboard is going to be a great grade, and we're going to convert a big chunk of that. It's something that we do. We'll have the ability to be able to do it in Texarkana. But we've got greater opportunities in some other parts of our business. If you think about cup as an example, we want to be able to invest behind that in a more material way. So it's really a capital allocation decision and ultimately one that was favorably received by both our investors as well as theirs. So that tends to be a pretty good litmus test. Go ahead, Mark.

And just following on that, the comment about bleach paperboard. Paperboard itself, regardless of what it's made of, is such an outstanding substitute for the plastics that many consumer products companies and consumers are looking to remove. So there's a great outlook for that business. But again, as Mike said, we had to make choices and prioritize. We can't be all things to all people, and we are putting our capital and our resources where we have an additional competitive advantage. And we have that -- we're not getting out of bleached paperboard. Texarkana is an incredibly important piece of our business, but we have a competitive advantage in the cup business. So it's that prioritization process. It's a great business, and all of paperboard is going to benefit over the next several years with the push towards more sustainable packaging.

When we talk about the various substrates, and Mark, you might have covered it already in terms of the answer, but we'll make sure. So are you seeing the consumer shift in how they evaluate the different substrates within paperboard? And so they think bleached is more friendly than recycled or recycled more friendly than bleached? Or is, George, you're overthinking it and it's paperboard and the consumer is happy with that versus other substrates?

I appreciate you thinking about it as much as you do, George. That's great. But if you think about really what the end-use consumer is looking for, they're looking for sustainability. They're looking for functionality and they're looking for convenience in the packages that they use. If you get any 1 of those 3 wrong in terms of the package you make, it's going to be a problem. So we have to hit on all of those. Having said that, if you really look at what Kalamazoo is capable of doing, and soon Waco will be able to do, we will be right at the intersection of where the consumer wants us to be, in the fastest-growing and most attractive part of the market because they really would like to have high quality, high graphics and the ability to have it be 100% recycled. We're going to have that.

Sustainability functionality. What was the third?

Convenience.

Convenience. Okay, understood. Questions from the audience? I know you don't want to listen to me all the time. Well, you're out of luck. You have to listen to me in the next question as well. So Wave 1, 5 years from now, we're having this discussion and your contract has been aligned to the model and the business you're building a graphic. What does your typical contract look like? Is it a pass-through model? Is it something else? Because you can't become packaging unless you fix some of the things in your contracts independent of your vertical integration.

Well, the first thing that it's going to have is the ability to in, a timely fashion, pass along input cost inflation that we incur. And I think we've demonstrated an ability to be able to do that over the last couple of years. And we've consciously been talking about, for many years now, moving away from third-party indices because we actually don't find them to be as accurate as we need them to be. And you wind up with transparency -- a lack of transparency we believe that our customers and we just really don't like. So we have been very vocal about that and we'll continue to do that. So when you look at what we do, it's not a one size fits all. We're going to have a variety of different pricing mechanisms that we use with customers. We want to be able to be flexible with them because they have different objectives they're looking to do. But it has to be timely, it has to recover the inflation, and you'll see us have less third-party indices over that 5-year period of time for sure. That's our focus. And if you think about what we do with Augusta, it's largely what we're divesting there is an open market seller of paperboard. That's a big chunk that goes out with that, too.

Understood. I'm not sure -- is there anything else you could share in terms of how you envision what the openers might look like over time? And I know that's getting a little bit closer for comfort, but figured I would ask.

We've certainly made a pivot that we need at least 2 a year, our 6-month cycle in terms of recovery. Our customers want a level of stability in pricing, and so we're not going to be in a monthly pricing model. That doesn't work for them because they need to have some predictability to be able to go forward and there's value in that for them. And so a couple of openers a year is good, probably need more frequency on freight because it tends to move a little bit more, or just basically have them take responsibility for rate, which is what many of our customers have done.

How do you plan to incorporate the cost position that you've been building in paperboard manufacturing centers? Notice what I didn't say. I don't want to -- you guys -- dollars. And as you progress to 100% vertically integrated or near-100% vertically integrated business, will you have a preference at that juncture, and whether board is moving up or down?

Yes. So I think the right way to think about what we're looking to do there is -- repeat that question because I got a little screwed up in my head...

No problem. I threw 18 parts into it. So you've been building our last number...

Never seen you do that, George.

What's that?

Never seen you do that.

Never, never. I've been taught by -- well by my peers. You've built a business with you are low cost across your manufacturing centers. Okay. I'm being flip here for effect. So what? How are you going to build that into your business given the new model?

Right. It's a great question. We're not going to lead with price. It doesn't make sense to do that. Ultimately, we're leading with innovation. We need to come up with new packages that actually help customers drive sustainability, drive convenience and drive functionality. And to the degree we do that, we drive our volumes up, which we've been very successful doing over the last couple of years, and that's really how we're going to win. We expect our margins will improve with the cost advantage that we have, but we're not using that to just gain share. We're using our innovation and the investment we've made in people and capabilities to really drive our top line. Do we earn some share along the way? We probably do. With the sustainability portfolio we've got and the commitments our customers have made around being carbon-neutral by 2040 or 2050, we've had -- every package we make factors into that equation in a positive way for them. So there'll be some opportunities for us there, but it's really about innovation.

The commercial really will not come from your cost position. It's going to come from what you can do, and the performance of the substrate, which allows you the convenience and functionality and the like. But it won't be the cost.

If you look at Rainier, it's a grade that we can only make in North America. No one else can make that. It's got the brightness. It's got the smoothness. It can compete with the very best bleached paperboards out there. That's an example, again, around innovation in terms of a paperboard grade that we can sell to customers that will help drive our top line performance. And our investors will ultimately benefit because of the cost position that we have, but we're not leading with price.

And the surety of supply, especially after we have Waco, puts us in a different category.

Thanks, Mark. Thanks, Mike. Any questions from the audience. Troy? Hand him the mic...

Can you speak to maybe the '24 CapEx program and then how evolves into '25?

Yes. So '24 is going to be peak CapEx. As you heard Steve kind of outlined, it will be $900 million-ish. And the reason I'm not putting a finer point on that right now is we're looking to go as fast in Waco as we can. So if we can go a little faster, it will be a little bit more towards the high end of that, which means obviously it won't be in '25. But you'll see '25 ramp down. And then by '26, as we talked about, you can see a 5% CapEx of sales or below. That's really the development.

Thanks, Troy. Next question. Ron, did you have a question? Just hang on for the mic. Linda?

Our colleagues in the plastics industry have struggled and continue to struggle with the perception of recycling and its reality, let's just say. Do you feel any of that pressure washing over the paperboard industry? And if you do, is there a way to deal with some of that?

Yes. Thanks for the question, Ron. It is the perception and the reality, as you well know. I mean, if you take a step back and look at North America and Europe, which are our 2 principal markets where we operate, recovery rates for paper and paper packaging are over 70%. The end-use consumer knows that. They know when they put their product in a bin, that it will wind up most likely back into a first-level primary package again. Not downgraded to a park bench or planking somewhere down the stream, which I'm not diminishing the importance of that. But they like it going back into a primary package again. So if you think about what the investment we're making in Waco as an example, we're going to be able to take up to 15 million paper cups a day, clean them up and take advantage of that fiber. And that will be the first wire going down on that sheet. Where our competitors are largely using sorted office paper, which is becoming increasingly harder to get, which means it's more expensive. You have to spend money to do that. Graphic Packaging has built that platform in Kalamazoo and Waco. That's why we're so excited about how Vision '25 makes an index into Vision '30 and the transformation that we've got. We've got really everything we need to deliver on the commitments that we made. So it's exciting. And I think if you look at plastic recovery rates, they're in the low to mid-teens. So you want that consumer to feel like they've got a license to use this paper cup, that they know that ultimately it's going to wind back up and we can recycle it, put it back into a primary package. And if they feel that way, they're going to support those brands that actually are using those materials that ultimately do that.

Thanks for the question, Ron. It's an interesting point, though. From the surveys that we've done, the consumer is -- we use a phrase, pre-tortured on this. So they view plastics as less good for the environment. But on the other hand, they view plastics as the material they're going to recycle the most. And then they merge sustainability with recyclability. And sure, plastics is recyclable as are lots of other materials. So we'll see. I mean, the plastic industry to its credit is doing a more effective job, I think, of pushing recyclability and carbon footprint, which we talked about last week.

Yes. It depends again on how you look at life cycle analysis. Do you go back to the wellhead? I mean, or the smelter or whatever application. In our case, we're going back to the tree. And we laid out a plan over the next 7 years to decarbonize your company and hit all our SBTI goals that we put out there, which is pretty exciting. And those investments are all part of the 5% of CapEx and come with cost of capital returns. So we're trying to hit it on all sides, and that's resonating with our customers because they need us to be part of the solution to help them accomplish the goals that they've put out which were quite ambitious in nature.

And it's easy to say you're a sustainable packaging company, but it's getting harder with ESG, there's more sophisticated investors asking more sophisticated questions. And we've got our plan out there now. You can't -- we're not going to claim to be a sustainable packaging company without having that plan front and center, so you can see how we're going to get to hit these targets. And again, as Mike said, every new product we sell is more sustainable than what came before. So we're actually helping our customers achieve their own sustainability goals.

On some of the plastics replacement that you've talked about, especially for protein, where you're potentially replacing trays or maybe -- you are.

Yes, we are.

Does it hinder you at all that you don't have a plastics component to go with it, a film to go with it? Because you're buying that tray, you're probably going to put a film over it in terms of the overwrap. So does that enter into any of your headwinds right now in terms of getting at that $15 billion TAM?

It's a great point. But what I would point to is, if you look at like our paper seal innovation, it actually does have a thin film on the inside of it. But the consumer in Europe has got the capability to pull that off and then recycle the paperboard. Again, the most sustainably conscious consumer in the world. And the demand for that and the opportunities for that particular specification have just been fantastic in Europe. And so I think you'll see more of those types of applications. We don't want to let progress get in the way of perfection. And if you think about the Boardio product that we talked about, it went from 100% plastic to 90% paperboard. There's still some films that are required, and we're going to continue to work on those and maybe we can get them to 95%. But that's significantly better than where it was. And that's kind of how we look at it.

Well, what about like things like overwrap that you're never going to be able to replace? Or maybe you will. So the fact that you don't have a film to go along with the tray versus other companies that do, is that a problem or not really?

Not really because if you look at really how we've defined our TAM here where our target market, our $15 billion, it's all for products that we either have a solution already for or one that we've developed and we can market and sell to that customer. So there's a long list of opportunities for us to continue to grow our business. And there will be some things that, yes, we're not capable of doing now, maybe we could in the future. But that's okay because we've got a lot to work on in the meantime that allow us to grow our revenues.

In 2019, that addressable market, we saw was $5 billion. We raised it to $12.5 billion and then to $15 billion. And again, that's not pie in the sky. That's we have a product, we know it works, and we're looking at exactly where that product can go. So it's not a TAM in the traditional sense. It's our plan of business to go after.

Thanks, Mark. Thanks, Mike. Any questions from the audience?

We got a couple of them, it looks like.

What's your thoughts on green financing, like green bonds, given your investments in -- I mean, recyclability?

I'm sorry, I had a difficult...

If you can repeat the question.

Sure. What's your thoughts on green financing or green bond insurance, given your like CapEx or investment in the ESG...

I am missing a word.

You're talking about bond refinancing?

Yes, bond refinancing.

And what was the question on bond refinancing?

Green bonds.

Green bonds.

Green bonds. My apologies, I just -- I couldn't hear properly. Ultimately, yes, we've done some green bonds. They've been oversubscribed. We'll look for opportunities, as we always do, with financing arrangements that we have going forward. The good news for us, as you know, our debt stacks are in a really good spot, gives us a lot of optionality here. We'll retire some debt with the sale of the Augusta facility here potentially. We'll look at how best to do that. But yes, our optionality here is high, and we're committed to having a very good balance sheet. You look at where we are right now, we finished the year 2.7x. And we're well within our range, and that gives us a lot of flexibility there. Greg might have had a question.

Mike, quick question, please. Related -- great stuff in the paper cups. To the winder, just generally help us. Can you do that at kind of a similar cost to SOP, if we think of it on an average? Or are you certain you can go below it? Or what do you guys see there, please?

Yes. So paperboard actually tends to be more expensive in most applications. Of course, that's part of why we make the investments we made in Kalamazoo and Waco and other packaged facility investments that we've made to drive our costs down over time. But ultimately, in many cases, it comes down to some of those products are just being phased out, so they have be replaced by something. Comes down again to sustainability, functionality and convenience. And paperboard does a really good job on all 3 of those things. We have to drive that innovation. We have to help our customers get the lift. That's why if you think about our Cold&Go Cup in that particular application you're talking about, there's a lot of intellectual property there that is new and didn't exist before. That's what our customers expect from us, and that's the company we've built. We have those kind of resources in material science engineers that can really help us think about how best to do that going forward. It's pretty exciting.

And also, again, you can -- you believe you can recycle the cups at a similar kind of price average to SOP? Or do you think underneath that? Or...

No. I guess the way to think about that, Greg, is if you think about -- and you know these markets well, sorted office paper is -- the amount of availability is decreasing, right? And so if you make a high-quality recycled paperboard, you want to use something that's as clean as possible on top so you don't have to use as much coating, which is expensive. In our case, not only do we believe it's possible, we've made the investment now in Waco to be able to do that with a specialized drum pulper. It's going to allow us to take up to 15 million cups a day and harvest that fiber. We'll clean that polyethylene liner off. We've got a variety of different options that we can use for that, whether it's waste energy or some other application. But we're doing a real benefit to society. And if you think about what the -- within about a 200-mile radius of the Waco mill, there'll be revenue stream for some of our customers that ultimately are helping collect those cups and get them back to the mill. And that's something that doesn't exist today.

Mike, do you have that capability at Kazoo?

Not yet. But well, look, we can do cups, but we can't do it at that kind of scale. But this is -- if you think about it this way. We can get it relatively quickly provided this plays out the way that we think it will in Waco.

Okay. Thank you for that. Thanks, Greg, for the question. So you mentioned you've made the portfolio more risk, not averse, but balancing, managing...

Trying to derisk some of the things.

Thank you. So to that point, this year, if we see a slowdown in food service, although I realize you're not seeing it in your numbers right now because of where inflation has gone, particularly for food service relative to the business. What does it mean for Graphic? Or should we not worry about that?

I'm going to hit that point again. You saw in the investor slide deck, if you haven't, please take a look at our website. If you go back to 2017 and look at our portfolio, we were beer and cereal. Those were our core markets. And then over that period of time, the last 7 years, through a bunch of transformation and strategic investments we've made, we built that portfolio out much different. I'm going to come back to the term I use, we move with the consumer. So if the consumer is moving away from the drive-through, they're coming somewhere else because they're going to eat, they're going to brush your teeth, they're going to feed the dog. And if you put all those things together, those are the types of products that we make. We participate in those categories, and we're increasingly agnostic around how they move because we're benefiting from all angles of that. And we'll look for opportunities to continue to build that out. If you look at our Bell acquisition last year, we got consumer mailers. That was a market we didn't have before. And so we'll look for those kind of things that ultimately help us continue to derisk that portfolio regardless of what macroeconomic backdrop is going.

Or what channel? We're in the club channel. You're seeing private label pick up some places. You're seeing club pick up. You're seeing SIOC pick up. E-commerce. We're in all of those places now. That's the investment that was made in Vision 2025, is to diversify our ability to supply more consumer staples markets more consistently and at scale. So it's not just what the consumer buys, but it's where the consumer buys it. We are in all of those places, and we're moving into pieces of it that are new to us. For example, in the United States, health and beauty is a relatively new business. We've got deep roots in that business in Europe.

That's a really good point. Channels.

To that point and with AR Packaging, how large do you see Europe getting in the portfolio over time? Recognizing you're going to move with the consumer. So whatever the consumer does broadly, globally, that's going to drive your growth. But do you have a target in mind in terms of what you'd like to see for Europe over the next 3 years?

Bigger. I mean, we're going to grow organically, and we've got a lot of opportunities there. We get a lot of value out of having a large business in the European market because we learn a tremendous amount of information. Again, most sustainability conscious consumer out there. And that's, I think, really one of the misunderstood benefits of A&R. Yes, we got geographic footprint, and we built out our Eastern European portfolio much better. But what we really got there was just an exceptionally strong group of people around innovation and both in terms of people and capabilities.

With AR, you got Boardio. How does Boardio compare against your traditional rigid paper composite can? Or they're going to be aimed at different end markets?

No, I think it's aimed at similar markets, but it's been tested against some of the most scrutinous regulatory requirements in Europe. And so the fact it's actually held up against that screening now makes it actually excellent for us to be able to springboard here to the North American market.

Is it cost equivalent to...

No. No. It is more expensive in some cases. We're working on that, obviously. But if you saw like what the confectionery customer did who made that transition, they did a 30-second ad for that particular product. It was a gum product. 28 seconds of that were on the package and not on the gum. They have to respond to the regulation that in the -- this kind of license to use that I'm talking about. And that's what's so exciting about our business and the innovation opportunities that are in front of us.

My last two, as we wrap up here. You're in our seat, what 2 or 3 things would you focus on over the rest of the year to see whether you're sort of making progress towards your goal for the year? And then as we think about a question that comes back time and again on Graphic. Hey, listen, we get the strategy, we get the investments that have been made. But we've had Waco, we've had AR Packaging, we had Kalamazoo. "When is the shareholder going to get theirs?"

All good stuff. So I think, look, for 2024, it's about our volumes inflecting to positive growth. And I think that's really a consistent theme you're going to hear across the business. We gave you some insight into what we're seeing here in Q1 so far. We've delivered innovation in 2022 and 2023, both years around $200 million against very different macroeconomic backdrops. Our confidence level is high we'll do something similar to that in 2024. So I think that's really the yardstick will be measured against this year for sure. And obviously, growing your volumes has a tendency to be positive for pricing as well, which is on investors' minds. So we get that, too. To the last part of your question, it's all very fair on behalf of the investors. I will point out that we bought back close to $900 million of our stock at very favorable prices over that period of time as well. But we don't have another Waco coming behind Waco. We don't have a need to vertically integrate our European business because it's not a requirement to grow our business. So 2024 is peak CapEx. CapEx will wind down, and it's a pretty mechanical process. If you take a look at our commitments around low single-digit growth for revenue, mid-single-digit growth for EBITDA and high single-digit growth for EPS, we're going to generate a lot of cash. And I gave you our target relative to what CapEx looks like. So the optionality for that free cash flow is high. Vision 2030 is about rewarding the shareholder for the company that we've built, and we're really excited about that.

We couldn't tell. We couldn't tell. Mike, thank you. You've done a heck of a job so far, and we look forward to marking your progress.

Always great to be here, George.

Better to have you guys here. Please join me in thanking Graphic Packaging for a great presentation, everybody.