SIG Group AG (SIGN) Earnings Call Transcript & Summary

Ladies and gentlemen, welcome to the Q3 2022 results conference call and live webcast. I am Moira, the Chorus Call operator. [Operator Instructions] And the conference is being recorded. The presentation will be followed by a Q&A session. [Operator Instructions] The conference must not be recorded for publication or broadcast. At this time, it's my pleasure to hand over to Ingrid McMahon, Director of IR. Please go ahead, madam.

Thank you, and good morning, and thank you for joining us. I'm Ingrid McMahon, Director, Investor Relations. And with me today hosting the call are Samuel Sigrist, CEO; and Frank Herzog, CFO. The slides for the call are available for download on our investor website. This presentation may contain forward-looking statements involving risks and uncertainties that may cause results to differ materially from those statements. A full cautionary statements and disclaimer can be found on Slide 2 of the presentation, which participants are encouraged to read carefully. And with that, let me now hand you over to Samuel.

Thank you, Ingrid, and welcome to the call. Thank you all for joining us, unusually on a Friday. This allowed us to meet customers around one of the important North American trade shows, which took place in Chicago earlier this year -- this week. Starting now with the highlights of the third quarter. In a challenging environment, SIG's business is showing its resilience with strong overall revenue growth in the quarter. Organic growth for the aseptic carton business was in line with our full year guidance of 7% to 9%. This was the first full quarter of consolidation for Scholle IPN, and it was a great start with, in particular, very strong back-in-box sales in the U.S. With the first 9 months of the year now behind us, we can report that we have successfully implemented our pricing strategy across all regions. These price increases are enabling us to mitigate higher raw material, freight and energy costs. As costs have continued to rise during the year, it is taking some time for pricing to catch up, but we are on the right course. Price increases in aseptic carton are above the initially guided range of 3% to 4% of revenue. Further increases have already been initiated for 2023. At the same time, we have been signing multiple new filler contracts, demonstrating the ongoing attractiveness of our systems as our food and beverage customers continue to invest for the future. On the capital markets front, the financing of the Scholle IPN acquisition was completed in July through a 5-year U.S. dollar term loan. On the equity side, SIG shares were promoted to the MSCI Midcap Index at the end of August. And finally, I'm proud that we have announced a partnership with the World Wildlife Fund Switzerland, which will advance our Forest+ ambition. Before we go into more detail on the quarter, let me say a few words about this latest step in demonstrating our sustainability leadership. SIG's focus on the forest goes back many years. We led the industry in obtaining Forest Stewardship Council certification in 2009, and in 2021, we became the first beverage carton producer to purchase only FSC-certified paperboard, which sets high standards for sustainable forest management practices that support biodiversity and communities. I'm delighted that we have now been chosen as a WWF partner. This was achieved after a very strict due diligence process, and it is a real credit to our team. The first flagship project is to improve forest management of 100,000 hectares and restoration of a further 750 hectares of forest in Mexico that serve a critical habitat for the jaguar. This is very much aligned with our Forest+ ambition to support the creation or restoration of an additional 650,000 hectares of biodiverse forest area on top of what is required to make our cartons. Turning now to the numbers. In the third quarter, revenue at constant currency including Scholle IPN was up by 41.2%. Organic revenue growth was 7%. Adjusted EBITDA increased to EUR 179 million with an adjusted EBITDA margin of 23.2%. This quarter saw the largest impact from raw material, freight and energy costs. We expect cost increases to be less sizable in the fourth quarter. In addition, the lower margin reflects consolidation of the Scholle IPN and Evergreen Asia acquisitions. As I just said, we are successfully implementing price increases to offset the inflationary pressures and will be above our indicated range for the year. This in itself has an impact on our margin, an impact which has been augmented by strong volume performance and pass-through clauses at Scholle IPN. Adjusted net income was ahead of Q3 2021 at EUR 68.7 million. Cash flow, while below the previous year, showed the usual seasonal improvement compared to the first half. For the first 9 months of the year, revenue growth is within our target ranges of 22% to 24% for total revenue and 7% to 9% organic for the aseptic carton business, both at constant currency. The adjusted EBITDA margin reflects the consolidation of the acquisitions which are impact on margins, the dilutive effect of price increases and higher costs. The fourth quarter margin is expected to be higher than the first 9 months due to the seasonality of the aseptic carton business, the benefit of the price increases and some relief on costs. Adjusted net income reflects higher adjusted EBITDA and positive foreign exchange movements offset by higher depreciation and amortization. Cash flow was impacted primarily by higher working capital to ensure supply security. Turning now to our performance by region. Europe had an excellent third quarter with an increasing contribution from price. The aseptic carton business benefited from the ramp-up of Hochwald filler, all of which are now operational. The resilience of our European carton business is underpinned by our strong presence across a wide range of nondiscretionary products for daily consumption. Similarly, the Scholle business is well positioned and institutional bag-in-box where demand remain robust. Middle East and Africa recovered fully from a weak second half in 2021. Drivers include strong market dynamics post-COVID, price increases and new pillars in operation. In addition, we are well positioned to benefit from the growth in milk consumption following our strategic push to increase our liquid dairy presence. We are also leading the way in sustainability. In Egypt, we have just launched a recycling program which uses a mobile app to enable household and foodservice industry collection of used aseptic carton packs. In Asia Pacific, reported growth reflected the consolidation from the beginning of August of Evergreen Asia. Integration of the chilled business is progressing well, and we have already won new business with one of our existing aseptic carton customer in Asia. The performance of the aseptic carton in the quarter was affected by customers in China drawing down stocks accumulated during the lockdowns earlier this year. There was also a reduction in gifting around national holidays. Moving on to Southeast Asia. Indonesia and Thailand were both affected by lower milk supply due to high feed costs -- feedstock costs. During the first 9 months of the year, we have seen a high number of filler wins both in India and in Southeast Asia in general, which will underpin growth in the months and years to come. The effect of the Scholle acquisition is naturally most marked in the Americas numbers. In the U.S., strong bag-in-box sales were driven by price and by volume, with increased Europe's supply to existing and new customers and sustained food service demand. The aseptic carbon business in Brazil was once again a major driver behind the 17% organic growth for the region in the quarter. This reflects market share gains in several categories, underpinned by our technology strength and strong customer relationships with our large accounts. And I'm delighted to report that we have recently won aseptic carton business with a large Scholle bag-in-box customer in Region 2. Let me now hand you over to Frank for a deeper look into the financial strength.

Well, thank you, Samuel, and hello to everybody also from my side. Let me summarize on the following slides the solid performance we achieved in Q3 despite multiple headwinds that we, like many other businesses and companies, are facing. I'm going to start with the evolution of adjusted EBITDA for the quarter over the first 9 months. The positive impact from FX continued into the third quarter due to the weakness of the euro against major currencies. Top line growth, to which price increase made substantial contribution, partially mitigated higher raw material, energy and freight costs in aggregate. Price increases are progressing well. And for the first -- for the year, they are expected above our guided range of 3% to 4% of revenues. As you're aware, these price increases are aimed at compensating for cost inflation in absolute terms and therefore do not fully offset the impact on margin. This pragmatical impact on margin was around 130 basis points in the third quarter for the aseptic carton business. Continuing negative impact from raw material costs of EUR 42 million in Q3 reflected higher hedge cost for aluminum and polymers. In addition, one of our European polymer suppliers imposed an energy surcharge during the quarter. As spot prices have come down from their peaks, we expect a lower impact from aluminum and polymer in the fourth quarter on the unhedged portion of our costs. Negative variance of EUR 90 million for production includes the effects of higher freight and energy costs. Freight costs remained high in the quarter, affecting the Americas in particular, as we do not yet have the local production for Mexico and North America. Our new plant in Mexico is, however, in the final stages of construction and will open on schedule in the first quarter of 2023. Increased energy costs are mainly affecting for the European business, and globally, we are less exposed than other packaging substrates. In Europe, we are actively reducing our dependence on gas to the expansion of solar and wind energy. As Samuel said, we've initiated further price increases in 2023 in order to compensate for higher input costs as we continue to pass on absolute cost increases. The positive contribution from SG&A reflects strong cost discipline as well as the phasing of R&D costs and other expenditures. In Q3, acquisitions contributed EUR 31 million to adjusted EBITDA with most of the contribution coming from Scholle IPN. While these acquired business are, as previously stated, dilutive at the margin level by approximately 200 basis points in Q3, they are already proving their value in terms of growth, resilience and diversification. Turning now to cash flow and leverage. Net capital expenditure for the first 9 months was slightly below previous year's level. Investment in property, plant and equipment was higher due to the Mexico plant and due to the inclusion of the acquisitions, although both have less CapEx-intensive business models without filler CapEx. Gross filler investment continues at a good pace, reflecting the placement of new fillers as the basis for future revenue growth. The increase was more than offset by higher levels of upfront cash. Free cash flow was impacted by unfavorable working capital movements, primarily due to higher inventories, reflecting higher raw material prices and the need to constitute safety stocks given the current supply chain challenges. Free cash flow was also impacted by one-off acquisition-related costs. Pro forma leverage of 3.2x reflects the financing of the acquisitions, which has been successfully completed in July with the signing of a term loan for $270 million, on which the interest rates are fixed. The follow-up -- this follows from the issue of the new shares and the placement of a sustainable Schuldschein in the first half. Following the completion of all financings, our average cost of debt is around 2% for 2022, and our maturity profile is extended to 2029. Our mid-term guidance remains to reduce leverage to 2.0x with a milestone of approximately 2.5x at the end of 2024. We now turn to our guidance for the full year. The numbers we've announced today reinforce our confidence in our revenue growth, and we now expect to achieve growth above our guided range of 22% to 24%, supported by higher volumes and pricing and including a strong performance of the acquired businesses. In the second half, we continue to see higher costs compared with the same period in 2021, although we expect some of these pressures to abate in the fourth quarter. While price increase was staged and therefore offset cost inflation with a lag, their contribution continues to accelerate. The realization of price increases both in the aseptic carton business and the Scholle IPN is protecting our absolute adjusted EBITDA rather than the margin, which we now expect to be around 25% rather than around 26%. This is a strong outcome in the current market context, and the extent to which we've been able to offset inflationary pressures demonstrates the resilience of our business model and the essential nature of the products filled by our customers. In addition, we've initiated further price increases in order to protect and drive the profits of our business. We confirm our guidance for our effective tax rate between 26% and 28%, therefore, net CapEx as a percentage of revenue between 7% and 9% for 2022. Our dividend policy remains unchanged with progressive growth of our absolute dividend per share and the payout ratio of at least 50% to 60% of adjusted net income. That concludes our presentation today. Samuel and I are now happy to take your questions.

[Operator Instructions] The first question is from Lars Kjellberg from Credit Suisse.

Just a couple of questions, starting off with volumes versus price. I mean, you're obviously putting through price increases. You talked about the 3% to 4% totally. But can you walk us through the volume component in the aseptic business through the core divisions that you have? Also on the cost component, you talked about freight cost of cost that has been high, and I fully appreciate that you don't have a Mexico plant up and running as of yet. But what sort of benefit should we expect from that plant in terms of your freight cost improvement into the Americas as it ramps up? And then just on the interest rate side, you talked about 2% now. Can you share with us the fixed variable component of that and what you kind of would expect that interest rate to rise in '23? Those are my questions.

Thanks for your questions, Lars. To start off with your first one, volume versus price. Indeed, we did guide at the beginning of the year 3% to 4% for the full year as an expected price impact on the aseptic carton business. And we talked now about the fact that we expect the year to close now above 4%. So we were able to execute more than we initially anticipated. That also means, in hindsight, the remainder up to the growth that we report with the aseptic carton business between the 7% to 9% is a combination of volume and mix. So we do see a solid volume demand across all markets. Obviously, Q3 in Asia, a bit softer, but I wouldn't read too much into that. I think it's not the start of a trend but just one quarter now as customers indicate to us that they want to hit the volume targets for the full year and we expect a stronger Q4. So -- but that's really the split between volume and price mix, a bit more than 4% on price, the remainder goes into volume mix. Now your second question on freight cost, I think you framed that absolutely right. The Mexican plant will take out some costs out of the system for us as it will help us to serve North American customers in a better way. But the North American plant is going to be, first and foremost, facilitated to grow. It's going to improve the service levels for our customers in North America by shortening lead times. But yes, there is definitely also a component of reducing cost to serve for the North American region, and that will all be embedded in the guidance for the year 2023. And the third question, Frank?

Yes, I think the third question related on interest. We have policy of at least 50% fixed interest. We're actually, with the hedging that we've done, are above that. We're about 55% of our debt. We fixed the interest rates. So that gives us a good basis and a good mix for that. And with regards to 2023, obviously, effective guidance now. But you obviously see what is the interest that has been fixed on the variable portion, that will be subject to the movement of interest rates as they progress. And you may have a better view than we do where they move. We obviously see where they are at the moment. Also, we will have refinancing again in the summer of the bond, which will, yes, then refinance it at current rates.

The next question is from Jörn Iffert from UBS.

The first question will be please on Scholle IPN. Can you give us some more details why Scholle IPN is gaining market share? Have you changed anything in the go-to-market strategy? And also, how confident are you for their pipeline for the next 12 months? And the second question would be, please, on the cost curve. When do you expect to be not behind the cost curve but on top of the cost curve or even ahead of the cost curve? For the first 9 months, you had organic growth of around 7%. Your organic EBITDA, if you exclude FX, would be down. So it's even not total EBITDA protection right now. You explained this that you have some time lag. But do you expect to close this time lag organic growth versus organic EBITDA growth now in Q4 and Q1 next year? Some update here would be appreciated.

Thanks for your question, Jörn. Now on Scholle, we see a number of drivers that give them momentum in the market. And I think it's not up to us to take credit for that. But I think the team at Scholle did a good job throughout the year when they kind of worked on new account wins, which they have. So there is a market share gain as a function of that because people want to have Scholle bags, especially in the U.S. as they stand for quality. . And the other factor I would say is that especially in foodservice, especially in quick service, there is an opportunity for bag-in-box in general that we see in the mature markets, especially when it comes to all the dispensing systems when they use maybe rigid containers today where you pour it manually into whatever drinking mix in the Starbucks or in a quick service restaurant, where now we see a trend more and more towards dispensing units that make sure that you push one on the dispense and you have absolutely the quantity you need. This is especially important because the consumer wants a consistent experience of the drinks that they get no matter what Starbucks outlet they go into and also give -- in light of labor shortage and also lack of trained labor, it's important that it's as simple as possible to mix these drinks. So that all speaks to the dispensing system. You remember that we also featured at the Capital Markets Day. And I think these 2 reasons share gains and just a further adoption of bag-in-box helps Scholle in the mature markets, in the markets that are present. And then obviously, we're working on bringing their substrates in our emerging markets platform that we have talked about, the early wins that we were able to bring home in Asia but also in the South American region. Now your question #2 on the cost curve. Indeed, we are behind the cost curve this year. And as I said earlier, we already announced and are executing right now as we speak to 2023 price increases. They have embedded in there the input cost changes that we expect into next year. It also includes, obviously, wage inflation that we expect to see in the markets where we operate. And so it is our ambition now, as we always said, to use price increase in order to pass on the inflationary pressure and the absolute input cost changes. That remains our policy. And that's why we are currently in the market with substantial price increases.

[Operator Instructions] The next question is from Alessandro Foletti from Octavian.

Maybe a bit of more detail on price and volumes. When I look at the growth rates of Scholle, I mean, my calculations is about 40% higher than last year, at least on a trend-wise. Am I wrong in assuming that you increased prices more than 4% at Scholle? And that, hence, also there, so to speak, the drag on the margin has been maybe stronger than we would have been expected? And then finally, also in Scholle, how do you expect to become -- to get ahead of the curve there as well?

Thanks for your question, Alessandro. I mean, at Scholle, I'm not sure that I understood you right. You cited 40%. That's not the growth rate. I mean it's a double-digit growth and it's a solid growth but not 40%. And yes, you're absolutely right. The price increase is higher than the 4% at Scholle. You remember they operate with these pass-through clauses, which is a function of obviously the polymer or input cost or rating costs that they move. And they are higher than what we expected at the beginning of the year, but that's an ultimate reason that protects obviously margins at Scholle. But when I say protect margins, we need to keep in mind the mathematical impact that price increases have on margin. It leads to a dilution, and that is a bit higher than what we anticipated at the beginning, simply because this pass-through yielding higher price impacts.

Right. So you think the margin there will continue -- will start progressing as soon as the prices can move down basically then?

I mean, that would be the reversal from a mathematic perspective. Obviously, I think more importantly is what we do operationally. I think this pass-through, they passed on the absolute change in the input cost change, yes. But then we always talked about that we do see also into the medium-term margin improvement potential where we start working on right away from a number of reasons, but that's operational improvements that we have projects underway, whether that's how we bring the products of Scholle into the emerging markets, how we position the pricing, the value-based pricing. All those measures will help us to continue to work on prices and ultimately, margins also in the Scholle side of the business.

Right. So at Scholle, we are sort of working with an initial assumption of about 20% EBITDA -- 19% EBITDA. So that has probably come down. It's going to come back up sort of mathematically, as you said there. And then the next step is to raise it towards the 26%, 27% of the group. How will that happen?

Yes. I mean, we never said that the Scholle business has the potential to get to, obviously, the margin levels that we've seen in the aseptic carton business. But we always said and we still confirm that view also in the midterm that there is a path for the combined business to go to margins above 27%, right? And that is a number of factors, but it also includes a continuation of the margin expansion that we have demonstrated in the aseptic carton business as we continue to see leverage there. And it includes the leverage that I just mentioned before for the Scholle IPN business.

Okay. And maybe my final question. Did I understand correctly that you expect a good finish in Asia particularly? Or the finish will be well distributed across the region for the fourth quarter, I mean?