O-I Glass, Inc. (OI) Earnings Call Transcript & Summary

Thanks, everyone, for joining. I'm Anthony Pettinari. I'm the Packaging Analyst here at Citi. And we're very pleased to welcome Gordon Hardie, CEO; and John Haudrich, CFO from O-I Glass. Gordon, John, thanks for joining us.

Yes. Thanks, Anthony. Many thanks to the Citi team for hosting us. We posted a brief presentation online and direct people to the safe harbor statement. What I might do is take a few minutes just going through a few slides, and then we can hand it back to you for Q&A. So we're the global leader in glass packaging. We're systemic to the beverage industry. We service a lot of the world's top food and beverage brands. We sell in over 74 countries, 21,000 employees. And we have a combination of what we call mainstream categories and premium categories, roughly about $6.5 billion. And we're transforming the business to -- by being much more competitive. We had lost over the years our competitive edge mainly due to an inflated cost base, which we are now addressing through our Fit to Win program. So we've got a pretty simple approach divided into what we call three horizons. First one is get fit, strip the waste and inefficiencies over the business and direct those savings to improving our earnings and our cash on the one hand and investing in profitable growth with customers on the other. As we move through Fit to Win, we made progress towards that. That should open up sources of volume growth that have been close to us in the past because we weren't competitive enough and we're already starting to see the green shoots of that in '25, where we're winning business that perhaps in the past, we wouldn't have been competitive enough to win. And as we drive through the whole Fit To Win and we get to the level of $650 million out in terms of cost, we would expect more profitable growth opportunities to open up. And then as we work through that, we should be reaching 1.45 billion EBITDA, 5% of revenue as free cash flow and a plus 2 returns. That opens up sort of options then to maybe expand into new markets, supporting customers as they grow in new geographies, new segments, new adjacencies. And that really is Horizon 3, which is -- we do have a very sharp focus on economic profit. So either we can have pieces of business that are well above their weighted average cost of capital targeting WACC plus 2. If we can't get there through our own means and with better conditions things like pricing and that, then we take that business also and redirect the capacity and the capital elsewhere.

And I'll cover the last comments here. It's on Page 21 of the materials. But just what are we trying to achieve over the next several years? Understanding that our journey here started with the 2024 ESR base. We had about $1.1 billion of EBITDA. And as Gordon mentioned, our target over a 3-year window by 2027 is to get that up to $1.45 billion. That's a 30% improvement or about 8% CAGR on EBITDA over that period of time. That should translate into return of EBITDA margins in the low 20s. Importantly, free cash flow as a percent of sale greater than 5%. And then back to, as Gordon mentioned, in economic spread that's 2% above our cost of capital. We're off to a very good start on this. Fit to Win has exceeded our expectations, and we are set to double our adjusted earnings in 2025 compared to 202 but the journey doesn't stop there, that we have long legs as far as opportunities. As you can see in 2029, we aspire to $1.65 billion. continued improvement in margins and importantly, getting free cash flow up to 7% of sales as well as a higher economic spread. And you can see a number of other longer-term objectives to while over this next 3-year period out through 2027, we're looking for a stable top line as we really focus on becoming cost competitive. Our expectations to start to grow the business at more than 1.5% a year off of a more competitive base is going back to Gordon said, the profitable growth stage, which we believe is above market. So we believe that, that should drive market share improvement in the same token, while we're doing that, we're going to be moving our portfolio business from what's right now about 27% premium up to 40% over time, and we're going to do that through leveraging a very good close relationships with customers, very good Net Promoter Scores that we have right now. and a significantly improved cost base, which in the mainstream category should be 20% lower than where we are today. So we've got a great plan, I think we're executing well on it. They're coming out of the gate strong and even if in a generally soft and sluggish marketplace, we're exceeding the original expectations we set ourselves to.

Great. Great. It's super helpful. Maybe we can we're in December, close to the end of the year. Last month, you raised full year EBITDA guidance. And I'm just wondering if you could kind of walk us through what led to that increase and maybe look back on the year and if you can talk about sort of volumes, net price and then fit to win and how it's gone versus expected.

Sure, yes. I mean we have regularly increased our outlook in 2025, as you mentioned. Our current guidance has earnings to $1.55 to $1.65 per share and corresponding EBITDA improvement, as you referred to. That increase has been substantially driven by improved Fit To Win benefits. So we entered the year thinking $250 million or so of fit-to-win benefits. We're now guiding to $275 million to $300 million primarily because a lot of the operating improvement areas that we've been targeting are ahead of schedule. At the same token, we benefited from net price while we thought it was going to be a bigger headwind this year. It's actually moderated as far as a headwind, which is a good thing, and that's helped offset some of the incremental volume softness. We anticipate the year will be down about 2% or so sales volume is consistent with what we kind of last guided to. Expectations going into the year were originally flattish. So a little bit better on net price, a little bit softer on volumes. But overall, if wins the one that really drove the upside of guidance.

Got it. And just following up on a few things there. What kind of drove the better-than-expected Fit To Win performance? Was it a specific region? Or do you think you're maybe conservative in the initial or what surprised you?

I think the standout thing for me was the way our people went after the opportunities that we identified. It's not untypical to face a bit of resistance when you face into a big change program. I think there was very little of that overall, and people really saw the opportunity. And I also think people recognize the reality and that we had become uncompetitive and particularly people in the plans feel that because they are the first ones to see volumes dropping and so on. So there was -- I think across the board, there was a feeling of -- well, finally, we're pacing up reality, and we have a plan to get after it. And yes, I think people really stepped up and dug in and went after the opportunities are there and are executing really well. A big shoutout to the folks at I-O. I think they've done a tremendous job getting after the inefficiencies and waste in the system.

And not to go through a history lesson, but I think it's probably important for this discussion. Can you talk about maybe why the cost base got a little bit out of control. And in terms of Fit to Win being different from maybe previous types of restructuring actions, like can you give us some kind of context on -- maybe start with the second part.

As you ask, Anthony, many people have asked me.So what's different with this versus other maybe productivity programs that the company has undertaken in the past. And there have been successful productivity programs, but they've been in targeted areas. And unless you fundamentally changed the business system and way of working, costs tend to go back, right? So what we're doing is reviewing, as we pointed out at the business end to end from the backdoor of the suppliers all the way through to the customer. In the past, that supply chain was divided into 5 areas with 4 leaders reporting into the CEO. We've changed that structure. I know have one end-to-end Chief Supply Officer who is accountable for the whole chain. And so there's much more cohesion in the approach to how we get fitter, how we strip inefficiencies and waste out. So it really is an end-to-end view of the business rather than just specific programs. I also think John and the team have set up a really effective method to track progress and if it's not in the P&L or it doesn't appear as an improvement on the balance sheet, then it's not real. We've set up a value office to track that, and that's working really, really well. So people see sort of results in real time and they're reported on and people know where they stand each week and each month. And as you get after the cost and the waste and people see it coming out, that engenders more confidence to your on the way. in faster. So that's kind of what's different.

I might build on that just sure somebody who's been around for 15 years in the company is, I think, the redefining what good looks like is also really important. Historically, the business has been run by people who have been in the glass industry for 30, 40 years. right? And they believe based on what they saw, right? And it's not a big industry, but -- and it's kind of a little bit close knit. So I don't think there was a really challenging of what best-in-class manufacturing looks like. And so in many regards, standards of how we operate or set 30, 40 years ago, and some of those were just became ways of doing business. Now it's being challenged in a way that it wasn't before with ideas that are outside of the industry and saying, hey, we can do something different. It doesn't have to -- you don't have to run this machine at the speed or this furnace at this particular rate, you can actually challenge that against long-held beliefs.

Can you talk about curtailments and facility closures in terms of what you've done in '24, '25, what you flagged for '26 and how that impacts...

Yes, I can address that one. So if you take a look at it, our demand is down about low double digits, maybe call it 13% from pre-pandemic basis, right? So -- and of course, we're in a trough kind of marketplace and anything like that. But what we have done over the last, call it, 12 months and will extend into the first few months of next year is permanently closing 13% of our capacity. As at the end of the third quarter here, we were at about 8% or so was functionally closed, and the remaining 5% will be done by the first quarter of next year. And so most of that, the work here before has been done in the Americas, it's easier and quicker to get on top of that, all the actions that are going to be going in are going to be over in Europe, but we are moving forward with that. So at the end of the day, we should be substantially done with what we call initial network optimization and rebalancing that whole network by the end of the first quarter. and all the cash restructuring associated should be out of the system by midyear. So we believe we're just going to be at a much better both operating rate and cash run rate by around midyear or so next year.

And in terms of visibility into volumes, I mean, we had the kind of whipsaw the pandemic, but how much visibility do you have? How much visibility you customers have? And has that changed? Or is improving that been like a target?

I think we have a fair amount of visibility certainly enough to take a view, okay, this is where revenue be here's our target EBIT and there families where costs were to be over the period of the year. So one of the things that surprised me coming into the role in the industry is that forecast accuracy is pretty low across the industry from customer back to supplier running is about 50%, and in some instances, much lower. So if you're a plant manager, you've got a 1 of 2 chances of either shipping it to a customer or invoicing it or sending it into stock. So we've done a lot of work in terms of our own systems and also working with our key customers and say, hey, how do we improve that? Because it's a cost for us. It's a cost for you. It's just cash sitting there. And so over the kind of 6 to 8 months, we've taken that number from 50 to about 68%, and we'll see further improvements as we go through next year. And so the better you get at that, plus the more efficient and more agile, you get at manufacturing. You can respond more quickly to the ebbs and flows of demand. So I think there's a lot of work to do for us in our supply chain with our customers of getting that supply chain really, really fit and agile of responding to demand signals and producing our demand segment rather than necessarily forecast. We've got to improve forecast accuracy, would ultimately get to a place where we're producing to a demand signal from the customer in the retail.

You talked about price being a bit better than expected year-to-date. Can you just kind of remind us the pricing mechanisms, you have some contracts and you the timing of that? And then what you said about '26 on price.

Yes, sure. And just kind of go around some of the contract structures and the timing of things. If you go over the start over in Europe, which is about 45% of the company's business, right, about 1/3 of that business is under long-term customer agreement with tier agreements that have price adjustment for and those associated with them. So it's very structural. But the other 2/3 is what we call open market. And so while the 30% is multinational accounts, think of thousands of small wineries, right, when you're looking at the -- with the open market, we typically have a negotiation window for those annual agreements. That starts about now right at the end of November and concludes mid-February or so. Okay. So that's kind of the dynamic that occurs in that entire environment over in the Americas. It is more tracked. So for example, in North America, it's probably over 90% under long-term contracts with price adjustment for is a much more predictable environment. And in Latin America, it's about 75% contract with the other 25% kind of open market. So really, the thing that swings our view of net price realization is the outcome of those open market agreement negotiations. That's basically just started now over in Europe. So -- and what we had indicated during our last earnings call, we kind of gave a directional view of what we think going on next year. And if you take aside the onetime energy contract resets. We can talk about that if you want. But that's a kind of known item out there. We had indicated that gross price would be up some primarily in the Americas, whereas net price will be kind of balanced maybe you might see a little bit of pressure over in Europe, but it's a little early to be able to tell that because those negotiations when those have only just begun.

And the -- maybe possibility of net price pressure in Europe, is that energy contracts? Or is that just a...

I would say that you have the opportunity of some net price positive in the Americas, a little bit of net price pressure. I'm just talking about market and competitive dynamics, not the energy contracts a little bit pressure in Europe. So right now, we're looking at a balanced environment overall for the company, understanding that we haven't initiated. We're just at the very front end of that. So we'll have to see what the net effect is, and we'll update that at the year-end call.

Right. And you kind of talked about this before, in terms of cost. But can you talk about the competitiveness and the pricing of glass, especially versus beverage cans, PET.

So I think as we laid out at [indiscernible] one of the realities we need to face is that particularly in North America, glass had become very uncompetitive or a 30% to 40% differential. And when you look at the share of glass and beer, it's lowest in those markets where the cost differential. So if you look in the U.S., it's a lower share of the beer category. And glass has some tremendous advantages it's the only packaging deemed grass, generally regarding the safe product tastes better. There's a brand equity piece for the brand or, but all those advantages are blunted if you're if you're on a WACC and I think realizing that. And how did that come to pass, while it came to pass by 0% to 1% productivity and then 2% to 3% cost growth a year, it doesn't take it very long to get out of WACC. So we're addressing that. And in those markets where that gap is closest or even we have a cost advantage to we have the highest share of the beer category in terms of substrate. So it's very clear that when we look back over the numbers and particularly in North America and in the U.S. when we get win about 15% substrate versus substrate, we see a swing back to glass. So if you like, no, in terms of competitiveness, I suppose the Apex or target competition benchmark is the cans not necessarily to the glass. So if you like, in terms of competitiveness, I suppose the Apex or target competition benchmark is the cans, not necessarily to other glass companies...

One thing I would add is our business overlaps with cans about 35% of our business. So think about wine and spirits and the food categories that we do serve, they don't overlap with aluminum can. So it really is that kind of mainstream category and certain NABs categories that overlap, and that's where we're certainly targeting our cost competitiveness efforts really, really need to be really honed in on those. I mean, right now, as Gordon said, is price differential was, call it, 30% plus between glass and aluminum. With the tariffs now that's probably between 15% and 20% would be our estimate. Of course, we're not relying on we need to be competitive at the core, and that's why we're looking to improve that really in a targeted way on the cost competitive.

And I think if you're me, 5% to 10% less competitive than another glass company or a substrate, you have to think about cost and in a certain way. When you're 30% to 40% out, then you've got to radically rethink your business model, every process in the business to get that level of cost and was in the system. And that's part of the thinking behind Fit to Win. It's not an incremental program. It's a transformation program, which take 13% to 15% of our cost base hold, and changes of the total enterprise cost basis. And then when you narrow that down to what John said, where we compete against can that really gets well into the zone of where we need to be.

And so are you actually seeing some switch back? Or in that 35%, are you seeing some markets where you have large customers that are moving a little bit back into glass. And -- or is that something maybe you anticipate for next year?

Yes, I think it's more next year. This year has really kind of been working on getting traction. We'll we -- as we said, we'll be somewhere between $275 million to $300 million this year. If you add the '25, we delivered in the last quarter of Q4 will be close to 50% of the 3-year program out to 15 months. There's a very high probability when you're as far advanced after 15 months that you'll deliver the whole program and maybe go well beyond. And as we start to gain and deliver that momentum, then that gives us the ability to get much closer to cans. And we've got to get there irrespective of the price of aluminum tariffs have driven that aluminium prices that will help, but you can always rely on that. We have to get there in a much more structural way, I would say.

I think there's -- my understanding of the aluminum purchasing process, there's utilization of hedges and other things like that, that have actually mitigated some of the near-term impact of those, but those will eventually roll off and then the market will be exposed to that price. So that will take a little bit of time to flush through.

And for that 35% overlap, if I'm one of those large customers in beer or NAB, I mean, do I have a reasonable ability to flex or do I have to like recapitalize the filling line and make a capital investment to go more into glass I mean it's hard to generalize.

I think it depends on mark. But in general that there's a lot of bottling capacity out there and the dollar margins on bottled products are very good. And I think when you're that far out on the cost base, the issue is ours to fix, right, of the customers. And we're setting about that targeted, focused in executing well against it. So over time, over the next 2 to 3 years, I would expect us to pick up share, particularly in the premium segment. I also think there's a job not just on cost but on innovation. For the first time, I think in 30 years, glass will be able to or cannot play in the 12-ounce RTD market, which is which is quite a large segment and growing in double digits. But I think we need to bring some really kind of innovative concepts to those customers that have been premiumize a lot of the RTD segments. So there's both cost opportunities and also innovation opportunities for us as we go forward.

I don't know if there's any questions in the room, but. One thing -- one question that we do get is trend volume growth in terms of how to think about glass volumes long-term trend. But maybe start in North America. I mean there's only one publicly traded glass company in North America. There's a bunch in Europe. So it's sort of hard for us to know really what how you think about that.

But the way we look at it is kind of a demand stack. If you look at it's the organic growth of the category. Then there is growth potential from us getting either a greater share of customers' business already. And so you kind of being more competitive and share to you. But there's also a very large segment of the U.S. demand service by imports, largely from Asia that have been that have managed to survive and thrive because the cost base we've had was so high. So through true Fit To Win, we're going to get a lot fitter in North America, and that also opens up growth opportunities for us to combined costs with proximity to customer and agility to respond to demand that will allow us to kind of take share from there. So we kind of look at that at 3 levels. And then you look at categories like food, where there's a growing display among consumers with regard to microplastics and food in plastic packaging. And so we are seeing a steady and accelerating flow back into glass. So food manufacturers that might have moved to plastic packaging, now moving back into glass. And particularly in the more premium segments of food, we're seeing that. And then things like Gen Zs and a specific section of Gen Z-ers is kind of age 22 to 26 or drinking less alcohol. They are drinking, they are accessing the beer category through nonalcoholic beer and waters, flavored beverages, vitamin drinks, and we see those nonalcoholic beverage category is growing strongly, and that's an opportunity for us as well as -- so we see growth. I'm very bullish about the U.S. market. Actually, it's a large market, a large profit pool we've got a privileged footprint here. We're on the path to getting much more competitive and much closer to customers in terms of what their innovation needs are.

Is there -- for the '27,'29 targets, is there specific volume assumptions there that you'd highlight?

Well, I think we said about 1.5% volume growth. And when you see the kind of scale of the markets in which we operate on a cost base that could be up to 20% more competitive in a way. I think that's not a target for us to sell ourselves.

You gave some color on the North American market. Maybe we can just kind of take a tour, and I don't -- maybe talk a little bit more about Europe.

Yes, Europe quite a fragmented market, big beer mark, big wine market, obviously, big spirits markets. At the moment, demand just like here in the U.S., I think there's a large portion of consumers that are challenged by affordability. And the discretionary income is a driver alcoholic beverage consumption. So we're seeing that everywhere. Premium beer continues to kind of operate well. It's really the mid-tier that's sort of the time. And then with regard to spirits. I mean the two -- there's a big proportion of the spirits produced in Europe that are exported. And the two largest markets are the U.S. and China. So the U.S. has been challenged for a number of years, both on the offtake, but also on the amount of stock that was in the system and sold into the system during COVID and that's still kind of finding its way out. And then in China, consumer demand has been muted. There's been talk of the government having an edict on alcoholic consumption the official events, that impacts. And the supply chain to China actually is quite empty. And we expect that probably to ease up maybe at '27. So you could see a scenario where that supply chain or China would fill up pretty quickly. So yes, so that's kind of the European picture. There are green shoots in certain areas, again, like waters, non-alcoholic beverages, doing quite well and food, particularly in Southern in again, that shift back into cars. Then Latin America, we have a very strong business in the Andean region. So Colombia proved Central America, we are doing well there, food doing well. And then Brazil had a kind of a tough beer year, I would say. It was it was one of the coldest winters in 30 years in Brazil, and that impacted both consumption and beer, but also crop availability for certain food products. So we saw lesser demand for food in glass. And there have been price increases due to inflation going to the market, and I think that impacted demand a bit in Brazil. But overall, if you look at kind of dynamics of Brazil, the population demographics, increasing consumer wealth over time. I think it's a very, very interesting market for us.

Coming up on time here, but can you talk about cash generation when you get to '27 or '29 and like...

Yes. I mean it's -- that's a massive focus from us. I came from an award of daily fresh, where you dropped your inventories to 0 every night. So coming into a business where inventories are sitting or we're sitting at 70 days. You kind of got to ask yourself, okay, where are the inefficiencies that caused that? So we had a usage of cash last year as we curtailed capacity of about $128 million. I think we told the market we delivered somewhere between $150 million to $200 million after about $150 million of restructuring this year. So that's almost a $420 million cash turnaround at a gross level. We'll improve our cash flow next year. Our net cash flow after restructuring. Restructuring should be around the similar level, maybe even less next year. And then we're through that heavy restructuring in '27. If you look at the gross number before restructuring, we're almost at the 5% of revenue target and that's still with kind of 55 days of inventory in the system, right? So we have tremendous opportunities to get beyond together 5%. And as we outlined at we expect to be at 7% of revenue by 2019. I mean this is a business that has tremendous potential to generate a lot more cash out of the business. And that would allow us to pay down debt, get below the 2.5, and that allows us then to look at options of returning capital to shareholders buyback or by dividend. So that's a plan, pay down debt, get us below 2.5, maybe closer to 2, and then we look at how we allocate capital.

Well, we're coming up on time. But Gordon, John, I mean, the progress this year has actually been very impressive from my perspective. So I think a great job. Thanks for the time.

Thanks for the interest.

Good to be here.

Thank you.

Thank you.