Sealed Air Corporation (SEE) Earnings Call Transcript & Summary

All right. This is Lars Kjellberg, Crédit Suisse. Happy to welcome Sealed Air. We've got a great lineup from Sealed Air this afternoon, Jim Sullivan, CFO; Emile Chammas, Head of Supply Chain, Chief Transformation Officer and also leading the Reinvent Sealed Air Strategy; and Alessandra Faccin, current Treasurer, but also spent 3 years leading the commercial side of the protective North American and also integration of APS and automation. So a great lineup there; and Lori is also with us.

Jim, if we can just kick off with just a brief retrospect. If we look at on your first half results, it was ahead of expectations, especially in the second quarter. In retrospect, what surprised you during the second quarter?

Thanks, Lars. Good afternoon, everyone. So clearly, our volumes in the second quarter surprised the upside in both segments. In the food segment, North American production for proteins was higher than we expected early in the quarter, and our customers really managed through the pandemic impacts on their operations and were able to get, I'll say, more normal operating rates in the latter part of the quarter. And in protective, the volume declines in the industrial sector from the government-mandated shutdowns were also not as severe as we projected early in the quarter, in particular, in North America. And despite high unemployment rates, which we thought would impact buying, consumer spending on essential goods and services, especially through the e-commerce channel, remained very strong. As we also mentioned on the second quarter call, there were significant shifts in product demand within the segments. And our portfolio, which is very broad, the global scale of our operations and the organization of Chile really helped us execute for our customers at a high level. And we've also been successful keeping our facilities operating during the pandemic, and our priority early on when we saw the virus initially in China has been to keep our employees safe. So we implemented enhanced safety protocols at our manufacturing facilities and went to remote operations for our office staff, which has certainly helped us mitigate virus-related challenges relative to the workforce. In terms of our cost, really nothing surprising there. As everyone knows, we have a lot of momentum from Reinvent SEE and the transformation of the company initiated starting in late 2018, that continues to drive hard even in the pandemic. We realized about $68 million of benefits which more than offset the EBITDA drag from currency translation and the lower volumes year-over-year, COVID related, in the second quarter. And I would say we've also done a very good job controlling our discretionary spending in the weaker volume environment.

And on that note, just a follow-up on the cost side because there's a number of companies that's talking about discretionary one-off spending being curtailed. Is there a meaningful headwind that you face going into recovery without discretionary spend, i.e., travel and other discretionary items that we should consider as we get back to normal business? Of course, volumes would be offsetting that, but is there anything that would not, in terms of the cost savings that would sort of come back anyway?

Well, most of the cost improvement is coming from Reinvent SEE, which is structural in nature. So we believe those benefits will sustain. And in 2021, kind of by design of the restructuring that will transition into kind of our regular way ongoing cost management system, which we expect will drive year-on-year productivity in excess of inflation. So we feel very good about that and the continued progress there. If you look at the discretionary cost reduction, certainly, in the first half, we did see lower travel expenses, as you noted. And to some extent, they will come back. But during the pandemic here, we've really seen quite a bit of progress with our digital tools and capabilities and have had, I think, very good success with our customers and supply chain partners and our employees working through this. And I think that gives us good confidence that travel-related spending will not return to the pre-COVID levels in the future. So I think there's some productivity there. There will be some when it comes back. Additionally, it's worth pointing out, we have had to incur incremental COVID-19 cost with personal protective equipment, for example -- in other areas as well. And we do not think that those costs will fully sustain into the future. So if you kind of look at the incremental cost from COVID and the savings from travel on a kind of first half of the year basis, it's about a wash. So really not a lot that we would expect to pop back in net-net.

Got it. Few companies out there -- actually, I was going to say -- use the word, dare, to have a guidance for the full year. You reinstated your original EBITDA guidance post your second quarter numbers. What made you comfortable to do that? And how should we also think about the implied margin expansion as you slightly lowered your top line guide versus the original?

Sure. So the short answer here, Lars, is we did really good execution in the first half of the year and having worked through a quarter of customer demand patterns post COVID, especially in particular, I guess, with strong retail -- food and retail demand and e-commerce demand mitigating the slowdown in food service and industrial activity. So that clarity is better as we were in July versus where we were when we would do guidance early on in the second quarter. So it's really a combination of those 2 things. And I think in addition, we weren't 100% sure how our Reinvent transformation would progress in this kind of slower volume environment. As I talked earlier, the volumes have been better. But we've also proven to ourselves, I think, that Reinvent SEE continues to be very robust and the pipeline of opportunities as we look out into the back half of the year is good. And we indicated that we see at least $110 million of year-over-year EBITDA benefits for 2020. So if you look, I think, on Slide 3, I don't know if Lori can pop that up, but for 2020, on flattish to slightly down year-over-year reported sales, we are expecting adjusted EBITDA to grow 5% to 7%, with the adjusted EBITDA margins up about 150 basis points to 21.5%. And importantly, free cash flow to adjusted EBITDA conversion improving from 33% in 2019 to 36% in 2020.

That's very impressive. So looking ahead a bit, can you give any color on how business has progressed as lockdowns have eased and economies reopen? And also obviously, the pandemic is coming back in some regions. Is the behavior in the market similar to in the first outbreak? If you can share any color on either one of those 2, that would be of interest.

Sure. So maybe it would be worthwhile just to recap our volume expectations on the back half of the year that are underlying our guidance. So in both segments, we do expect sequential improvements in Q3 and then again in Q4 relative to Q2. With the food segment roughly on par in the back half of the year with 2019 levels and protective down mid- single-digit percentages, we expect continued relative strength in food retail packaging in most geographies, which you probably know includes case-ready Darfresh platform and our barrier shrink bags for retail. We also see a strong export market into Asia given the ongoing protein shortage in the region. Equipment deliveries and new product introductions have been slow, a combination of the economy shutting down, but also access to our customer facilities to drive these things. And we do see, as we lean into the latter part of the year, that being a nice tailwind opportunity for us into 2021, customers are starting to lift restrictions that way. And in the protective segment, we expect the stay-at-home environment to continue to drive the online purchasing. And as mentioned, we've seen a nice uptick in demand for our sustainable mailers as e-commerce fulfillment customers of ours eliminate boxes to reduce waste and improve the productivity of their packaging processes. I know Alessandra, as you mentioned in the introduction, ran our North American protective business, and she'll be talking, I'm sure, on the call about our new strategy with automation. And then finally, with the specialty industrial portfolio, we do expect that to improve sequentially versus the second quarter, but it's still slow. And if you just look at that segment of protective, which represents about 1/3 of the overall segment, you're looking at projections in the back half of the year in the high single -digit down. So as that turns around, we will definitely participate in that cyclical recovery, and the margins in that business are very attractive.

And just on the pandemic flaring up again, is that -- can you share any color on that, if that's having a similar impact to the initial flare up of the pandemic?

Yes. I don't think anything to the extent of what was experienced in North America, but certainly, in certain regions, I know up in Australia and [indiscernible] in Europe and maybe South America, we've had some level of interruption at our customer facilities. But as I said, not to the extent of what we experienced in North America early in the second quarter. I don't know if Emile has any further color on that.

All right. And just coming out of the post pandemic. You mentioned, of course, there's been some potential structural changes with people staying at home, eating more at home and increasingly shopping from home. Do you see any structural changes in customer behavior end user and/or your customers that could have a positive -- a negative impact on your business outlook?

I think a couple of areas that are emerging, I think, is more longer-term secular growth opportunities. First, food safety. I mean and just the trends we see around that, I think, will play well, in particular, in emerging economies and I think we've always seen that as an opportunity. But I think given what's happened here, I think it's even more of an opportunity and probably nearer-term than we otherwise would have thought. And then secondly, with respect to both segments, we are seeing a strong demand level from our customers with respect to automation, as they are looking for their own productivity improvements, trying to stay touchless as well as in some cases just finding labor is difficult in certain cases. So I think those are probably the 2 big themes and trends that are available to us. I think you'll continue to see kind of the format shifts with strong retail and maybe not as strong food service, although I do think food service will come back at some point, maybe not to the levels we saw pre-pandemic. But yes, I would say those are the longer term secular growth opportunities.

That makes sense. Emile, it's great to have you on board and because Reinvent SEE's of course had an extremely important part on that and no doubt, delivering results this year. And it's been kind of touched upon already, but still, I'd like to hear your thoughts about how COVID has influenced the delivery of Reinvent SEE timing, scale and any potential rethinking that you've had during this process? And if there are any specific challenges or opportunities that is as a result in the pandemic for the plan itself, execution and new ideas or anything that's come in?

Yes. Thanks for having me, Lars. And again, just for a brief introduction. So my name is Emile Chammas. And I've been at Sealed Air for almost 10 years now and I'm leading the transformation as well as our manufacturing supply chain and IT groups. So if we go to Slide 14 in the presentation deck. So Reinvent SEE is going well. And to reiterate what we said back in our Q2 earnings call, we're on track to deliver at least $110 million of benefits for the full year of 2020 and $330 million for the total program. And as we can see on the slide, on a year-to-date basis, we're on track to meet those commitments. So back to the specific of your question, Lars, so yes, COVID has influenced our program. Some initiatives have experienced some delays on both sides in terms of the inability of some of our external vendors to meet timing as well as start-up support for some of the equipment that we've ordered from them to help on some of these initiatives. But also in some cases, especially during the peak of COVID, the inability for us to be able to get inside our customers' 4 walls, be it for testing new materials or solutions that we have been designing. But also, on the other hand, some other initiatives have been accelerated as well as, as you say, some -- opened up some new thinking or new opportunities that we hadn't originally contemplated a couple of years ago when we were thinking about the program. So in terms of new opportunities, I mean, COVID has brought the need and the opportunity for us to operate in a touchless fashion, right? And this is both internal as well as external. Internally, I mean, right now on the call, Jim, Alessandra, Lori and myself are in 4 different parts of the country as well as everybody else on this call. So it's really help us how do we not only manage during this crisis, but also coming out of it stronger, how do we rethink the way we work, how do we reinvent that. And that's creating some opportunities in terms of us not only being effective at working together, but also obviously, more efficiently. And similarly, COVID has brought opportunities in terms of how we can work with our customers and suppliers differently. In the past, when we would be ordering some -- or designing new equipment, we would be flying people over. What COVID has taught us and with the boom and the access to some of the technologies, we can now do all those things remotely. And with our customers, trade shows, obviously, are not happening. So again, it accelerated for us in terms of rethinking how we can still interact not only with a large audience through passive calls, but in terms of doing interactive design remotely. So again -- so these are some of the opportunities that are in place. And then finally, I would just say to add to some of Jim's earlier comments. From a COVID perspective, it has tested the capabilities of our organization. It's tested our operational excellence engine that we're putting in place. And -- but from our results, you can see that not only we've navigated through this crisis to date, but also how we will come out of it even stronger.

No, that sounds good. I think it's interesting from -- since you started this and you're going through the COVID experience now, but at the same time, you've actually increased your Reinvent SEE benefits from originally around $240 million, $260 million, now to $330 million and at a lower cost. So what areas have you identified with higher cost settings and now it's actually less expensive to get them? What has changed there?

Yes. So I would say many areas of our programs have ultimately identified more cost savings. And again, this is a testament of this engine and culture that we're putting in place. Originally, when we identified the savings, we typically look at each area, each part of the P&L, and you think of it in terms of vertical. But by putting this engine in place and really putting those teams together from design all the way through purchasing, manufacturing, to the customer, you start uncovering more and more opportunities than you originally thought. Let me just take maybe 1 basic example, but it just kind of illustrates why we, in almost every area, we're finding more opportunities and what this capability is. So if you take freight, as an example, right? It starts off with, well, how can we better negotiate contracts with our providers so that we can lower our freight cost. But then from there on, it quickly moves on to beyond that, how do we then install and invest in automated capabilities so that on a daily basis, we can tender that business and ensure that on every single shipment, we're getting the best service and also the best cost on each shipment. And from there on, there's collective teams that move on to say, well, how do we ensure that we're not just looking at reducing the cost of one shipment, but by how -- looking how we optimize multiple shipments from the same location and combining loads? Then from there, you start looking at incremental areas of opportunities by looking at the entire network across the geography in terms of where are we making certain products? Where are our customers? How has our demand shifted and optimize the total cost of ownership by moving those products around. But then it doesn't stop there. Then we move on to, again, working with our business and customer service team to optimize the product offer so that, that order point when the customer is calling, we can then advise them and encourage them to change their order so that they can -- we can give them an even better service at the right price and lowest cost for both customer and Sealed Air. And then from there, then we start looking at the entire chain and also inside our customers' 4 walls. And we start looking at, well, how can we change the packaging design or the solution so that we can optimize the truck cubing in a better way as well as reducing handling at our customers. So finally, that cycle starts over [indiscernible] And that's really in terms of the capability and the culture that we're putting in place so that we're no longer just thinking things, how to do things better on a silo-by-silo basis, but in terms of looking across the start-to-end spectrum and continuously live by the approach in terms of how do we give a better product at the right price and make it more sustainable.

Obviously, you've also -- part of this program was moving up the operating leverage towards that 40% target that you set. What have you done to get there? And obviously, you had touched upon that multiple facets now, but also how do you secure that going forward? And also curious about the -- as you launch increasingly more sustainable product offering and automation comes into place, is that something that would support this target or some sustainable products could they be more complicated and be deterrent to keep that 40%? It's just interesting to hear as you evolve with more sustainable products and increased [ evolution. ]

And again, in terms of the sustainability and the sustainability pledge, there's multiple facets to it, whether it's on the recycling, the recycled content, the circular economy, but also the [ greenhouse gas. ] But -- so it's a multifaceted piece too. But let to you know -- I'll just give some color in terms of how Reinvent SEE or this continuous improvement engine is really focused on essentially driving the profitable growth, right? And that's what the -- not only getting to the operating 40% leverage target, but sustaining. And it's really how do we do that by growing above inflation and above our markets with the best products at the right price. So taking a simple example that I believe even Jim referred to earlier, this recycled mailer and how do we do this. Because the Reinvent SEE is not just about -- there's the restructuring component of it, and that's the numbers that get shared, but it's really about driving profitable growth. So let's take that mailer product line as an example. So in terms of how we rethought that product line in Europe and to be able to give ultimately this better product at a better price or at the right price and make it more sustainable, which ultimately is resulting in growth and gain share as well as operating numbers. So we've invested in our converting equipment so that we could remove the coating on the paper. By doing that, obviously, that removes cost for us and for the product line. It makes it also more sustainable because now the paper is uncoated. But also it will make it more sustainable in terms of the customer and consumer because now this co-mingled product, which is paper and plastic, now you can very easily separate the paper outside from the internal plastic component. We also then invested in modifying our processes so that the bubble cushioning, we can now make it with higher recycled content. And finally, completely, we used to put those in just corrugate cases and ship those to our customers, which have to open them and deal with thousands and thousands of corrugated boxes. We've completely redesigned that in -- essentially in a dispenser, so that not only it's taken costs out for us, it's made the cubing and freight more efficient. And for the customer themselves, it now presents themselves they don't have to have all these plastic bins to manage their fulfillment operations. The secondary packaging has become now a dispenser for them. So again, this is just one other of this kind of end-to-end example of how we're going to grow and keep that operating leverage that we've designed for.

That's great. And just talking to Alessandra, just talking about -- it's been mentioned now a couple of times it goes touchless and multiple times automation. The COVID, et cetera, is sort of driving that potential acceleration. And you were, as far as I understand, responsible for the APS acquisition, which fits the strategy very well, of course, right? But how does APS contribute to your automation strategy? And has it met your expectations? But also looking beyond APS, what is your next move in automation? And have you internally quantified sort of the potential opportunity for automation for Sealed Air as a growth driver?

Yes. Thanks, Lars. The Automated Packaging Systems acquisitions, it does indeed fit very well into our automation and sustainability strategy. And we are leveraging the automated talent and powerful brand and the automated portfolio as a key component to our long-term growth strategy, with equipment, service and materials solution model and of course, at the forefront of sustainability. We are very pleased with the execution as it relates to the APS integration as we mentioned in our second quarter earnings release that the targeted cost synergies for APS has been implemented a year ahead of schedule with adjusted EBITDA margin for the automated business now over 19%. And that's on par with the segment average and 500 basis point expansion since the acquisition that was completed in August of 2019. So pretty good margin expansion there. And the business is holding up better than expected despite having about 50% exposure to industrial and manufacturing sector. We have seen a strong synergistic penetration in fulfillment and COVID-related demand spike, for example, with medical supplies, pharmaceuticals and personal protective equipment. So as an example, we have sold and installed equipment in the second and third quarter for large customers that are bagging N95 masks, as an example. And those customers, they needed to -- they need a solution to really bag at a pack rates that we were uniquely positioned to. To the second part of your question, the next move for us on automation is illustrated here on Slide 8. This defines -- this likely defines our automation strategy and our solutions model transformation with over $5 billion opportunity over the life cycle that we are going after. So we are solving customer needs with automation. We are taking an integrated solutions approach with equipment, service and parts to eliminate waste, simplify and remove people from harm's way. And how are we going to do that? We're targeting over 30% savings for our customers, which will pay for the systems. So Sealed Air has an installed base of several thousands of machines and definitely an opportunity to grow the business by implementing service models to upgrade and optimize system performance of the installed base that is already there and also, of course, of future installation. So the chart on the right-hand side here, on Slide 8, shows the potential growth with a 3x solutions multiplier over the equipment life cycle. And we're modeling a 10 years life cycle in this chart with $175 million in equipment sales today, targeting more than $0.5 billion by 2025. And that will put us through more than $5 billion in materials and service and equipment sales over the 10-year period in life cycle. So let me give real examples. And example I'm going to talk about, it's a customer win. So this is already happening. And those examples that I'm going to talk about, the 2 of them are business models with over 17x multiplier. So let's go to Slide 9. Slide 9, here, shows an example of a major customer win of a high throughput fulfillment solution, where we are solving our customers' labor shortage problem and increasing productivity by over 7x with less than 2 years payback. So this is a real example of our recent win where we installed equipment in the second quarter, and we're already seeing the solution model applied here. The other example I'm going to give briefly on Slide 10. It's a Cryovac, customized protein solutions example. Again, a large customer example where we are providing our customer with robotics and a [ vision ] system to address labor shortage and employee safety as well as improved productivity. This example here provides more than 30x -- 30% in savings with a 3 years payback. So an equipment solutions multiplier of over 20x because of the materials and service revenues that are going to come with the equipment installation. So we do think that Sealed Air is in an unique position with the combination of our equipment systems and service with innovative, sustainable materials to really address our customer packaging challenges and to drive that business model transformation.

And just to be clear then, given the significant cost savings that you're making for your customer, this is a decent -- well, good margin business for you, I would assume?

Yes, absolutely.

Mindful about time. I think we -- I just wanted to address one question to Jim relating to what I think is quite interesting in itself. It's -- your CapEx numbers is still running relatively low versus some of your peers. Certainly, those that are having organic growth around 4% of revenues are running and some of the peers with organic growth are spending 5%, 6%, 7% of -- in CapEx versus revenues. What makes you think that you can be more efficient how you spend money to achieve that growth that you're looking at? Do you have any...

I guess, yes -- sure, Lars, just real quickly. I mean, you probably know that at 4% of sales, that's higher than the historic trend level for the company. So for the time being, it looks like a reasonable guide. But having said this, if we have unique high-returning projects and strong conviction on execution, we're going to increase the level. But we want to be very disciplined in our approach. We're driving profitable growth, and we want to sustain our best-in-class return on invested capital, which you know is about 15%. So currently, our focus is on upgrading assets, aged assets, bringing in more automation into our facilities too, and then investing in differentiated capacity that we need to drive the growth. So that's our focus now. And as I said, we'll adjust as needed going forward. But we want to be efficient, for sure.

And would you be benefiting if you had a bigger purse to spend with that -- could that drive up growth? Or is this an appropriate level?

I think right now it feels appropriate to us. But again, we're not constraining in a bad way. I mean, we're -- we want to be disciplined. But if we feel like it needs to go to 5% or 6% to drive the level of growth that is deserved for our positions in our markets, we're going to do that.

Just a final one, which I -- it's more sort of philosophical almost, right, but the Warren Plastics generally, how do you see that influencing your business outlook? And do you see opportunities or threats from that in itself?

Well, Lori, do you want to take that? Or do you want me to handle it on sustainability?

No, I could jump in, Jim. Thanks.

Okay.

I mean, all of you have probably heard us talk about how sustainability is top of mind for all our constituents, top of mind for us. It's -- we view it as something that's going to fuel our growth. And when we think about sustainability, we think about food waste, food safety, product protection and how we distribute products around the world. Our innovation strategy is centered around sustainability targets. It starts with the manufacturing process to reducing trucks on the road, to recyclability and driving classic circularity. So if you look at Slide 11, you could see examples of our platforms and how they're designed to achieve these goals. And once we tackle the food waste and maximizing food safety and protecting the goods, we move on to the materials and how can we make the materials in our packaging films as environmentally friendly as possible. So here on this slide, you could see a really nice display of all of our products with food and on the protective side. This -- these -- all these platforms represent today around 30% to 35% of our sales, and we expect them to continue to grow in the future as this continues to be top of mind for all customers and we'll continue to innovate around our levels when we think about that sustainability plans that we put in place as well. So very important, very top of mind and clearly an opportunity for us to drive growth. So Lars, I'll pass it back to you.

All right. No, that's great. I mean, thanks again for all those highly informative and great to have all 4 of you on board because certainly, there's a lot of color to be had from this conversation. So thanks again. I don't know, Jim, if you want to end up with any closing remarks or wish to close the session?

No. I think it's been a good discussion, Lars, and we appreciate the invitation of the conference. And I know we'll be meeting with several investors and potential investors in breakout sessions. So we'll leave further questions to those meetings, given where we're at with time.

Pleasure to host you. All the best.

Thank you. All the best. Bye.

Thank you, Lars.

Thank you.