Silgan Holdings Inc. (SLGN) Earnings Call Transcript & Summary

Okay. Look, Great. Well, we'll go ahead and get started. For those of you who I haven't met yet, my name is Mike Leithead. I head up the U.S. Chemicals and Paper and Packaging coverage here at Barclays. Really happy to have Silgan here with us today. We have Bob Lewis, CFO; as well as Alex Hutter, who heads up the IR efforts here as well. We're going to skip over some of the ARS questions and dive directly into Silgan questions. Maybe just to kind of help level set things. Again, appreciate you guys here. You guys recently reported 4Q results, finishing up another record EPS year and laid out kind of further growth. Maybe you can kind of just give a level of the land, just kind of how you see the world today and what gives you confidence as we get into 2023.

Yes, sure. Well, I think part of it starts with the level of operational performance that we've enjoyed for a long period of time. And some of the end markets that we're in benefit from the economic conditions we've had. We've cycled through some of the sort of volatility in volumes and really feel good about the way the business is positioned. So if you think about the Dispensing and Specialty Closures business, we've kind of cycled through a lot of the de-stocking. We see that business as kind of a mid-single-digit kind of growth and just on a go-forward basis. See operational performance has been good, and it really is about the power of the portfolio. So we still got some markets where some improvement can benefit us, some areas of operational improvement that we've identified. So feeling really good about that from a volume trajectory, like I said, mid-single-digit kind of growth. That's probably a little more back part of the year loaded, maybe starting in the second quarter and moving forward just as we cycle over some comps. Likewise, in the food can business, obviously, we've done a really good job getting operational efficiencies out of a system that, quite frankly, was challenged as a consequence of the COVID volume. And I say challenged in a really good way, where we chose to go to market and be able to supply the market, to some degree at our own detriment where we became inefficient because we put too much volume to the system. With all that come out throughout the 2022 year, where we had really good operating efficiencies where we had some additional pullback, and we got back to normal operating rates. And so less overtime, less out-of-orbit freight, better inventory management. And that really dropped through, as well as some price pass-through that benefited us as well. And then on the Custom Containers business, that's got some challenge relative to, as we talked about in the fourth quarter call, where we're going to cycle over a loss of -- really not a loss, a choice on our part not to renew a long-term customer contract because it needed to be recapitalized and the returns on that reinvestment just didn't meet our metrics. So we'll let somebody else enjoy that volume and take cost out of the system from that perspective. But as we cycle through to the back part of the year, we see volumes starting to recover in that business and performance improving as well. So overall, the backdrop is really good. And that's due to the fact that our capital structure is in a really good position and an opportunity to look at opportunities from the M&A market.

Great. And then in your release, you kind of touched on, it's now 6 straight years, I believe, of EPS improvement. You've been CFO, obviously, at Silgan for some time now. What do you think -- if we take a step back, fundamentally change or kind of driven this step change in earnings growth for the company?

Yes. I don't know that question sort of implies that the prior period was bad, and that's certainly not the case. We think we've had really good performance over a long period of time. I think the markets have balanced out a bit in the sense that in the food can business, the pet food market is now 50% of what we do in that business. It's got a mid-single-digit kind of growth rate to it. We've seen some of our other customers in some of the other subsegments really get on their feet. So in some of those prior periods, things like soup and fruit. Fruit was migrating away from the food can that's largely done. Soup has now been sort of re-level set with the consumers' experience of dining at home more. Our customers have gotten their cost structure more in line, and they've been promoting the can. So I think that's the benefit there. I think the addition or the expansion of the Dispensing and Specialty Closures business has gone a long way. And so we really have a portfolio that's well balanced across all economic cycles, and it gives us visibility and points of contact with customers where we can find some growth and our operational performance has been and continues to be really good.

Great. And then maybe high level then looking forward, where would you like to drive the portfolio over time, say, the next kind of 2, 3 years? Obviously, you made a number of acquisitions. You've grown in areas like personal care. I mean just how would you think about where the portfolio should go? Or maybe you're just agnostic, you'll kind of balance what comes to you in that regard.

Yes. Look, I think if you look at the history of Silgan, we've done now 40 acquisitions. So it's a core part of the competency. We generate a lot of free cash flow out of the existing business. And I think we try and keep a good balance of how we deploy that capital and how we do it on behalf of the shareholders. I think the more recent history is probably prologue to where we would want to allocate capital, and that's to the higher margin, higher growth part of the business in the Dispensing and Specialty Closures market. I think the good news is as we've cycled through 2022, it feels like the M&A market, albeit markets maybe not lining up perfectly for that, but it feels like there are some properties that are likely to come to market in this coming year or into the following year that make a lot of sense, or could make a lot of sense. So that would be obviously, the point of the spear of where we'd like to deploy capital. Not to say that we wouldn't do deals in the other segments, but I think our priority is certainly oriented there. And in the absence of those deals, then obviously, we got the opportunity to continue to deleverage and put ourselves in a better position. Or as we delever to the low end, which ex a deal with the free cash flow that we're forecasting will be at the low end of our leverage ratio. So a return to capital to shareholders is not out of the question.

Great. And if we maybe pivot and go back to the near-term business, obviously, the past year or so has a lot of macro cross currents. You had COVID, the pantry loading supply chain, you name it. Do you think we're overcoming a lot of these macro areas and are stable going forward? I mean, I guess, from the macro standpoint, how do you kind of read through this or impact to your business?

Yes, I think we're largely through it. It feels like inflation is starting to subside a little bit, which is helpful. Our businesses are -- have been able largely contractually, but even from a disciplined standpoint, when we had inflation that was significant, we were able to pass through to the customers. So from that perspective, it's a good model. But I think it's more of the same perspective.

Right. Okay. And then maybe on the input side, you've seen resin and other raw materials come down pretty significantly through the back end of last year. Maybe resin comes up a little bit in January. Can you just talk about those dynamics and this price cost -- that impact this coming year?

Yes. Look, I think as we sit here today, on the metal side, raw materials will probably be relatively stable. We were up 80-plus percent in steel in '22. We certainly wouldn't expect to see another material increase like that. But likewise, we're not expecting a precipitous drop in those raw materials. Either direction it goes, we pass those costs through on a real-time basis to what's 90-plus percent of that business from a contractual standpoint. Resin, we've gotten better at the pass-throughs over a lengthy period of time. We do have some exposure. Most of that exposure sits from a pass-through perspective, sits in the Dispensing side of the business. And that's largely because we inherited business through the acquisition that didn't have those contractual pass-throughs. So I think as resin declines, there's probably a bit of a benefit in there that we can take advantage of. But again, raw material moves is not really where we look to make money. We're the custodian for our customers, and it really is on the operational side where we generate a large parts of our profit.

And maybe just for folks on the webcast and the room, can you just remind us, obviously, you do a good job contractually passing it through on the EBITDA or income statement line, just as we think about working capital, how that should kind of play into your working capital assumptions for this year.

Yes. So we have a sizable working capital use in this past year that should be less of a use as we move forward. So that's obviously part of the improvement in CapEx or in working capital. So I think one of the things we do really well is manage working capital. We do have a high seasonality to the business, particularly in the food can side of the business. So peak to trough on a normal year, our revolver will go from 0 coming into the year, probably cap out it today with the inflation rate somewhere in the $500 million range. And then brought all that cash in the back part of the year. And we've got the mechanisms to deal with it, and we've got the customer agreements that essentially that working capital build is a liquid asset. We get paid for it during the year.

Yes. And then maybe on Metal Containers, you obviously have a bit of a unique end market mix relative to some of your competitors just in terms of your position in pet food. Can you just talk about that outlook and kind of the growth algorithm in Metal Containers that might be a bit different than what people might think about the overall metal price in the food-can market.

Yes. I think that is a really good point. So we are the largest provider of food cans in the U.S. and likely in the world. A large portion of that, roughly half of our food can business today services the pet food market. So we have long-term contractual relationships with all the large pet food producers. We have, for quite some time, been investing side-by-side with those customers. We will continue to do so. We see that market as a mid-single-digit kind of growth part of the portfolio. That's largely driven by -- I guess, I'd call it human demographics, right? You got a population that's getting married later, having kids later, bringing more pets into the home as a consequence, and treating those pets more like family members. So we're seeing that our customers will continue to invest in capacity. We're investing, as I said, side-by-side with them. Quite honestly, the volumes in 2022 should have been better. Some of our customers hit a bit of a stumbling block in terms of getting new lines up and running, getting them staffed and getting raw materials to build product. They are actively working to get through that. And I think the underpinning of that is if you look at the store shelf, many of them are still short of product, so the demand is there. So as our customers recover through that, that should accrue to us or will accrue to us. And then we'll continue to invest side-by-side with them.

I will say, Bob, your comments around human demographics really struck a nerve. As somebody who lives in a one-bedroom apartment in New York City and whose fiance decided to get a COVID puppy and it turned out to be 85-pound living in a one-bedroom apartment, I kind of know what you're talking about. I guess on that front, I mean, can you talk a little bit more around kind of what you're seeing from a consumer side on the pet food. I mean is it bigger dogs? Is it more -- I mean, just how you guys kind of fit in and how much stuff that has really changed there?

Yes, it's actually quite the opposite. So if you went back into kind of the last sort of downturn in '08, '09, we saw pet food actually shrink for a period of time, and that was largely the conversion of pet food from wet to dry. And at the time, most of the pet population that we were serving were dogs, larger dogs. And so from a cost perspective, dry food is obviously more economical. What's transitioned since that period of time is most of the pets that have come into the households are either small dogs or cats, and cats have grown significantly over that period of time. So a large portion of the volume that we enjoy is on the cat side. And so, one, that's not a population where you're going to go buy a 40-pound bag of dry food, right, for either the small dog or a cat, and those types of animals are less likely to convert the diet. So it's been sticky, and we would expect it to continue to be.

Great. Makes a lot of sense. And maybe just rounding out on food can. We've obviously seen a number of assets change hands in the past few years, private equity, very much involved. From your standpoint, is the competitive nature of the competitive activity changed at all? Or pretty much same as it always is in terms of that?

Yes. Look, that was obviously a concern when it happened, whether or not the competitive dynamic was going to change in a market that had otherwise been reasonably disciplined. I think there's a couple of fundamentals about the market that have kept it pretty disciplined. And that is a large part of -- particularly our business and others have large contractual relationships and long-term contractual relationships. Couple that with the fact that you don't want to ship an empty food can before freight comes in and disadvantage it. So you kind of need to have things perfectly a lot in order for share gain or loss to happen relative to contractual. You have to have a contract coming up for renewal and a reason that you have capacity, or you're willing to compete on price if you're going to build capacity. And those things don't line up very well if you're return-oriented. So I think the volume is there, the capacity is pretty rational relative to the volume, and those dynamics keep it pretty buttoned up. And look, I think the new owners of those businesses are reasonably sophisticated, return-oriented investors as well. So I think it's -- it's been a good market.

Great. And maybe if we can pivot a little bit to your plastics portfolio, containers and whatnot. Obviously, you guys have a very interesting angle there. Can you just talk about what you think the right growth trajectory is there? What you think kind of separates you from -- I think, sometimes people might talk about the other publicly traded plastic peers, kind of where you guys are with the competitive advantage or what you see the growth from there?

Yes. If we talk a lot about what our franchise position is across our businesses and -- and for a long time, quite frankly, we had a hard time identifying what franchise position was in a relatively commodity and competitive business. So I don't know, 6 or 7 years ago, we made a significant management change to folks that we're running that business for us. We did a fairly sizable footprint rationalization to get capacity normalized. And I think today, we would say that the franchise is really about customer intimacy and customer service. And so being able to deliver what the customer wants when you commit to delivering it and doing it in a quality way. And so we've been able to -- at the time we made that decision, folks sitting on the investor side of the table would have been saying you guys just get that off your view and stop worrying about it because of a relatively small part of the portfolio. Margins were essentially nonexistent, and we kind of put a target an aspirational target, quite frankly, a 15% of margin on that business. We've kind of biased that. So with the inflation that we've experienced, it looks a little tight against that 15%. But on an inflation-adjusted basis, we're well above that margin profile. Look, it's a relatively small piece of the business where we've got a dedicated team that services that market, I think, better than anyone else in the industry. And until they're better off in where we see capital, I think it will remain part of the portfolio. That doesn't mean that it's necessarily prioritized in terms of new capital in, not where we're public. But it's a good part of the portfolio that generates consistent returns right now.

Great. And when we tie it all together, we've talked about a number of your different businesses, what should an investor who maybe is not as familiar with Silgan think about just a normalized earnings profile of the business? What level of organic volume growth, either it's for the EBITDA, EPS, just -- how should we kind of steady-state picking up the growth trajectory of this company?

Yes. Look, I think the past this kind of prologue, we think the earnings on an EPS level can grow mid- to high single digits, and we generate a lot of free cash flow that we've got a long history of successfully deploying, that should get you well into the double-digit kind of return. And add to that fact that we are not one to surprise the investor. I think we're pretty transparent in the direction that we're going, how we're going to allocate capital, what our leverage profile looks like, and more of the same.

Great. And then again, for folks in the webcast that may have not been as familiar with you guys. Just remind us kind of your leverage targets, where you sit today. And just given all the rates, has that changed at all around what the appropriate leverage target should be.

Yes. So we very specifically talk about year-end metrics and by definition ignore that seasonal build because it liquidates. So we've kind of for quite some time now that we would endeavor to run the balance sheet at 2.5x to 3.5x leverage. And again, that's against sort of our credit structure. We've at times, moved above that for very specific M&A transactions. Maximum level has probably been at time of acquisition, call it for the quarter, 4.5, with a very quick path back into that range. So it's been over the last, I don't know, 3 or 4 or 5 acquisitions kind of a rinse and repeat. And so we're not afraid of that. Nothing about the credit markets today that sort of scare us relative to that. As long as the acquisition returns to that incremental cost of capital, our capital structure is in good stead. We don't really have any maturities that are coming due and will kind of end in '25. So we've got time to be patient on our credit markets and M&A will measure up against any cost of debt.

And how should we think about M&A right now? I mean, I think you mentioned it feels like conversations are picking up a little bit of I -- maybe I misheard you. And obviously, financing markets [indiscernible] we don't know kind of what ultimately gets done. I mean how would you talk about valuation to feel like people are being reasonable today? Or how are you sure your answer is always going to be no? But just how would you think about the markets today?

Look, I would start with the thought process or at least the point that we are not held with acquisitions, right. We're not going to chase an acquisition just for the sake of getting expectations done. I think the credit markets will be, at least today, are open enough to support good credit doing good acquisitions that are better synergistic. That's not to suggest that there is a complete merit between what a buyers' valuation expectation is and ours expectation. I think that needs to -- we probably don't know enough right now because not enough transactions have been done to define that point. But I think given our operational expertise, we should be able to find good synergies in anything we do. And our discipline is that we are very return focused. And anything we do is going to have to meet those return hurdles, and we're going to have a high degree of confidence that we can deliver on those return hurdles on what we can do.

Great. Any questions in the audience, I'll briefly -- if not, again, I can fire away all day up here. I know we only have 7 minutes left, so I just want to pause. Okay. I'll keep firing away. Maybe on the ESG front a little bit, Silgan's obviously had a lot of progress at post-consumer recycled resin. You have great recycling attributes in the Metal Containers. Can you maybe just on kind of where you want to go in that bar over the next few years to perhaps even further enhanced ability.

Yes. So maybe I'll start on that one, and I'll let Alex jump in here, too. But sustainability is not something -- or ESG in general is not something that's new to us. I would say it's maybe a little bit of a philosophical difference as to where it resides within Silgan historically. And that is, we have been at this for quite some time at the divisional level with our respective customers. And so I think it's been a little bit of a journey for us to sort of get some message out there that its core to the Silgan brand from a holding standpoint. But I think we've got a really good story to tell around some of the product lines. And I would say it's less about resin, more about the broad sustainability side. And then on the governance side, I think that's an area that we probably got lower marks than some others, and there's been some work done, sort of, at the board level and the governance level over the last 6 or 9 months that should prove beneficial from that perspective. And our reporting is kind of on a journey.

Yes. And then from a product side. So we touched on PCR first and so we can start there, that we've been making PCR bottles in our Custom Containers segment for a long time. That's obviously an area of focus for a lot of our customers continue to develop a different formulation of our customers to increase that activity as well. One of the big gating factors there is the quality of PCR, but we have a place to work through that as well. On the Dispensing and Specialty Closures side, again, a lot of our R&D has been on the PCR side as well. And developing fully recycled options for some of the products that we produce. So introducing things like plastic spring to some of the dispensing products has been a big innovation for us as well and then kind of fully PCR-type dispensing products too. But let's not forget the Metal Containers business that we have has a sustainability story. So our Metal Containers are 100% recycled, are infinitely recyclable. They consider greenhouse gas emissions because they're shelf stable, and they don't require refrigeration. So there's a lot of really good sustainability aspects to the Silgan story. In terms of targets and where we're going, we look at all from normal items that you'd expect. So gas emissions, energy consumption, water, waste, we're developing those targets now to publish in 2023 and developing our plan to be able to commit to science-based targets as well.

Great. And maybe just last stop, if you have any questions, feel free to raise your hand. But all of your customers in your discussion you talk to work with a lot of major CPG customers, companies. The consumers frankly in a lot of inflation over the past year or 2 years kind of debate around what's going to happen to the price, if they can take the volume. I mean -- what are your costs [indiscernible] around the volume is what you're seeing in terms of consumer demand, obviously hope they serve [indiscernible] are stable for end markets. But just how do those conversations evolve the component of [indiscernible]

I think one of the benefits that we have is that we are really in with our customers. and their production planning departments. So we're in lock about the way they see the market is developing. No question that we've seen significant inflation. Steel as an example, was up [ 18-plus ] percent on a year-over-year basis. So there's a ton of inflation that has had to get passed through and ultimately is sitting on the shoulders of the consumer. I think on a relative basis, most of our products are still fairly economical relative to the options that the consumer has. Not to say that they'll continue to stomach that. we fight every day with our raw material suppliers to minimize those costs and try and run our plants more efficiently to get inflation or cost out of the systems. And contractually we'll pass that through as we get it. So it's no question that's concern to what it does to consumer elasticity. But today, I think our forward look is in basic step with our customers and the way we see the volume outlook of the business.

Great. I think we'll leave it there. Appreciate it, Bob. I appreciate it, Alex, and entire Silgan team for being here.

Great, thank you guys.

Thank you.