Operator:

Ladies and gentlemen, thank you for standing by. During this presentation, all participants will be in a listen-only mode. Afterwards we will conduct a question-and-answer session. [Operator Instructions]. Welcome to Avery Dennison's Earnings Conference Call for the Second Quarter Ended on June 29, 2024. This call is being recorded and will be available for replay after 4:00 p.m. Eastern Time today and until midnight, Eastern Time, July 30, 2024. To access the replay, please dial + 1-800-770-2030 or + 1-609-800-9909 for international callers. The conference ID number is 5855706. I'd now like to turn the call over to John Eble, Avery Dennison's Vice President of Finance and Investor Relations. Please go ahead, sir.

Deon Stander :

Thanks, John. And hello everyone. We delivered another strong quarter with EPS of $2.42 in the second quarter above our expectations and are raising our full-year guidance. We now expect earnings of $9.30 to $9.50 per share for the year, and are targeting roughly 20% earnings growth compared to prior year. Materials group continue to demonstrate its resilience in the second quarter. Again, delivering significant volume and margin expansion as we lap the impact of downstream inventory destocking last year and drive productivity across the business. Label volumes in Europe and Asia were above our expectations, while slightly below expectations for North America. Broadly, retail volumes remain soft relative to long-term trends. As consumers continue to deal with the cumulative effects of high inflation, and we are not anticipating this to change in the second half of the year. Solutions group delivered strong top-line growth in the second quarter driven by both the base and high-value categories and expanded margins. The retail apparel channel was stronger than we expected. Despite retailers and brands remaining cautious in their near-term sourcing plans, most have now met their targeted inventory levels following more than a year of destocking and volume has normalized quicker than we anticipated for the upcoming back-to-school season. Year to date, enterprise-wide intelligent labels grew mid to high teens. In the second quarter, strong growth in general retail and logistics continued, while apparel was also strong as customers normalized order volumes and new rollouts continued. For the year, we are now targeting to deliver more than 20% volume growth and mid-teens sales growth in our intelligent label’s platform driven by a rebound in apparel and adoption in new categories. We anticipate sales growth in the third quarter will be similar to the rate we delivered in the first half. As for the fourth quarter, while likely a record revenue quarter, we expect growth in the quarter will be lower than previously anticipated primarily due to the timing of customer rollouts. As we have shared in the past, new customer rollouts can be uneven, particularly new categories as well as by comparison to initial volume builds for new program adoption in prior years. I have high conviction in the significant long-term growth of our intelligent labels platform as we connect physical items with digital identities. In the near term, we are focused on accelerating adoption in key verticals such as food and logistics. Overall, the ability of our solutions to help address inventory challenges such as labor efficiency, waste, transparency, and consumer connection in very large volume categories like logistics, retail and food is increasingly resonating with customers. Key pilots and rollouts are delivering significant value and compelling proof points for broader segment adoption. We continue to invest to capture the significant opportunity ahead as we grow the size of the overall industry further advancing our leadership position at the intersection of the physical and digital. Stepping back, the underlying fundamentals of our business are strong. We're exposed to diverse and grain markets with clear catalysts for long-term growth. We are industry leaders in our primary businesses with clear competitive advantages in scale and innovation. We have a clear set of strategies that we continue to evolve over time and are key to our success over the long term and across a wide range of business cycles. Those strategies are to drive outsized growth in high-value categories, grow profitably in our base businesses, lead at the intersection of the physical and digital, effectively allocate capital and focus relentlessly on productivity and lead in an environmentally and socially responsible manner. We remain confident that our strategies, along with our team's ability to execute in dynamic environments will enable us to continue to generate superior value creation through a balance of GDP plus growth and top quartile returns over the long term. In summary, we delivered another strong quarter and raised our guidance for the year to deliver nearly 20% earnings growth in 2024. And while we are increasing our outlook for the year, the environment remains uncertain and warrants some degree of caution as we move through the second half, I want to thank our entire team for their continued resilience focus on excellence and commitment to addressing the unique challenges at hand. With that, I'll hand the call over to Greg.

Operator:

[Operator Instructions]. Your first question comes from the line of McNulty John with BMO Capital markets. Please go ahead.

Deon Stander :

Yes. Hi John, this is Deon. Thanks for the question. I'll handle the first part and I'll ask Greg just to comment on the second. I will just say that our original outlook for the year, when we planned the year called for lower revenue growth relative to the volume growth that we planned. We are now targeting, as I said in my said in my notes, 20% volume growth this year with mid-teens revenue growth. We anticipating Q3 that we are going to see a similar growth rate for revenue as we've seen in the first half of the year. And now we expect revenue growth in the fourth quarter to be lower than previously anticipated, largely on volume changes as it relates to customer rollout timing. There's a small element John also of mix and you'll recall that we have different price points across different segments and products and use cases, but they all typically have the same margin profile, which I'll remind everyone is still above the segment average. And then finally, there will also be some deflation-related pricing impacts. I will say on that point that you recall, if you recall during ‘22 and ‘23 during the supply chain shortages, we did see inflation across the business including an IL and which we are now addressing in the last few quarters over here. If I turn to specifically the customer rollout pieces there are two elements to this. This is one ongoing rollout with the existing customers and then also anticipated rollouts from pilots that have moved slightly in their timing. This is not unusual. We've spoken in the past about when you have new adoptions in new categories, timing can tend to be uneven move intra quarter. On our existing customers, there's two elements where we are seeing some volume impacts now as it relates to our existing customers with existing rollouts. One is, the comparison with inventory builds in the launch phase in prior year. It's largely a fourth quarter issue on logistics. Secondly, as our customers move through their adoption journey, taking into account things like new category adoptions, kind of mostly in general retail and also infrastructure readiness, are they ready to take on the next elements of their journey? And sometimes that's just a timing issue, and that's mostly in logistics. I will say, John, that with all of our customers, whether they be in pilot trial or rollout, they're continuing to see significant value and returns on investment in leveraging this technology. And I would argue and having spoken to them that their conviction in the adoption, the technology is even higher. And in additionally, we continue to see real strength in our pipeline across all segments. Underpinning again, my conviction that this long-term growth opportunities, this platform is significant.

Operator:

Your next question comes from the line of Ghansham Panjabi with Baird. Please go ahead.

Deon Stander:

Let me deal that. Yes, at the high level, the variances are largely in our labels business from a volume perspective, largely in Europe. And then from apparel, where we've seen, sooner than expected normalization, that still will also continue during the second half of the year. On apparel specifically, I think there's a couple of dynamics of play over here. Certainly, the macro environment still remains very uncertain and apparel is largely driven by consumer sentiment, which is not robust. It's also true that what we've seen more recently in discussion with our customers there is that their inventory levels are now at where they would need them to be off? This is after a year of continuous destocking. And we're starting now to see some degree of uptick in import volumes and typically our volumes precede those. So, our performance in Q2, which is slightly ahead of expectation, which suggests we'd see more uptick in import volumes across the two segments across North America and Europe as we move forward. I think the only other piece I'd call out is that, as always in apparel, you get a vast range of variances in terms of how customers do. Some of them are doing very well, some of them are not doing so well, and that's probably reflected in some of the earnings releases that you've seen more recently.

Operator:

Your next question comes from the line of George Staphos with Bank of America. Please go ahead.

Deon Stander :

Sure, George. And I assume the second question relates more to IL as I'll address it that way.

Deon Stander :

On the first one, we've not necessarily seen any visible signs of apparel pull forward as a result of tariffs. I think there is clearly a lot of discussion amongst retailers as to what the likely outcome will be of a, a more tariff intensive future, if that turns out to be the case. But at the moment we've not seen anything you recall in the second quarter. What we did see was some degree of pull forward from the third quarter as it related more to the Red Sea shipping crisis that was happening with goods having to go around the Cape of Good Hope rather than go through the Sue Canal. There's an element of that, but generally when we look across it, we don't tend to see anything that suggests there's been some degree of pull forward. There may be in tiny bits as well. I think our observation of where we've been in the second quarter as a release is that it's just being slightly more, a slightly quicker normalization of volume and apparel than we'd anticipated. We said it would start from the second half of the year and we said clearly seen a little bit earlier than that. As it relates to volume and revenue passing for IL. I think if you look back over the last five years, George, I characterize that we've always seen that ASPs have declined in the past, typically in that kind of mid-single digits range. That's not unexpected as the technology curve is ramped up and more volume has come to play and actually those declines in time have actually also helped accelerate new segment adoptions and unlock new opportunities. I think as we moving forward, I believe we'll see some moderation in those type of declines largely because some of the bigger gains have already been made and we're continuing to lean into where we see our scale and scale advantage particularly in our innovation process, manufacturing and innovation at the product level, which we think has fundamentally underpinned our competitive advantage over this period and we believe will continue to underpin our competitive advantage moving forward. I think at the end of the day pricing is that one element that has come to bear in the market. I think the bigger element as we move forward is the value creation that customers are seeing, which is a very pertinent discussion that we're having with customers now is what value are they creating, which is why the ROI is looking so high. And the more that we move to enabling a broader solution, being that kind of one throat to choke for customers across each node of that ecosystem, the more likely we are to capture more value in that regard.

Michael Roxland:

Thank you for taking my questions and congrats on good quarter. Just wanted to get more Deon, do more color from you regarding that delay in customer deployment in 4Q. I think you mentioned logistics, does it involve any other vertical as well, and maybe general retail, just because given the various SKUs, the greater amount of SKUs in general retail, maybe that's just taking a little bit longer to deploy? And can you comment on flows deferred -- for the deferrals that delays, when do you expect them to hit in 2025? And lastly, just on the deflation, can you comment on any approaches you're using to reduce material costs, improve productivity and the like to offset the deflation you're experiencing?

Operator:

Next question comes from the line of Josh Spector with UBS. Please go ahead.

Deon Stander:

Thanks, Josh. To your -- to your last question, the change is more in volume. As it relates to the competitive dynamics -- I'm sorry, and the timing of those customer rollouts as related to volume. As it relates to competitive dynamics, we clearly see competitive dynamics in the IL market. It's a growth industry. It's always going to attract more capital. But our focus has been on maintaining and expanding our leadership share in this. And we do this in a couple of ways, not least on the elements that I touched on, Josh, which is around our innovation at a process level, at a product level and the Solution level, but also in the way that we're helping to activate industries, we've been investing ahead of the curve to ensure that we can activate industries like logistics and life food. And you've seen the outcome of that. We are the people leading the logistics segment industry, and we're doing a similar process with some of the pilots that we're looking into food, whether it's in grocery or whether it's in QSR as well. I actually think overall that if I look forward, I have very high conviction that our capability and the way that we play a role somewhat uniquely across each node of the ecosystem of Intelligent Labels whether it's from inlay manufacturing all the way through to managing data and providing services gives us a position in which particularly when new customers come on board as they think about adopting the technology being a significant decision for their C-suite, they're looking for somebody with credibility, scale and global reach and experience to be able to do that, and it tends to position us better than anybody else. Our experience has shown over time that we then are a disproportionate leader in our share overall, something that we think even in this year, we're going to continue to maintain, if not expand.

Matt Roberts:

Surprise, surprise. I will ask about RFID. So maybe given the timing issue in 2024, could you now envision with that timing like growth of more than 20% in 2025? And if you could provide any examples or timing or magnitude of those initial food or QSR rollouts or how we should think about that a little bit further. I think that could certainly be helpful. Thank you.

Operator:

Your next question comes from the line of Jeffrey Zekauskas with JPMorgan. Please go ahead.

Gregory Lovins:

Yes, Jeff. So, I mean, the biggest driver versus last year, obviously, in 2023, we did not deliver results in line with our initial expectations for the year. So, our incentive compensation accruals in 2023 were quite low, down to zero for corporate for that matter at the end of the year. This year, of course, as we talked about, we're raising our expectation -- or raising our outlook above our initial expectations, so incentive comp accruals are a bit higher. So, there's a pretty sizable swing on that from a year-over-year perspective. So that would be the main driver versus prior year. And second question?

Gregory Lovins:

Inflation versus prior year. Overall, as I said, inflation sequentially was very low single digits versus prior year high single-digit deflation versus last year, really about half driven from paper year-over-year and the rest in chemical and film. So, a little bit of sequential from paper largely in Europe, year-over-year, still high single-digit deflation.

Operator:

Your next question comes from the line of Anthony Pettinari with Citi. Please go ahead.

Deon Stander:

Sure, Anthony. Let me just talk a little bit about Vestcom and I'll address your second point afterwards. Our Vestcom business continues to do well and overall, and it contributes in a number of different damages, not the fact -- not least the fact that it's a high-value segment business with greater than segment average margins. but also, the access and the reach that the Vestcom business has into a lot of the food customers that we never hardly had access to in the past, which has helped us in our food initiatives around intelligent labels, but also across drug, dollar and so forth. I think this year, particularly in the second quarter, there was a degree of softness more related to the drug store challenges that you're seeing openly in the market at the moment. But I will also say that as part of a reaffirmation of kind of the value that, that business does in both providing productivity solutions, it's just kind of shelf-edge labeling in sequence and walk sequence, but also in terms of its media outlet, how you leverage that shelf itch technology to also provide consumer media promotions. We've re-signed a significant U.S. retailer for a multiyear deal again. And we're anticipating by the end of the year to get a new large U.S. retail banner as part of our customer portfolio as well. When I talk -- when you think about specifically the shelf-edge becoming more digitized, digitization is an inevitable trend that we see moving and that's actually a tailwind for us as a collective company in a large part of our solutions business as well. I will note that our Vestcom business, while it currently has a analog, let's call it, an analog shelf label, it actually is -- the strength of the is actually its data composition engine. Our business takes a huge amount of data, both point-of-sale data, planogram data, pricing data and advertising information. And through that data composition outputs currently to an analog label. We also are currently involved with most of the shelf edge -- electronic shelf-edge trials as the engine that also outputs that to an electronic shelf label, so either analog or digital. And I think that is going to be one of the strengths of this business and moving forward is that as electronic shelf labels may start to become an increasingly bigger part of retail, it will not be ubiquitous across all the stores. It will be in certain targeted segments. And so, you'll still be dealing with a mixed estate. And the people best placed to deal with that mixed estate, I believe, is our Vestcom business.

George Staphos :

So, in Materials, it seemed like -- I mean, at least versus our model margins were 50 basis points to 100 basis points higher than we would have expected. How did margins fare relative to your initial expectations for the quarter. Again, Deon and Greg, how much was operating leverage? How much was your cost reduction program? How much of it was getting, if anything, some of the effects of your initial round of pricing? Any color there would be helpful as we project out for the rest of the year. Thank you.

Operator:

Our final question comes from the line of Jeffrey Zekauskas with JPMorgan. Please go ahead.

Gregory Lovins:

Yes. On your first question, Jeff, I think it's probably -- I don't have that off the top of my head, it's probably a relatively even split. We're continuing to drive probably a little bit more, I guess, in cost of sales as we've driven a number of actions we talked about last year, a large initiative in Europe in the materials business. as well as, of course, we took the advantage of the lower volumes that we had due to destocking last year to drive some further productivity in the Solutions side at the same time. So, it's a combination, probably a little more heavily weighted in the quarter on the cost of sales side. Price mix, I think, as we talked about in materials, we had double-digit volume growth with top-line growth of about 6%. So, as you asked earlier, we had high single-digit, close to double-digit deflation year-over-year, price down in mid-single digits to go with that in the Materials business. On the solutions side, price and volume and revenue growth was relatively similar to slightly higher volume growth and revenue growth.

Deon Stander:

Thank you all for joining the call today. While the environment remains dynamic, we remain extremely confident in our position and prospects and our ability to deliver GDP-plus growth and top quartile returns over the long term.

Operator:

Ladies and gentlemen, thank you for standing by. [Operator Instructions]

Gregory Lovins:

Thanks, Deon. Hello, everybody. In the first quarter, we delivered adjusted earnings per share of $2.29, up 6% sequentially and up 35% compared to prior year, driven by benefits from higher volume and productivity.

Operator:

[Operator Instructions] Our first question comes from the line of George Staphos from Bank of America.

Deon Stander:

George, thanks for the question. As it relates to our IL guidance, we did see slightly lower volumes than we anticipated in logistics on lower parcel shipments. And -- but we did also continue to see some apparel IL growth ahead of our base business as well in apparel at the moment. And that's largely because some of the new programs that we've been rolling out, including Inditex, where we're driving loss prevention continues to be very strong as well. As we look forward, we still see the recovery of the apparel business in the second half to be a key driver of our IL growth as well.

Gregory Lovins:

Yes. George, to your second question on apparel or Solutions margins overall, we did expect some decrease sequentially, largely due to the seasonality with apparel and logistics now having a little more of a seasonality impact in Q1 versus Q4. So that was part of what we had expected. And we also see some employee cost increases as we look quarter-over-quarter. I think we've talked about these temporary cost savings last year that included items such as belt tightening, volume-related actions, things like that, but it also included incentive comp.

Operator:

Our next question comes from the line of Ghansham Panjabi from Baird.

Deon Stander:

So Ghansham, on the apparel recovery, and I'll let Greg handle the Materials question. On the apparel recovery, we're seeing a couple of factors in play. I think we've been pretty clear all along that apparel imports continue to be significantly below 2019 levels. And what we saw in the last quarter is some slight improvement in our apparel import rates, particularly in North America, not yet in Europe, but particularly in North America. We also know having spoken to many of our customers that their -- inventory volumes that they're having now are at the place where they feel very comfortable generally across the board. That hadn't been the case up until we got into the first quarter.

Gregory Lovins:

Yes. And on your second question, Ghansham, when we look at Materials in the quarter. Overall, as we talked about, our volume was up low double digits in the quarter. And that was offset by -- partially offset by 2 factors. One of those was price, which was down mid- to high single digits in the quarter versus last year, then also mix down low single digits as well as some of that or more of that destocking took place in our base business, with generally less -- lower prices per unit.

Operator:

Our next question comes from the line of John McNulty from BMO Capital Markets.

Gregory Lovins:

Yes. Thanks, John. So I think you called out a lot of the buckets, really, the big driver of margin when you look year-over-year and even sequentially, is the volume increase. So year-over-year, obviously, it's very significant. And sequentially, we had an improvement as well as we still had some destocking back in Q4 that we talked about is behind us now. The other thing that the Materials business has been significantly doing is driving productivity. So we've got some large restructuring actions as well as just ongoing ELS type of productivity initiatives that the team is continuing to drive.

Deon Stander:

And John, let me just add from a market perspective, we were very clear that we thought destocking ended in Europe last year in the third quarter and the U.S. roughly in the end of the fourth quarter of the year. And we're seeing that play out in conversation with our customers where there had been more limited visibility to end CPG demand that has expanded. They're seeing more confidence there. And their own volumes of inventory are much more normalized now than they have historically been over the last sort of 1.5 years as it were.

Operator:

Our next question comes from the line of Anthony Pettinari from Citigroup.

Gregory Lovins:

Yes. Thanks Bryan. So traditionally, we've talked about it taking about a quarter to implement pricing from the time we start to see some of that sequential inflation, and we expect to stick at least. And back in the '21, '22 time frame when we were seeing pretty significant sequential inflation each quarter, we had narrowed that gap a bit from that 3 months to a much smaller amount. I think we're just starting to see this sequential inflation over the back part of Q1. So we would expect it to take a couple of months to get that in place in some point in the mid- to late part of Q2.

Deon Stander:

And Bryan, all I'd add is that unlike in '22 and then into '23 when we saw that significant inflation period and then followed by deflation, this one over here, in particular in Europe is related to the Finnish port strike, which has now ended and concluded. That's the good thing. I think we're still going to see some of those ripple effects come through, as Greg has alluded to. But as the market leader, we tend to be very disciplined in our pricing approach. And so when we see inflation, we tend to respond both with productivity and price increases. And when we tend to see deflation, we tend to unwind those as well appropriately to make sure that the custodians of the industry, we're managing the health and the balance of the industry as well.

Jeffrey Zekauskas:

I was looking at your Slide 11 in your description of the organic growth in Solutions. And I looked at your percentages. And so if Intelligent Labels is 32%, growing 17%, that's up 5.5%. And if your high-value categories are 28%, growing at low double digits, that's up another 3% and then you get something from base categories. So if you simply follow your percentages, it looks like your organic growth should be, I don't know, close to 9%. Is there some acquisition that's included and maybe the Solutions, high-value categories? Or is it something else? And then secondly, did your Intelligent Labels revenues shrink? Were they flat? Did they grow sequentially?

Deon Stander:

And Jeff, to your second question, our Enterprise IL revenue in dollar terms was sequentially lower than Q4. Recall Q4 is a high watermark for logistics. And for the apparel business, Q1 sequentially is a lower quarter from an overall both apparel and logistics as it were.

Joshua Spector:

So I wanted to dig in a little bit more on the cadence of earnings into the second quarter. So if I look at history, typically, you're up something like $0.20 sequentially. Greg, you called out the $0.05 to pull forward. I guess if I say Materials margins are down modestly, maybe that's $0.05. I guess what else would be the other factors that would drive that lower sequentially and offset frankly, all of the normal seasonality here?

Christopher Kapsch:

So my question is focused a little bit more on strategically addressing the Intelligent Label opportunity. And it's -- that RFID adoption expands beyond traditional, say, item level apparel and into other verticals. Based on sidebar conversations we've had and at our recent conference, we talked about this, but your efforts to use sort of value selling techniques to capture more of the value that a program brings to bear in a given application or vertical beyond just sort of a cost-plus pricing paradigm that might be the case with a more straightforward solution like logistics, shipping labels, for example.

Deon Stander:

Thanks, Chris, for the question. Yes, so I'll just remind, Chris, in the discussion that we had as well, is one of the reasons why we have such conviction around the growth potential of the business is just the scale of the opportunities in these adjacent categories. And I think I said before, food is in an order of magnitude, 4 or 5x larger than our apparel opportunity in total. And we're only there 40 or so penetrated. Logistics is 60 billion units relative to apparel of 40 billion. And all those segments are still at the nascency where we see an opportunity to help sort of connect the physical and digital by leveraging both our RFID capability and some of our other capabilities we have around data management and material science as well.

Operator:

Our next question comes from the line of Michael Roxland from Truist Securities.

Deon Stander:

Nico, the current forecast that we have, the way we're seeing the year unfold is basically all of the programs that are in rollout or an expansion. We have confidence that they will continue to do that. Now there always may be 1 or 2 quarters that things switched in terms of department changes and categories. Where we have pilots and trials, our effort is focused on trying to, particularly in food and logistics, move those to more adoption quicker than we are currently planned at the moment. And when we see that, that helps drive the broader industry adoption that we're anticipating.

Operator:

Our next question comes from the line of George Staphos from Bank of America.

Deon Stander:

Thanks, George. I'll take the first and then Greg can deal with the last one. As it relates to the Finnish strike, yes, the current resolution is as it is, it's resolved, but that doesn't preclude the fact that moving forward, that may change in time as well, George. I think the thing that we have lent on is 2 elements. One, we've specifically since the last experience we went through when we saw the significant supply chain constraints. We've deepened and broadened our supply chain fairly dramatically. Our sources of raw materials are no longer just single regional source, but they are more multiregional and multi-supplier source. And one of the reasons why we have seen no interruption during this period ourselves. In fact, our service excellence actually improved across the world because we have this resilience that we put into our supply chain as well.

Gregory Lovins:

Yes. Thanks, Deon. So on the internal indicator slide, George, to your point, Yes. I mean I think as we've talked about, our materials business is getting back to normal. We think the destocking is behind us as we've said. So part of why we didn't really need to provide those indicators as well, given that we are back to normal in that business or getting there at least. And in apparel, as I think Deon talked about a couple of minutes ago, we're also heading in the right direction there. We continue to feel confident that by midyear, we're kind of back to more normalized levels there. So just as you said, we're getting back to a more normalized state here as we move through the course of the year.

Deon Stander:

Thank you all for joining the call today. And while the environment does remain dynamic, we remain extremely confident in our position and our prospects and our ability to deliver GDP-plus growth and top quartile returns over the longer term. Thank you to you all. Good day.

Operator:

Ladies and gentlemen, thank you for standing by. During the presentation all participants will be in a listen-only mode. Afterward, we will conduct a question-and-answer session. [Operator Instructions]. Welcome to Avery Dennison's Earnings Conference Call for the Fourth Quarter and Full Year ended on December 30, 2023. This call is being recorded and will be available for replay from 5:00 p.m. Eastern Time today through midnight Eastern Time, February 6. To access the replay, please dial 800-633-8284 or 1-402-977-9140 for international callers. The conference ID number is 22028081. I'd now like to turn the call over to Mr. John Eble, Avery Dennison's Vice President of Finance and Investor Relations. Please go ahead, sir.

Deon Stander:

Thanks, John, and hello, everyone. In the fourth quarter, we again delivered sequential earnings growth, with earnings up significantly compared to prior year and in line with our expectations. We grew volume sequentially and compared to prior year in both segments, significantly expanded margins, generated strong free cash flow and delivered significant growth in Intelligent Labels. Looking at the full year, while market conditions in 2023 turned out to be very different than we anticipated, and we did not deliver on our initial expectations for the full year. I am pleased with how we navigated the challenging environment. We protected margins as the industries we serve experienced significant destocking, improved service for our customers, deepened our insights on the drivers of demand and inventory throughout the value chain, continue to shift our portfolio towards high-value categories as we delivered on our growth opportunities, particularly in Intelligent Labels and generated strong free cash flow, highlighting the strength and resilience of our overall franchise. During this period, we leveraged our core strengths of productivity, cost management and capital stewardship and increased our potential in Intelligent Label solutions to minimize the impact of the low volume environment on our bottom line. More broadly, we see the reduction of excess inventory throughout the value chain as a good thing. As it positions our industries and business to return to a more normalized growth trajectory in 2024 and demonstrate the growth power of our Intelligent Labels platform in particular. Importantly, the macro uncertainty and volume impacts in 2023 have seen customers increasingly looking for help to solve some of the most complex industry challenges, such as labor efficiency and supply chain effectiveness, waste reduction, circularity and transparency and helping better connect brands and their consumers. It is clear physical items will need a digital identity to solve these challenges and customers are increasingly turning to Avery Dennison as the leader to help them better connect the physical and digital worlds. Looking forward, a more cautious outlook is prudent particularly in the near term as economic indicators are still mixed and geopolitical risks remain elevated. That said, I'm confident that 2024 will be a year of strong earnings growth. Inventory destocking in our label business is largely complete. Apparel volumes will likely recover in the second half, and we expect significant growth in our high-value solutions, in particular our Intelligent Labels platform as adoption accelerates across new categories and apparel rebounds. Now a brief summary of the year by segment. Materials group delivered strong margins and volume improved sequentially each quarter as inventory destocking continued to moderate throughout the year. As you can see on Slide 6, label volume in North America and Europe where inventory destocking was most prevalent, continued to improve at a steady pace throughout the year. As I previously indicated, we believe inventory destocking is complete in Europe and now largely complete in North America. In the fourth quarter, volume was better than we had anticipated in Europe and slightly lower than we had anticipated in North America. And demand in these regions continues to be mixed on broad macro uncertainty and slow consumption of goods. As inventory destocking concludes, we expect volume will again improve sequentially in the first quarter, a trend we have seen thus far in January. Overall, emerging market label volume was up low single digits for the year with increased momentum in the back half, particularly in India and China. Solutions group sales were up low single digits for the year, up high single digits in the second half as strong growth in high-value solutions and the impact of acquisitions more than offset a decline in base solutions. Volume and margin continued to improve throughout the year, particularly in the back half of the year as new programs in intelligent labels ramped, apparel destocking began to moderate. While apparel imports continue to be down significantly both compared to prior year in 2019, the trend in North America started to show signs of improvement in Q4, which can be seen on Slide 6. Following a relatively mixed holiday season, retailers and brands continue to factor muted sentiment into their near-term sourcing plans. We anticipate this combined with the Suez and Panama Canal shipping issues will likely see apparel industry volumes normalize mid-2024. As you can see on Slide 7, enterprise-wide intelligent labels grew low double digits in 2023, reaching roughly $850 million in revenue, including currency translation. Non-apparel categories, including logistics and food continue to ramp significantly throughout the year and were up roughly 75% for the year. In logistics, the team successfully executed the largest RFID program single wave rollout in the industry's history, making greater shipping accuracy for our customer possible. Our execution in these key rollouts in new categories is delivering significant value for our customers and compelling proof points for broader segment adoption. This growth was partially offset by a decline in apparel as retailers and brands reduced inventories throughout the year. As we continue to see adoption in categories like logistics, food and general retail as well as a rebound in apparel, we are targeting to deliver 20% or more growth in our Intelligent Labels platform in 2024, further advancing our leadership position at the intersection of the physical and digital. As I indicated, our ability to help address industry challenges, such as labor efficiency, waste, transparency and consumer connection in very large volume categories like logistics and food is increasingly resonating with customers. We continue to invest to capture the significant opportunity ahead as we grow the size of the overall industry. We continue to refine our strategies raising the bar for ourselves in the process to ensure we continue to deliver superior value creation for all of our stakeholders. The ability of our teams to drive these strategies over the long haul, while adapting to an ongoing dynamic environment has been exceptional. As you can see on Slide 10, our focus over the long-term is the success of all of our stakeholders. As such, we're making solid progress towards our long-term sustainability goals and Greg will shortly walk through our progress against our long-term financial objectives. Stepping back, the underlying fundamentals of our business are strong. We're exposed to diverse and growing markets with clear catalysts for long-term growth. We are industry leaders in our primary businesses with clear competitive advantages in scale and innovation. We have a clear set of strategies that have been key to our success over the long-term across a wide range of business cycles and we are uniquely positioned to connect the physical and digital to help address some of the most complex problems in the industries we serve. We remain confident that our strategies, along with our team's ability to execute in any environment will enable us to continue to generate superior value creation through a balance of GDP-plus growth and top quartile returns over the long-term, including delivering strong earnings growth in 2024 as we continue to unlock our significant growth opportunities and our core businesses rebound. I want to thank our entire team for their continued resilience focus on excellence and commitment to addressing the unique challenges at hand. And with that, I'll hand the call over to Greg.

Operator:

Thank you. [Operator Instructions] Our first question comes from Ghansham Panjabi with Robert W. Baird. Please proceed.

Deon Stander:

Thanks, Ghansham. Yes, we did see slightly stronger volumes in Q4 in Europe and we continue to see that trend in early January as well. And I think as you recall last time, Ghansham, we said that we thought that destocking had largely ended at the end of Q3. And the growth in Q4, which we'd anticipated has started to come through. I will also make the point, though that European retail volumes are still muted. In fact, they are the decline in the third quarter. And I think it just underlines the broader macro uncertainty out there. But despite that, as we see the inventory destocking ending both in Europe and North America, we anticipate the recovery of that volume specifically in the normalization of our labels business. Turning to intelligent labels. We saw the growth really in the business in the second half of the year for intelligent labels largely impacted by apparel and the destocking in apparel as well as some muted sentiment around apparel for the whole year. And then you clearly saw the growth we saw in our non-apparel categories, up 75% for the year and accelerating as we went through the back end of the year, particularly over 100% in the fourth quarter, largely on logistics and food. As we look into 2024, we're still targeting that 20% plus growth rate as we move through this year. And I think three things are going to have to happen in that regard, Ghansham. So one is we're going to continue to see those new programs that we launched during last year, both in apparel, food, logistics and other categories, annualize as we go through this year. Those are in-flight and will happen. There is a degree of seasonality that will come, particularly in logistics, which tends to have a higher fourth quarter than first quarter. And then we'll also continue to see, as Greg indicated, the normalization of our apparel volume during the second half of the year, that will also start to reignite some of the growth we've seen typically in apparel. And then, the final piece is there will be new programs that we will continue to launch across all segments, not just apparel, both in logistics, food and apparel. And I'll give an example of just 1 of those, Ghansham, just to help qualify it, we're right now involved in food with a bakery trial with a very large U.S. retailer, grocery retailer and we've been able to clearly demonstrate that not only can you have an impact on food waste reduction for perishable items, but also significant labor efficiency improvement. And we're anticipating that those results will start to lead to broader adoption as we go through the 2024.

John McNulty:

So a question on the material space. So 4Q, you had a nice solid margin lift even with destocking continuing to impact the business at least in North America. I guess how should we be thinking about the potential for margin step up from that level as we look out to 2024?

Operator:

Our next question comes from Anthony Pettinari with Citigroup Global Markets. Please proceed.

Greg Lovins:

Yes. I think as we've been talking about over the last few quarters, given just the sheer magnitude of the inflation that we saw in '21 and '22. We've been largely passing through the deflation we've been seeing since, I guess, around the second quarter of 2023 through pricing. So our expectation is right now, we're seeing a little bit of sequential deflation in Q1, not a lot and we'd have a little bit of price down to go with that. But mostly price year-over-year will be carryover of the impacts from the prior year would be our expectation. Now that will depend on what happens with material costs as we move through the rest of the year. But overall, our view is, given the amount of deflation and the amount of pricing we put through in '21 and '22, that we'll be passing most of that back as we see deflation through pricing.

Operator:

Our next question comes from George Staphos with BofA Securities. Please proceed.

Greg Lovins:

Yes. Thanks, George, for the question. So on the latter point, I think it will be a combination. I mean, we had, obviously, improving margins in solutions in the back half. We also have proven margins in materials in the back half of 2023. So based on our run rates in both of those businesses, both of them I would expect to be improving margins in '24 versus where we were last year. At an overall level, I think we put it on the slide with the long-term targets. Our expectation for 2024 be 15% plus margins. So if you do your math there on the EBITDA expectations, would be closer to 16% in 2024. So that's how we thought about the plan and how we're thinking about margins increasing across the two segments as well as total company, of course.

Mike Roxland:

Congrats on a good finish to a very tough year. Just a question, you mentioned in your remarks about disruptions in terms of the Panama Canal. You obviously have that and the Suez. Do you think the issues that whether from shipping, whether it be the actual product selling for shipping costs, could that actually serve as a tailwind and maybe drive a buy or a restock particularly if retailers get concerned that they're going to be out of pocket a lot of money to try to find alternative ways to get ships? So do you think that volume ultimately could actually be higher because of some of these transportation issues?

Operator:

Our next question comes from Jeffrey Zekauskas with JPMorgan Securities. Please proceed.

Deon Stander:

Sure, Jeff. Thanks for the question. I'll address the first two, and I'll let Greg deal with the third one then. On your first question as it relates to logistics being up 110%, that or there and thereabouts that relates to effective the program that we said we've been rolling out during 2023. Recall, I said the largest single single-wave program in the industry's history. And that ramp through the year, I think we talked about this each quarter as well, Jeff, culminating in the fourth quarter as that particular customer was getting ready for their busiest holiday period as well. Now as we look forward into 2024, two things are going to be a player of this. So one is, as we've seen and we've consistently said, when we have a new segment leader start to adopt the technology and realize the benefits in this instance of shipping accuracy, it tends to be something that then drives greater adoption across that particular segment. This is what we saw in apparel, and we're going to see this again in logistics. And so we're underway in discussion already with other logistics providers around the world to understand how best we can enable and support them in their supply chain efficiency aims as well. Some of those will come to bear, either in pilot trial as we go through 2024 and then onwards from 2025 as well. I think the second thing you're going to see and specifically logistics is that because you have this peak typically in the second half of the year. The first half and largely the first quarter tends to be lower just from a volume perspective for logistics overall. And that's what we're anticipating as well in our overall first quarter. We will see some continued apparel growth slightly. And then we'll see other segments that will also contribute in terms of some of the new programs we've launched as well for the first quarter. The first half of the year will certainly be up relative to the first half of last year simply because of the annualization of some of those large programs, Jeff.

Operator:

Our next question comes from Josh Spector with UBS Securities. Please proceed.

Deon Stander:

So Josh, let me just start at the high level. We're anticipating that we'll see apparel normalization in the second half of the year, largely because we're seeing full uncertainty at retail and brand level, and they're factoring that into their sourcing near-term requirements as well. And compounded by, I think, some more of the geopolitical escalation that we've seen more recently. I think at the retail confidence level, we continue to see retail volumes be down both in Europe and North America at an absolute retail volume level in late 2023 and they're roughly forecast to be flat or similar in 2024. Final point I'd make is if you look at I think on Slide 6, we highlighted that we've had more than four quarters of continued significant import declines relative to normalized patterns in 2019. And at some point, that does turn and we're starting to see that now in North America for part of Q4, and I don't doubt that we'll also see that when the information comes through from Europe as well. That trend is part of our confidence around why we buy around mid-2024, we anticipate volumes for apparel normalizing at that point.

Operator:

Our next question comes from Matt Roberts with Raymond James. Please proceed.

Deon Stander:

So Matt, I think we were clear the last time that we have confidence in the $10 run rate being achieved at some point in 2024, and that still remains the confidence, in fact, it's included in our guidance. I think the only variable that we continue to see is related to the uncertainty and the impact on timing. And so at this point where we will see a likely $10 run rate in the second half of the year. As it relates to your 20% IL growth that basically is going to account for we think about sort of 2 points of the company growth as we look for 2024. And it's based on making sure that we continue to accelerate our existing programs, roll out the new programs that we have and apparel volume rebounding as well.

Operator:

Our next question comes from Christopher Kapsch with Loop Capital Markets. Please proceed.

Greg Lovins:

Yes. I think the comment, Chris, on protecting margins is really about given the volume challenges that we saw with the amount of destock. So it was really about the actions we were taking to help offset the volume impact on the bottom line whether that be through productivity actions, some of the temporary actions the team is taking to offset that, belt tightening, all those type of things, that's really what that's more referring to overall rather than the price inflation dynamics.

Operator:

We have a follow-up from John McNulty with BMO Capital Markets. Please proceed.

Deon Stander:

So John, I think there are two elements to this. One is we continue to, as we said, consistently forward invest ensuring that we have industries adopt. And so part of when we had lower volume overall, you tended to see the impact on margins overall. I think the second piece in this is that we will continue to see the return of some of those temporary cost actions that we've taken, as volumes pick up during 2024 as well. But the benefit of the additional volume and the way our teams are operating and the mix that we have from high-value segments and base on our solutions business will see our margins expand during 2024.

George Staphos:

So my questions are on solutions. Deon, can you talk a little bit about how Vestcom did relative to the KPIs you would have had for the business in '23 and what the expectation is for '24 and then relatedly, within Solutions, you've covered this already to some degree. But IL for apparel it looks up a little bit, looking at Slide 7 versus '23 still down versus '22, if we're reading it correctly. Help us understand what is going on in terms of IL adoption and usage and apparel and why you're comfortable in the outlook there going forward? Thank you and good luck in the quarter.

Operator:

Mr. Stander, there are no further questions at this time. I will now turn the call back to you for any closing remarks.

Operator:

Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your line. Thank you.

Operator:

Ladies and gentlemen, thank you for standing by. During the presentation, all participants will be in a listen-only mode. [Operator Instructions] Welcome to Avery Dennison's Earnings Conference Call for the Third Quarter Ended on September 30, 2023. This call is being recorded and will be available for replay from 5:00 PM Eastern Time today through midnight Eastern Time, October 31. To access the replay, please dial 800-633-8284 or +1-402-977-9140 for international callers. The conference ID number is 22020693. I would now like to turn the conference over to John Eble, Avery Dennison's Vice President of Finance and Investor Relations. Please go ahead, sir.

Deon Stander:

Thanks, John, and hello, everyone. In the third quarter, we delivered earnings in line with our expectations, grew volume and margins in both segments sequentially, generating strong free cash flow and delivered significant Intelligent Labels growth in new categories such as logistics and food. While earnings were in line with our expectations for the quarter, volume was lower than anticipated on broader macro uncertainty and slow consumption, which the team was able to offset through productivity and cost reduction actions. As I mentioned last quarter, we have activated countermeasures to minimize the impact on our bottom line. We have implemented temporary cost reduction actions, ramped up our restructuring initiatives and pared back capital investments in our base businesses, while protecting investments in our high-growth platforms, particularly Intelligent Labels. Now a quick update on the quarter by business. Materials Group delivered strong margins and volume improved sequentially as inventory destocking continues to moderate. Volume was down compared to prior year, as customers were still building inventory in the third quarter last year and have been reducing it this year. As you can see on Slide 6, volume in North America and Europe continue to improve at a steady pace in the third quarter. Latest indications suggest that our customers' inventory destocking is largely complete in Europe and will be largely complete in North America by year-end. Demand in these regions has been softer than anticipated on broader macro uncertainty and slow consumption, particularly in Europe. As destocking continues to moderate, we expect volume will again improve sequentially in the fourth quarter, a trend we have seen through the first 3 weeks of October. Overall, emerging market label demand was solid in the quarter, up high single digits sequentially, with particular strength in Asia. Materials margin was strong expanding year-on-year and sequentially, as volumes improved and structural and temporary cost saving actions were implemented. Solutions Group sales were up mid-single digits in the quarter. Sequentially, volume in Apparel Solutions and Intelligent Labels improved and adjusted EBITDA margin improved 60 basis points. We expect to drive further margin improvement in the fourth quarter as volume increases. Apparel imports continue to be down compared to prior year in 2019, which can be seen on Slide 6. Following a mixed back-to-school season, retailers and brands continue to factor muted sentiment into their near-term sourcing plans. Intelligent Labels in non-apparel categories, particularly logistics and food, continues to ramp significantly, and we're up roughly 75% in the quarter. Our execution of these key rollouts in new categories is delivering significant value for our customers and compelling proof points for broader segment adoption. This growth was partially offset by a decline in apparel, resulting in roughly 10% growth for overall Intelligent Labels in the quarter. We expect non-apparel Intelligent Labels growth to further accelerate in the fourth quarter, along with sequential improvement in apparel, enabling us to achieve low to mid-teens growth for the platform overall in 2023, lower than previously anticipated due to the continued soft apparel market. As adoption in categories like logistics, food and general retail accelerate and apparel rebounds, we continue to expect the Intelligent Labels platform to deliver 20%-plus growth in the coming years as we further advance our leadership position at the intersection of the physical and digital. Our ability to help address challenges, such as labor efficiency and waste in very large volume categories like logistics and food, is increasingly resonating with customers, and we continue to invest to capture the significant opportunity ahead of us. Intelligent Labels is a great example of one of our key strategies to drive outsized growth in high-value categories. We continue to shift our portfolio towards these categories, both organically and through M&A, and we expect to benefit from higher growth contributions from these categories over the long term. Another example of this is our external embellishments platform. Earlier this month, we announced an agreement to acquire Silver Crystal Group, an established player in sports apparel customization and application, with roughly $30 million in annual revenue as we continue to expand our position in this key growth platform. Turning to the fourth quarter at a total company level. As volumes continue to improve, we expect further sequential earnings improvement. In both of our primary businesses, in past inventory destocking cycles, we've seen the pace of volume improvement accelerate as the industry nears the end of the cycle. In light of the broader macro uncertainty and softer consumption, we continue to anticipate a more measured recovery as we indicated last quarter. We remain confident that as volumes normalize and non-apparel Intelligent Labels adoption expands, we will steadily increase earnings to achieve a $10-plus EPS run rate. We anticipate achieving this at some point in 2024, but the timing of this is uncertain. Stepping back, the underlying fundamentals of our business are strong. We're exposed to diverse and growing markets. We are industry leaders in our primary businesses, with clear competitive advantages in scale and innovation. We have a clear set of strategies that have been the keys to our success over the long term across a wide range of business cycles, and we are uniquely positioned to connect the physical and the digital to help address some of the most complex problems in the industries we serve. We remain confident that the strategies we formulated will continue to enable us to generate superior value creation through a balance of GDP-plus growth and top quartile returns over the long term. I want to thank our entire team for their continued resilience and commitment to addressing the unique challenges at hand. And with that, I'll hand the call over to Greg.

Operator:

[Operator Instructions] Our first question comes from the line of George Staphos with Bank of America.

Deon Stander:

Thanks, George. If you recall what we said earlier in the year, was that we anticipated that apparel wouldn't recover through the remainder of the year, but we see slight sequential in volume improvement. And as we showed, I think, on Slide 6, George, you can see what we had anticipated was that continued apparel imports we've done so sequentially continued over a full period quarter. And in addition to that, we continue to actually see somewhat surprisingly that inventory to sales ratios are also declining. And so the combination of that, I think, is really factoring into kind of more muted apparel near-term sentiment as brands and retailers think about their sourcing opportunities. In addition to that, we have seen the expansion of our non-IL apparel business significantly, particularly in logistics and food, as we really are demonstrating the value to our customers that those solutions are able to bring. And as I look forward then into Q4, we're anticipating a little bit more recovery in apparel. And we also have, as I mentioned the last time, a number of new apparel programs that are in rollout. Sometimes they switch between quarters as they ramp, we've typically seen that over time, but that will also add to our apparel IL volume growth as we go into the fourth quarter, George.

John McNulty :

So I guess my question is really about the guide. So 3Q, you did about 2.10. You're basically looking flat to up about $0.15 in 4Q. And I guess, if I think about it, you've got the big RFID improvement, particularly in the logistics. You got incremental cost saves, which seems like combined, those would put you at the high end of the range without any assumption for less destocking at the core, falling raws or anything like that. It sounds like maybe a little bit seasonality, but I guess what am I missing in terms of the bad guys here? Because it seems like the outlook for 4Q -- or the guidance for 4Q is kind of unusually or extremely conservative.

Operator:

Our next question comes from the line of Ghansham Panjabi with Robert W. Baird & Company.

Deon Stander:

Thanks, Ghansham. I think the thing that we've seen more recently is that kind of more broader macro uncertainty and slower consumption. And Greg, I think, called out, particularly in Europe macro retail data volume, is actually sequentially down each month over the last couple of months. And we do see consumer packaged goods volume still below last year in the large number of consumer packaged goods companies as well. And I think that caution, whether it's in that particular end market or also in apparel, I think it's just part of what we're seeing as a consequence of higher interest rates and this impact on consumers and how they react. And so we're seeing -- we're starting to see some of the sequential improvement from inventory destocking, particularly for the categories that went in first. And you've seen that in our results, and you continue to see that even in our forecast for the fourth quarter, Ghansham. As I think about it now, given that uncertainty, it makes it very difficult to call when that $10 run rate will happen. That's why we think it will happen at a point during next year, but the timing of it uncertain. I'm very confident in the fundamentals of our business. And I'm confident that when volume really does return, we can see a clear path to that $10-plus run rate as we move forward.

Jeffrey Zekauskas :

I have a two-part question. I was looking at your bar graph for volumes on Slide 6. And when you measure it, it looks like Q4 of '22 was 1.2 inches, and Q4 -- and October is 1.4. So it looks like the volume is up 16%. Is that right? And second, you've got two tranches of debt, you've got -- both about 1% rate. You've got 300 in August of 2024 and you've got 533 in the first quarter of '25. Is your intention to pay those down or to refinance them?

Operator:

Our next question from the line of Josh Spector with UBS Securities.

Greg Lovins:

Yes. Thanks, Josh. This is Greg. So I think when you look at overall Solutions in the quarter, as you can see, our organic growth in the quarter was about 0.5 point, but the majority of that is driven by the Intelligent Labels growth, as we've already talked about at around 10 points. And base apparel and our base business down in the segment was down. Now when we look at that 0.5 point of growth, we had a little bit of price up, and volumes overall were down a little bit in the quarter, particularly in the base, as I mentioned a second ago. And I think as you probably heard us talk about in the past, in the Solutions segment, we need a point or so of growth in order to offset things like wage inflation, things like that, that are an annual increase in cost of that business. So we had year-over-year employee costs go up as well as the investments that we've been making in Intelligent Labels from a carryover perspective as well as investments as we were ramping up the new programs here. So those are really the areas that I think impacted margins in the quarter. So we were happy to see the sequential improvement that we made in Q3, even though we're still below prior year. We do expect further sequential improvement in Q4, I would say, 1 point or so from where we were in Q3. And I would expect in when we look next year to get back closer to the margin rates we were at last year in the Solutions segment overall.

Anthony Pettinari :

You've had this year where organic sales is down 10%. And I'm just wondering, do you feel that there's any market share shifts in either Materials or Solutions? Are you potentially losing some shareholding, gaining? Any kind of conclusions you can draw looking at the last 3 quarters and anything that you would differentiate between Materials and Solutions, understanding Solutions is getting a bit better?

Operator:

Next question from the line of Mike Roxland with Truist Securities.

Deon Stander:

Well, Mike, I think we highlighted there is a degree of uncertainty around the macro environment, and we've seen softer consumption in Europe. And I think we've been very clear that we're not necessarily the calling the time in the recovery. We do see slow sequential improvement. And I think the thing that I always go back to is that at the end of the day, we're serving, ultimately across multi-cycle time phase. We serve markets that are both growing and diverse and typically, are GDP-plus. And so at a point, the markets will recover, demand will come back, and we are ideally positioned in that regard. We have leadership positions in both our businesses, and we have strategies that continue to deliver successfully over the years. And we have a team that leads the industry in both of our businesses as well.

Operator:

Our next question is coming from the line of Christopher Kapsch with Loop Capital Markets.

Deon Stander:

Yes. So Chris, let me address the first question, and I'll get to the second. We have seen low sequential improvement in demand sorry, in volume in our Materials business in the first part of October. That's reflected in the bar chart. And I think that reflects both the continuation of the destocking moderating largely in Europe, as we said, we think it's largely complete now by the end of Q3. There's a little bit to go in Q4 in North America. And so we would anticipate volume to slowly sequentially improve in that regard. As it relates to IL overall, our Intelligent Labels platform, we have a high degree of confidence in that 20% growth rate. And let me tell you why, Chris. I think firstly, we are really seeing our non-apparel categories, largely now logistics and food, continue to accelerate. And you can see that both in Q3 and in Q4. These are actual rollouts that are happening in logistics customers and food customers. They're in flight. They are delivering real value for our customers. And most importantly, as that value becomes more visible, it becomes a compelling proof point for the broader segment to think about adopting. We saw that when apparel first adopted as well, and we're seeing a mirror of that as we anticipate going forward. I think the second thing is apparel is recovering, and it will bounce back at a point. And when that happens, we are the market leader in apparel IL overall. And it's not just the recovery of the volume in apparel, it will also be the continuation of new use cases. I think I spoke previously about our rollout with Inditex on a loss prevention application that is in addition to the inventory productivity we typically see. And we're continuing to see new retailers and brands rollout. And I mentioned four previously, and we have another four in flight right now, large ones as well. They will augment the apparel growth as well. And I think the other piece to really consider is when you think about those non-apparel categories, like logistics though, they are significantly bigger than apparel. If apparel is around, let's call it, addressable market of 45 billion units, logistics is at least 65 billion to 70 billion and food is in the order of 200 billion units, and we are just at the start of the adoption in those two categories. So the scale of the opportunity, the potential that lies in front of us is tremendous. And that's the reason, Chris, that we've been investing to ensure that we can maintain and expand our market leadership position. We're not just here to make sure we're solving some of these unique challenges for customers, but actually to try and ensure that we're activating the industries and the segments within. And having seen the impact that we're having on those customers, and the fact that how much they value our market-leading team, it just -- it reinforces the confidence they have in that future growth rate.

Matthew Roberts :

When I think about the investments you're making in Intelligent Labels as well as you referenced turning some inventory earlier, when I think of the cash conversion cycle for Intelligent Labels, is that different than the rest of the system? Is there a longer lag and when you have to invest in that inventory, to when you're able to book the revenue versus everything else? If there's any color you could provide, that would be really helpful.

Deon Stander:

And Matt, the only thing I'd add to that is, typically, when we look at some of these large-scale rollouts, our focus is on consistent and flawless execution. We have to make sure that we deliver not only the business case, the proof of economics, but actually the reliance ensuring that we can provide everything they need. And so we typically tend to invest to make sure that we have the capacity to both do that and from a people and from an asset and then from a working capital perspective. But as that program then continues to roll out, we typically end up normalizing relative to all of our other working capital cash collection cycles as well.

George Staphos :

Deon, can you talk to what the payback return -- payback period is on some of the newer markets relative to -- for IL relative to what you've seen with apparel, arguably, especially with logistics, perhaps given the value of the products for your customers the payback might actually be quicker and the return higher? Can you talk to that? Can you index it somehow? And then just a quick follow-on. At the end of the day, I wasn't clear. Are you expecting Label Materials to be up year-on-year in volume in the fourth quarter? I know you're making sequential improvement. I know the comp was tough in October and then November last year, things dropped off. What would you have us know about your guidance for the fourth quarter in terms of what it means for material volume year-on-year in the segment?

Greg Lovins:

And George, also, I'm not sure of your question -- that your last question was year-over-year or sequential. Year-over-year, we also expect to see volumes up in the label business, as Deon said, it's the same reason we start to lap that destocking last year. We still got some destocking in North America in Q4, a little bit less in Europe, as we've already talked about. So we do start to see volumes up in the fourth quarter versus prior year. The other thing I would say when you're looking at the sales line, as we've seen that sequential deflation as we move through the last couple of quarters, we do have some price down as we've talked about as well. So it will offset some of that volume increase. But certainly, we expect volume to grow a little bit year-over-year in the fourth quarter.

Deon Stander :

Thank you, Carlos, and thank you all for joining us on the call today. While the environment remains dynamic, we are extremely confident in our position and prospects and our ability to generate GDP-plus growth and top quartile returns over the long term. So thank you, all.

Operator:

Ladies and gentlemen, thank you for standing by. [Operator Instructions] And welcome to Avery Dennison's Earnings Conference Call for the Second Quarter ended on July 1, 2023. This call is being recorded and will be available for replay from 5:00 pm Eastern Time today through midnight Eastern Time, July 28. To access the replay, please dial 800-633-8284 or 402-977-9140 for international callers. The conference ID number is 22020692. Now, I'd like to turn the call over now to John Eble, Avery Dennison's Vice President of Finance and Investor Relations. Please go ahead, sir.

Mitch Butier:

Thanks, John, and hello, everyone. We delivered $1.92 of EPS in the second quarter, up sequentially from previous quarters, a trend we expect to continue in coming periods. Volumes in our base business continued to recover from slow market conditions, largely destocking while our Intelligent Labels platform accelerates adoption in new categories. While it's good to see the continuing sequential improvements in our materials businesses and the building momentum in Intelligent Labels, the pace of our recovery is slower than anticipated. Our results for the quarter were below our expectation due to lower revenue, particularly in June, something the team was able to largely offset through cost reduction actions. Clearly, our intel in April understated the magnitude of the market challenges, particularly inventory builds. That combined with the fact that the drop-off in volume was steeper in Q4 and Q1, we assume the duration of the lower volume period would be shorter. We got that part wrong. What we have been clear on and remain confident in, is that this period of challenging results will soon pass. While the pace of sequential volume improvement that we assumed mid-year June and July specifically did not accelerate as anticipated, volumes continue to recover. Our underlying business is bouncing back as it always does. This combined with the continued execution of our strategies to drive outsized growth in higher value categories, particularly Intelligent Labels, positions us well to continue to deliver GDP+ growth and top-quartile returns over the long run. Now, as you all know, I have decided to step down as CEO at the end of August, and I'm handing over the reins to Deon, while I'll continue as Chairman of the Board. It has been a privilege to lead Avery Dennison over much of the past decade and I am proud of what the team has accomplished during my tenure. We've accelerated our growth, improved margins, achieved world-class employee engagement scores, and significantly advanced our sustainability objectives. And I could not be more confident than I am now in our position and prospects. I've been planning and preparing for this transition for years, and as I've shared with a number of you, there are few reasons behind my decision to step down as CEO. One of the most important is that I have found a leader in Deon that I am confident will lead us to success in the next phase of our journey as a company. Deon has been a close partner of mine over the years. Over his 20-year career with the company, he demonstrated strong leadership and has a proven track record, including successfully transforming the Solutions Group and helping to lead the acceleration of our Intelligent Labels platform. I am extremely pleased that he will be our next CEO and I look forward to our future success under his leadership. Now before handing the call over to Deon and Greg, let me conclude by thanking our team. This is a team sport and I thank the entire organization for their dedication, focus, and excellence, and delivering our continued and collective success. I look forward to continuing to serve our stakeholders and supporting Deon and the leadership team to achieve new heights in my role as Executive Chairman. Over to you, Deon.

Greg Lovins:

Thanks, Deon, and hello, everybody. In the second quarter, we delivered adjusted earnings per share of $1.92, up $0.22 sequentially driven by benefits from productivity and temporary cost-saving actions, and higher volume. Sales were down compared to prior year, roughly 10%, both ex. currency and on an organic basis, driven by a low-teens volume decline, partially offset by higher prices. Adjusted EBITDA margin was 14.7% in the quarter, up 110 basis points compared to Q1 with adjusted EBITDA dollars up 10% sequentially. We generated $135 million of adjusted free cash flow in the second quarter, which was roughly in line with our expectations. As you may recall, I noted last quarter that we had higher inventories in certain areas across the company, partially related to strategic inventory builds in areas such as RFID chips, and also in components in which we experienced supply disruptions over the last couple of years. For the latter, we are focused on driving improvements across the businesses and we made good progress in the second quarter and expect to make further progress as the year unfolds. Our balance sheet remains strong. We continue to execute our disciplined capital allocation strategy, including strategic acquisitions such as Lion Brothers which closed in the second quarter, and continuing to return cash to shareholders. In the first six months of the year, we returned $216 million to shareholders through a combination of share repurchases and dividends, as well as deployed $194 million for M&A. Turning to the segment results. Materials group sales were down 12% ex. currency and on an organic basis, driven by a mid-to-high-teens volume decline as inventory was being built downstream from us last year and is being reduced this year. On a sequential basis, volumes increased in the second quarter with Label materials volume up overall low to mid-single-digits sequentially. As Deon highlighted, on Slide 6, you can see that Label volume in combined North America and Europe ramped as we move through the second quarter and into July, and we assume that pace to continue for the remaining of the third quarter. Looking at the Label materials organic volume trends versus prior year in the quarter, North America and Europe were down roughly 25% to 30%. China was up significantly as we lapped the Shanghai area lockdowns from last year and it was up low single digits sequentially. Latin America was up modestly and up mid-single digits sequentially. Also, compared to prior year, Graphics and Reflective sales were up organically high-single digits. Materials Group delivered a strong adjusted EBITDA margin of 15.7% in Q2, up 150 basis points from Q1 and down 1 point compared to prior year. As the benefits from productivity and temporary cost-saving actions were more than offset by lower volume. We expect adjusted EBITDA margin to continue improving sequentially. Regarding raw material costs, we have moved into a modest deflationary environment, following a period of significant inflation, these lower costs are largely being passed along and price reductions to our customers. Shifting now to Solutions Group. Sales were down 4% ex. currency and 7% on an organic basis. As low-single-digit growth in high-value categories was more than offset by a high-teens decline in the base business As retailer and brand sentiment remains muted. GAAP operating margin was down in the quarter, largely due to an increased liability related to the recently disclosed jury verdict in the ADASA legal matter. The company continues to dispute this and is preparing to appeal. We've also largely completed any migration to alternative encoding methods for RFID tags. Adjusted EBITDA margin of 15.8% was down 320 basis points compared to prior year, driven by lower volume with continued strategic investments in Intelligent Labels and partially offset by productivity and temporary cost actions. We expect adjusted EBITDA margin to improve sequentially through the remainder of the year. Now shifting to our guidance. In the third quarter, we expect adjusted earnings per share to be in the range of $2 to $2.20, up roughly $0.20 sequentially at the midpoint, similar to the level of improvement we delivered in Q2. In the third quarter, we expect Label volume to continue to ramp at a similar pace as Q2, as inventory destocking further moderates. Intelligent Labels volumes in new categories will continue to accelerate and further structural cost reduction actions are being implemented as we continue to focus on driving productivity across our businesses. Looking forward, we expect adjusted earnings per share will further increase sequentially in the fourth quarter, and as Deon mentioned, we continue to anticipate achieving a $10-plus adjusted EPS run rate, albeit, a couple of quarters later than previously anticipated. We previously assumed the destocking period would end with a more accelerated ramp like we've seen in these cycles in the past. In light of the broader macro uncertainty, we're currently seeing a more measured ramp. The anticipated sequential improvement across the next couple of quarters and towards a $10 run rate is driven by the normalization of inventory destocking and Label materials, the continued ramp in non-apparel Intelligent Labels volume, the impact of ongoing productivity actions, particularly structural cost reductions, and the normalization of apparel volumes. We've outlined additional full-year considerations on Slide 13 of our supplemental presentation materials. We now estimate that incremental pre-tax savings from restructuring net of transition cost will contribute roughly $65 million, up $15 million from our April estimate. And we anticipate investing roughly $325 million on fixed capital and IT projects, down roughly $25 million from our previous outlook as we pair back capital investments in our base business. In anticipated impact from currency translation has increased slightly and now reflects a roughly $15 million headwind for the full year based on current rates. In summary, we're continuing to improve our results as we move through the year, and despite near-term challenges, we remain confident in our ability to continue delivering exceptional value through our strategies for long-term profitable growth and disciplined capital allocation. We're committed to delivering on our long-term financial targets through 2025. And now we'll open up the call for your questions.

John McNulty:

Yes, thanks very much for taking my question. And Mitch, let me be the first, but probably one of many to congratulate you on moving from the CEO role and, Deon, let me congratulate you for getting the CEO role. So..

MitchButier:

Thank you, John.

GregLovins:

Yes. Thanks, John, for the question. Overall, to your point, on raw materials when we look from the first quarter to the second quarter, of course, it differs a little bit by region and commodity. But generally, to your point, we had about somewhere in the low to mid-single-digit deflation sequentially from Q1 to Q2. And that's basically what we would expect as we look forward into the third quarter as well. To your point, as I mentioned earlier in my prepared remarks, we have continued to be disciplined in our pricing. As you know, over the last couple of years, we've implemented pretty significant amount of pricing actions, given all the inflation that we've taken over that time. So given the deflationary - or slightly deflationary trend we've seen here, we have given back a little more price to go with that deflation as we've gone into the second quarter.

Operator:

Thank you very much. And we'll proceed with our next question on the line is from the line of Ghansham Panjabi from Baird. Please go right ahead.

MitchButier:

Thanks, Ghansham.

Ghansham Panjabi:

Thanks, Mitch. Thank you, Deon. I guess, you know, just on your comments that you anticipate the $10 plus EPS run rate will be delayed a couple of quarters. Are you implicitly guiding for 2024 EPS to be north at $10 and then related to that, you have easier comparisons 4Q onwards with destocking also sort of behind you, but now we're at a point where consumer spending globally is also weaker. Are you thinking about that headwind both for the back half of this year and also 2024?

Deon Stander:

Ghansham, maybe let me just add a little context around where we see the markets at the moment. I think as you recall in times and we've seen significant volume declines, for example, in a recessionary period, they tended to be steep but they tended to be a relatively steep recovery as well, and that's what we had been anticipating as we came through the second quarter, and we didn't see that in June. And I think that's largely down to the pace of inventory destocking moderating. But as well, we've seen more uncertainty in the markets in the near-term. I think there are a number of indicators, the macro level that are contrary to each other and I think that's driving further uncertainty. In our Labels business specifically, we're going to continue to see that measured recovery you see on Slide 6, and for apparel, I think there is more muted sentiment now than there has been for a while, and a lot of how apparel goes over the next couple of quarters is going to relate to the results from back-to-school and then the implications for holidays we move forward. As such, we're going to be continuing to focus on service execution for our customers, addressing our cost as Greg has said, and making sure that we're continuing to drive on our share gains as we move forward into the market as well.

Anthony Pettinari:

Good afternoon and congratulations to Mitch and Deon in the new roles.

MitchButier:

Thank you.

MitchButier:

Anthony, let me address that first and then Greg can follow up as needed as well. I think I made the point that we typically have seen a steeper decline in a more steeper recovery in periods when we - when there's been recessionary environments, it's not a recession environment now, but the similar analogy that we would use as we move forward. We had anticipated that been a sharp recovery, particularly in June and July. And we've not necessarily seen that. We've seen volumes sequentially improved. That combined with a more near-term market uncertainty in outlook given some of the country indicators we're seeing over there has led us to focus where we are in Q3, and continuing to see the projection of our volume recovery in Labels business and assuming at the moment that our apparel business will not recover during Q3 at this stage. And then when we factor on top of that, our accelerated IO non-apparel deduction rollout, we feel good about where we are as we look towards $0.20 earnings growth in the third quarter.

Josh Spector:

Yes, thanks for taking my question. And just echo my congrats to Mitch and Deon.

Josh Spector:

So, just on the RFID non-apparel categories. Obviously, you still forecasting quite strong growth there. Has anything changed in terms of timing and rollout? And then kind of related with that, you know, that chart you show on Slide 7 is pretty helpful about the bridge through the year. Looking at fourth quarter and that exit rate, is that the right way to think about kind of the stack when we get into 2024 as well? Thanks.

Operator:

Thank you very much. We'll get our next question on the line from the line of Mike Roxland with Truist Securities. Go right ahead.

Deon Stander:

Thank you.

Deon Stander:

Yes, Mike. The difference in June that we saw, we anticipated a steeper ramp, as I think both myself and Mitch said previously. And volumes did continue to ramp, but not at the pace that we'd expected. If you look at Slide 6 which you can see is the combination of April, May, and June continues to ramp, and in July, we're seeing a similar consistent ramp in our revenue through July year to - month-to-date.

Operator:

Thank you very much. We'll get to our next question on the line from Jeff Zekauskas from JPMorgan Securities. Go right ahead.

Deon Stander:

So, Jeff, yes, our performance year-to-date, if you look across the two quarters is roughly flat for apparel, and that's largely been driven by the apparel softness that is being more pronounced than we had anticipated. As I said our IO non-apparel ramp-up is on track and on pace with what we'd anticipated and is continuing to ramp through the second half of the year. So that does imply, yes, a greater than 40% growth rate as we go through the second half of the year. And we feel good about that. As it relates to UPS, specifically, we don't comment on specific customers, but logistics is a big part of our ramp as we move forward through this. And, as we always do for every significant program rollout that we do, Jeff, we do a lot of scenario planning to make sure that we're ready for all eventualities. We've done that in this case. If there was to be any striking the logistics sector of any period, then we would anticipate some impact, but we have made sure all our efforts are focused on continuing for service excellence to continue to validate the strength of the business case that in this instance, the logistics industry is really strong - feel strongly about.

George Staphos:

Thanks very much. Hi, everybody, good morning. I'll echo what everybody has said, Mitch and Deon, congratulations. Mitch, in particular, congratulations on all the positives and the value creation you brought Avery over your tenure. With that being said, in the matter at hand, given the uncertainties that you're seeing, right, things are steadily getting better, but, you know, you're uncertain enough such that it's difficult for you to project for the full year, hence the lifting of the guide for the year as Anthony was pointing out. What - you gave us several points as to why you feel you get to $10 of earnings power, but what exit rate on volume do we need to be seeing? What other specific quantification would you give us in terms of margin productivity, and so on? Such that you feel you are at that, let's call it, 250 of earnings by the first quarter. So again, particularly, what kind of volume run rate do we need to see into the first half - into the first quarter of '24 for you to feel comfortable about that guide to $10 of earnings powered for the first half of '24?

Operator:

Thank you very much. We'll get to our next question on the line is from Christopher Kapsch with Loop Capital Markets. Go right ahead.

Deon Stander:

Yes, Chris, thank you. In apparel, what we saw the industry really drive adoption around was effectively inventory productivity and visibility. And that case actually holds true for many industries and verticals we look further along, Christopher. If you remember, we said that apparels addressable market is about 40 billion units, logistics is about 60 billion, 65 billion, and food was north of 200 billion. So a significant order of magnitude, if we were able to prove the value of the solutions that we provide. And we've not come to sort of realize that those are really sort of in four really categories, one is, helping reduce waste, whether that's food waste, the promise of reducing food waste, the promise of waste in the supply chain. Again reemphasizing the - how labor efficiency and supply chain effectiveness becomes more pronounced when you use technology like RFID. The third, one is really an emerging piece, which is around being able to provide the sustainability, circularity, and transparency of items and the mechanism for measuring that. And the final one is, we're starting to see also a better way for brands to directly connect with their consumers. And so when we look into each one of these verticals, in particularly the ones that are in-flight now logistics and food, we see use cases that are reinforcing the need to address those problems. In food, really trying to understand how you shine a light on provenance down the supply chain. And then use that to drive food freshness in store and less waste. The waste, as you know, it could be 30% to 50% of everything produced in those states gets wasted, typically, we produced a report that showed that I think last year. In logistics, using the technology to really understand how do you avoid missed shipments and missed loads is one example, but then also traceability as well and that is to come and we're engaged with a number of alternative place the ones we already have both in food and logistics proving out some of these - proving up the economics of those business cases. And what we come to realize is, as in apparel, the typical use cases apply across all the industry players, when that's once been established. And that's the reason why Chris, we've been leaning so far forward and not just dealing with customer problems, they trying to activate markets. Because in that activation of markets, we can see the benefits spreading across all of them.

John McNulty:

Yes, good morning. And maybe I can kind of sneak two here, since we have brown dripped it once already. So, I guess the first one would just be in the solutions business going from 1Q to 2Q, you saw revenues up. And presumably, the mix got better because it looks like Intelligent Labels with at least flat if not up a - at least a little bit. So why wasn't there any improvement in the ORI? And then, I guess the second thing that I just wanted to flesh out a little bit is, these - I think you're always busy with new projects, new pilots in the RFID or Intelligent Labels area, but obviously, there is some chunky ones like, we've seen a big home goods one that you've had with the customer, we've seen a new big logistics one. I guess as you look out over the next 12 months or so, are there large-scale projects that maybe haven't been announced yet, but that you see in the pipe that - you could make it to the finish line in the next 12 months that we should be at least considering. Thanks.

Deon Stander:

And, John, just your question on any large-scale programs that we look forward, the short answer is, yes, there are a number that are in flight at the moment. I was actually just with an executive of a fast casual chain during this last week, rediscussion some of the extended applications that we're going to work with them on both transparency and freshness as well. And we see similar things in grocery around freshness, and in addition, in logistics, we're engaged with a number of other industry players as well. And so in time, those will become more pronounced and we will start the rollout and adoption of those. I'll also say, as I reiterate reiterated I think earlier on, in apparel, we've recently just also closed out four new apparel accounts and they will be starting to roll out from the third quarter and fourth quarter into next year.

George Staphos:

Thank you. Hi, guys. Two quickies to wrap up from me. So, when we talk about destocking in apparel, some of the discussion in the past had been, your customers ultimately will mark down to move inventory and so destocking is not an issue and that was the expectation in terms of why destocking should have been done by now a year after those retail headlines started coming out. So where is this inventory that needs to continue to be destocked, what if your customers told you in terms of why they're still in this position, recognizing it is what it is? And then secondly, back to organic volume, when should we expect positive volumes for Avery across its key segments and product lines recognizing IL is going to be growing? But in total, is that a fourth-quarter phenomenon, or is that a first-quarter phenomenon? Thank you.

GregLovins:

Yes, and George, on your second question from organic volume growth perspective, we would expect - we anticipate at least as we're into the fourth quarter to see volume growth versus Q4 of last year, as we start to obviously comp some of that destocking, but we would see that continuing to improve as we moved into the beginning of 2024 as well.

Mitch Butier:

All right. Well, thank you, everybody, for joining the call today. Clearly having a challenging period right now, but we remain extremely confident in our position and prospects and our ability to continue to deliver GDP+ growth and top-quartile returns over the long run. Thank you all very much.

Operator:

Ladies and gentlemen, thank you for standing by. During the presentation, all participants will be in a listen-only mode. Afterward, we'll conduct a question-and-answer session. [Operator Instructions] And welcome to the Avery Dennison's Earnings Conference Call for the First Quarter Ended on April 1, 2023. This call is being recorded and will be available for replay from 5:00 pm Eastern Time today through midnight Eastern Time, April 29th. To access the replay, please dial 800-633-8284 or 1-402-977-9140 for international callers. The conference ID number is 2202-0691. I’d now like to turn the call over to John Eble, Avery Dennison's Head of Investor Relations. Please go ahead.

Mitch Butier:

Thanks, John. Good day, everyone. We continue to make progress on our long-term strategies and objectives and continue to expect to achieve a run rate greater than $10 of EPS in the second half of this year. That said, the year started off even more challenging than we anticipated a few months ago. In the first quarter, we delivered EPS in line with our expectations as our productivity measures offset a shortfall in revenue. This lower revenue was due to higher-than-anticipated inventory destocking, a trend that has continued into the second quarter, causing us to reduce our outlook for Q2 and thus the full year. Inventory levels downstream from our materials business were greater than we and our customers previously anticipated and are being unwound at a rapid pace. While the magnitude of inventory destocking is causing near-term challenges, the underlying fundamentals of our business remain strong. We are exposed to diverse and growing end markets, principally staples. We are market leaders in our primary businesses with clear competitive advantages in terms of scale and innovation. And we have a clear set of strategies that have been the keys to our success over the years. An important element of these strategies, as you know, is to drive outsized growth in higher-value categories. And the best example of that is Intelligent Labels, which we've built leveraging both our Materials and Solutions businesses as well as our leadership in RFID technology. This strategy has not only increased the growth and margin potential of our company but of the markets we serve. With the underlying strength of our markets, our businesses, our strategies and, of course, our team, we remain confident in our ability to deliver long-term superior value for all of our stakeholders and are on track to achieve our 2025 and 2030 objectives. As for 2023, as I said earlier, we are off to a challenging start. We have implemented a number of countermeasures to reduce the impact of the soft volume environment in the first half and expect to deliver an EPS run rate of greater than $10 in the second half. I'll now turn it over to Deon, then Greg for more color on the results and our outlook.

Greg Lovins:

Thanks, Deon, and hello, everybody. In the first quarter, we delivered adjusted earnings per share of $1.70, in line with our expectations despite higher-than-anticipated inventory destocking and down compared to prior year as benefits from productivity and price net of raw material costs were more than offset by lower volume. Sales were down 9%, both ex currency and on an organic basis, driven by mid- to high-teens volume decline, partially offset by higher prices. Adjusted EBITDA margin was 13.6% in the quarter, up 70 basis points compared to Q4 with adjusted EBITDA dollars up 7% sequentially as productivity and positive mix more than offset lower volume. Free cash flow was negative $71 million in the quarter and in line with our expectations. Free cash flow in the first quarter is seasonally our lowest quarter, often negative, driven primarily by the timing of customer rebates and employee incentive payments. Additionally, we have higher inventories in certain areas across the Company, partially related to strategic inventory builds in components such as RFID chips, and in components in which we experienced supply disruptions over the last couple of years. For the latter, we are focusing on driving improvements across the businesses and expect to make good progress as the year unfolds. Our balance sheet remains strong. In March, we issued $400 million of senior notes and are using the net proceeds from the offering to repay the $250 million of notes that were due in April to fund acquisitions and to repay commercial paper. We continue to execute our disciplined capital allocation strategy, including investing in organic growth and acquisitions, while continuing to return cash to shareholders. In the quarter, we returned $112 million to shareholders through the combination of share repurchases and dividends as well as deployed $44 million for M&A. Now shifting to our outlook for 2023. Last quarter, there were a number of key assumptions embedded in our guidance for the year. We expected Q1 results to be comparable to Q4 with label destocking to be largely complete at the end of the first quarter and apparel destocking to be largely complete midyear. We expected cost savings initiatives to ramp throughout the year and Intelligent Labels momentum to accelerate through the year, targeting more than 20% growth with $1 billion in revenue, with all of this culminating into a more than $10 second half earnings per share run rate. Now, we are keeping to all of these assumptions, except for the timing of label destocking, which, as Mitch and Deon noted, we now expect to continue into the second quarter as inventory levels in this channel were higher than we anticipated. In Q2, we now expect adjusted EPS to improve roughly $0.30 to $0.40 sequentially from Q1 as our destocking begins to moderate and underlying momentum in the business builds. Following Q2, we continue to expect a strong second half of the year with an adjusted EPS run rate of more than $10 annualized. We expect downstream inventories will largely normalize, cost savings initiatives will be ramping and growth in Intelligent Labels will be accelerating. For these reasons, we continue to expect significant earnings growth in the back half and see a strong trajectory as we exit 2023. For 2023, overall, we now anticipate adjusted earnings per share to be in the range of $8.85 to $9.20. We have outlined additional key contributing factors to this guidance on slide 11 of our supplemental presentation materials. One item to note, as part of our productivity initiatives, we have increased our outlook for restructuring costs by roughly $0.20, in savings by $0.05, including some newer initiatives that will only begin generating benefits late this year. In summary, despite the near-term challenges, we remain confident in our ability to continue to deliver exceptional value through our strategies for long-term profitable growth and disciplined capital allocation. Now, we'll open up the call for your questions.

Ghansham Panjabi:

Hey, guys. Good day. Would you be able to give us volumes by month in the first quarter and thus far in what you're seeing in April? I'm just trying to get a sense as to how the trend line has progressed and how that fits in with your confidence as it relates to destocking cycling through by the midpoint of this year.

Operator:

And our next question comes from the line of John McNulty with BMO Capital Markets.

Deon Stander:

Yes. John, our updated market intelligence now points to there being -- inventory being much deeper in both our direct and customers that we’d first anticipated. Actually, I met with a number of our European customers more recently and the general feedback from them was that they anticipate inventories, both themselves and direct customers to be reduced midyear. Of course, this is a sample size of our total customer base. And so these inventory levels range across the world and by geography, but the general updated feedback we're getting is that volume reductions are in line to happen midyear. I think the second data point, John, that I could point to is the slight increase in our run rate of orders as we are into April relative to where it was from March as well.

Operator:

And our next question comes from the line of George Staphos with Bank of America.

Deon Stander:

Thanks, George. Let me address the first question. I'll get to the second one then. In terms of the apparel industry, we did see inventory destocking start. But if you recall, it was largely with a very small group of retailers in the early part of the year. And then more of the retailers and the brands started to adjust towards the latter part of the year. We've continued to see some of that inventory destocking. And in discussion with our customers, I would say there's a balance of some customers because not all of them at the same place, saying they are still dealing with some leg of the industry. And others seeing thing that they are now getting towards the end of it. But they're also, as I said, factoring in more muted sentiment into their near-term sourcing plans. The only other piece I'd comment on, George, is your question on whether inventory gets held or not. We do see certain types of inventory potentially get held, but the vast majority doesn't. It just typically gets discounted. And that's how they clear through it. It's part of the margin management that they take as customers. As it relates to the second half and your question on our IL confidence, we are confident in the $1 billion for this year, and that's based on we have a real line of sight to the significant program rollout and adoption that's happening right now and we'll be accelerating quite dramatically as we go through the year. As always, we believe as the market leader we're helping position not only the industry for future success and adding real value to that but we're also setting the standard for how the industry should act and expect -- what should be expected from our customers as we solve some of these problems. And as always, there is competition out there. But we believe as the market leader, we continue to set the pace for what is expected.

Operator:

And our next question comes from the line of Anthony Pettinari with Citigroup.

Greg Lovins:

Yes. Thanks, Anthony. So in the first quarter, year-over-year, that's -- last year in we're still in a little bit of hold, still catching up on overall price inflation dynamics from the year or so before that. So this year, as I said earlier, part of our improvement year-over-year, offsetting some of the volume decline year-over-year is a net benefit on price inflation. When we look at dynamics, though, as we've been moving across the last couple of quarters, I would say, Q4 to Q1, relatively small movements in terms of pricing coming up a little bit from some actions we had announced back in Q4 and a little bit of material movement but pretty immaterial from Q4 to Q1, with a little bit of chemical and film deflation offset by a bit of paper inflation. So not a big change from the fourth quarter to the first quarter. As we look Q1 to Q2, we see a little bit of movement, maybe a little bit of movement downward in materials from Q1 to Q2, but again, not too significant of an adjustment from the first quarter to the second quarter. So overall, we're continuing to manage our net price inflation as we always have, and we're continuing to monitor how the materials go, and that will be an impact on how our pricing goes throughout the year as well.

Jeff Zekauskas:

Normally, your payables go up, I don't know, $100 million from the fourth quarter to the first. And this year, they're going down by $100 million. Can you reflect on that? And is the logical conclusion to be drawn that the working capital burden may be a couple of hundred million this year because your payables will be lower than they were last year by the end of the year?

Operator:

And our next question comes from the line of Josh Spector with UBS Securities, LLC.

Deon Stander:

Josh, yes, we do expect non-apparel growth to be higher than 50% as we go through the year, reflecting the ramp-up of those programs. And as I mentioned, it's not just the logistics program. There's also the programs we talked about in general retail where large discount retailers rolling out additional categories, and we're also expecting the rollout of the work we're doing with Inditex at Zara to continue through the second half of the year. In terms of carryover, as many of these programs roll out, they do have a degree of carryover impact. But typically, what we see in the industries that we serve, there are always new programs being phased in and adopted. And so the overall carryover rate tends to get diluted because there are always new programs that come around whether they be new customers, new use case extension or even new segments such as food, industrial and logistics, et cetera.

Mike Roxland:

You've been guiding Intelligent Labels organic growth of 20-plus-percent and it seems like it's a forecast for the next several years. Some of the chip growth [indiscernible] the guys -- chip manufacturer, I should say, seem to be growing at around 50% and given some of their commentary recently signing logistics, foods or other verticals. So, I'm just wondering how you reconcile discrepancy between the outlook for 20% versus what some of the chip producers are forecasting. And then, just one additional quick one. Given that NXP or some other chip producers are looking to break into RFID Intelligent Labels, could there be any benefit to you guys from procuring more chips from other -- by diversifying your supply a bit, in other words? Thank you.

Mitch Butier:

Yes. Mike, just to build on that a little bit. It's hard to tell exactly what you're comping to specifically, but the 20% plus as Deon said is something we expect over the coming few years. If you then -- you're comping, I think, the non-apparel categories, which are obviously growing faster than that did in Q1, and we expect that to ramp in the coming quarters. So, that's one factor. The other is if you're looking upstream from us, chip manufacturers are not just serving the consumables, which we do, but also the hardware. And when a whole new category start adopting, there's obviously a lot of hardware installation and so forth with the chip manufacturers will also be servicing. So depending on what you're looking at, that's one angle overall. And then, the other aspect, just as we often get questions about broad inflation in commodities, how does it link to our direct inflation or deflation on the material side within the Intelligent Label side. We are buying very specific chips on older nodes. And so, themes that you might hear what's going on, on general chip capacity and so forth aren't always a direct correlation for the specific aspects that we buy.

Christopher Kapsch:

So, in the Materials segment, I'm curious if you could distinguish with respect to the excess channel inventories that manifested. Was this a function more of the inflationary cycle and the raw material costs, or is it really now a function of just the downstream customers having built inventory that's just simply ahead of demand that's not as robust as it was, if you have any feel for that? And then, the reason I'm asking is historically, you've talked about your fragmented converter base is not really having much willingness or maybe even much physical capacity for -- to carry much roll stock inventory. In fact, that was one of your competitive -- is one of your competitive advantages to sell to converters with just-in-time responsiveness. But with some of the negativity being expressed in the stock and valuation, it just seems like the magnitude of the destock that we're now witnessing wasn't really thought as a fundamental possibility. So, is there something structurally that's changed? Just trying to reconcile the different narratives. Thank you.

Operator:

And I have a follow-up question from the line of John McNulty with BMO Capital Markets.

Greg Lovins:

Yes, John. So on your first question, certainly, the destocking and volume declines that we've seen in materials. And I think Deon mentioned, it's in the low 20% to high 20% range in both North America, Europe has an impact on fixed cost absorption. But really, you see that already in our fourth quarter and our Q1 margins. And what the teams have done there is really drive a significant amount of productivity that includes some short-term volume-related cost reductions as well as some belt tightening and then ramping up some structural actions to help offset that. And that's why we saw our margins improve quite a bit sequentially in the materials business from Q4 to Q1. So, I would say the biggest part of that absorption challenge has already been in the fourth quarter and the first quarter, and we'll start to see that improve as the volumes improve as we get to the middle of the year. So I think that's how I think about that. And our team has done a great job driving productivity to offset already.

Operator:

And I have another follow-up question from the line of George Staphos with Bank of America.

Greg Lovins:

Yes, George. So overall, as you said, we've increased our cost expectation about $0.20, and our savings about a nickel. The reason that cost savings is -- or the cost side of that has gone up a little bit more is we are driving, of course, a number of incremental projects including some site optimizations across the businesses. And some of that we're still working through, and we expect that savings to kick in, in late 2023 and give us some carryover in 2024. On those specific projects, again, I would expect the incremental cost would be largely offset by the kind of annualized run rate of the benefits that we get from those newer projects. So, that's the way I would think about that. Our overall restructuring initiative isn't just to offset the destocking. I think the destocking is offset by a combination of the restructuring and structural changes as well as the temporary actions that I talked about a minute ago, whether that's volume-based cost reductions, belt tightening, all the type of things that we executed back in 2020 as well. That playbook we've been executing over the last couple of quarters, and that's been helping us to offset the volume challenges.

Jeff Zekauskas:

A two-part question. In the light of the inventory destock that you're experiencing, the sharp destock, are you rethinking your historical rates of volume growth in your businesses? That is whether in retrospect they were overstated because of the conditions having to do either with the pandemic or with difficulties in logistics? And does that change your view about how much capacity you might need in the future? And then secondly, obviously, UPS is the one that's really moving into the intelligent label area. When you look at the different providers of logistics services, whether the post office or FedEx or someone else, are companies like UPS unique, or are the kinds of things that that company needs more representative of what the logistics industry needs generally?

Mitch Butier:

Yes, Jeff. And as far as your first question, I think there's two underlying questions on what is our underlying assumption and thinking around the end markets and end demand; and then two, what are the implications around capital allocation. So first off, we continue to see, and we spend a lot of time on this around our end markets continue to grow GDP+ and that's just the continued drive all the factors we've been talking about over the years around the megatrends that support all of that. And if you look at where we were in the pandemic, we had got basically a pandemic bump. And when we look at it in retrospect, there were two factors. We knew there was a bit of inventory build in 2021 that we know accelerated in the first part of 2022, and there was increased consumption, particularly related to pandemic. As we look back, particularly in 2021, a bit more of that was inventory build than the end consumption bump from COVID. So that definitely -- our outlook from that period pivoted. But as far as the trajectory over the cycle with what we're seeing on underlying demand, those still remain strong. Now with that pandemic bump, we definitely spent more capital to make sure we had sufficient capacity and to add the resiliency given some of the supply chain constraints. And so, we are reducing the amount of capital allocated to the base materials business. We had a number of programs in flight for this year that are still going through. So, we pared it back a bit this year. But if you look at the coming couple of years, we've got sufficient capacity for the markets growth in the coming years. So overall, healthy GDP+ markets. We continue to expect to grow faster in those markets as we continue to leverage our innovation strength. That's materials, obviously as well as solutions and capital allocation, a bit paring back in materials for a couple of years, that's a near-term adjustment while we'll continue to lean forward in capital allocations, particularly around the Intelligent Labels.

George Staphos:

Two questions. First of all, as we think about the maintenance of the $10 plus of annualized earnings per share guidance for the back half of the year. Mitch, Deon, Greg, what kind of macro environment, what kind of volume assumption, realizing this is a very simplistic question, should invest or should analysts be thinking is underwriting that kind of earnings growth? We already know that you're done with destocking in your forecast relative to that guidance. So what kind of world do we need to be in? What kind of volumes do you need to be putting up to be getting that type of earnings? And then, you've probably talked to this before. But to the extent that you have these new programs and new outlets for Intelligent Labels and the growth that you said you're going to get this year, the back half of the year, recognizing we're not going to be able to see this from the financials as you present them per se, it's not a segment, should we be assuming that the incremental margin -- excuse me, the margin that you're getting on those programs is equivalent to your existing Intelligent Label programs? Thanks and good luck in the quarter.

Deon Stander:

And George, to your second question, we're going to continue to see for these new programs above segment average margins as we've seen historically for our rather IL programs as well. And this is while we will continue to lean forward in investing to ensure that we continue to drive forward all of these new verticals as well as the market leader.

Mitch Butier:

All right. Well, thank you, everybody, for joining the call today. Clearly a challenging start to the year, but we are as confident as ever in our ability to consistently execute to deliver superior value for all of our stakeholders, clearly, including our investors. Thank you very much.

Operator:

Ladies and gentlemen, thank you for standing by. During the presentation, all participants will be in a listen-only mode. Afterwards, we'll conduct a question-and-answer session. [Operator Instructions] Welcome to Avery Dennison's Earnings Conference Call for the Fourth Quarter and Full Year ended on December 31, 2022. This call is being recorded and will be available for replay from 4:00 PM Eastern Time today through midnight Eastern Time, February 05. To access the replay, please dial (800) 633-8284 or 1 (402) 977-9140 for international callers. The conference ID number is 2202-0690. I would now like to turn the conference over to John Eble, Avery Dennison's Head of Investor Relations. Please go ahead.

Mitch Butier:

Thanks, John, and good day, everyone. We posted impressive results in 2022 in the face of an extremely challenging environment. We delivered another year of double-digit EPS growth on a constant currency basis. EPS is up 40% from 2019 levels, reflecting our consistent ability to deliver year-over-year earnings growth, despite concurrent and compounding challenges. Both our Materials Group and Solutions Group delivered solid top and bottom line results last year, while driving further acceleration in the pace of Intelligent Labels adoption. As you can see, we have changed our operating segments. We combined LGM and IHM to create the Materials group. Over the past few years, we've been leveraging more and more of the operational capabilities and technologies across LGM and IHM to enhance our ability to win in each business's respective marketplace. The combination of these two businesses is the next evolutionary step of this strategy. As for RBIS, we renamed the segment the Solutions Group to better reflect the increasingly broader reach and ambitions of our solutions beyond Retail. Deon will provide color on segment performance in a moment. Both businesses delivered impressive results in 2022, especially considering the significant macro headwinds we faced, including sizable currency movements, pandemic-driven demand challenges in China, the Russian war in Ukraine and, of course, significant inflation and supply chain disruptions. In addition to the unique challenges that the inflation and supply chain disruptions presented, this also caused an increase in demand volatility throughout the year. The high inventory levels downstream from us, which we called out at the start of the year, were built further midyear. Then as supply chain constraints began to ease and raw material inflation showed signs of moderating, inventories were reduced swiftly beginning in November. This trend continued into December and January. Now while we anticipated the inventory buildup downstream from us to unwind at some point, the pace and magnitude of reductions was faster and greater than we expected and then we have seen in past corrections. Overall, while this put significant pressure on our financial results in Q4 and now in Q1 of this year, we see the reduction of excess inventory is a good thing as it positions our industries and business to return to a more normalized growth trajectory beginning in Q2. That said, such a sudden decline in volume is indicative of patterns of previous macro slowdowns. We have been activating countermeasures accordingly. We have initiated temporary cost reduction actions, ramping up restructuring initiatives and paring back capital investments in our base business -- base businesses while protecting investments in our high-growth initiatives, particularly Intelligent Labels, both organically and through M&A. Despite a challenging macro environment, we are targeting mid- to single-digit EPS growth in 2023, reflecting a soft Q1 driven by inventory corrections, followed by a second half run rate for EPS of more than $10. Our strong track record over the long term reflects the strength of our markets, our industry-leading positions, the strategic foundations we've laid and our agile and talented team. Our playbook is working extremely well as we continue to focus on five overarching strategic pillars

Greg Lovins:

Thanks, Deon. Hello, everybody. I'll first provide some additional color on our results and our performance against our long-term targets and then walk you through our 2023 outlook. In the fourth quarter, we delivered adjusted earnings per share of $1.65, down 14% ex currency compared to prior year, driven by a low double-digit volume decline due primarily to inventory destocking. For the full year, we delivered adjusted earnings per share of $9.15, up 11% ex currency, with organic sales growth of 10% as pricing offset a low single-digit volume decline. Our full year adjusted earnings per share was in line with the midpoint of our original guidance from the beginning of the year, adjusted for currency translation. For the year, we generated $667 million of free cash flow, and we invested $300 million on fixed capital and IT projects as we continue to accelerate investments in Intelligent Labels. Free cash flow conversion in 2022 was lower than we targeted, including higher-than-anticipated working capital driven largely by inventory. The high inventory levels include some strategic inventory builds in areas such as RFID chips. In addition, we still have some inventory we are working to optimize given all the supply chain disruptions throughout the year. We're clearly focused on this and expect to make strong progress as the year progresses. Despite this challenge, our average free cash flow conversion over the past three years has been roughly 100% of GAAP net income, and we expect this to continue in 2023. Our balance sheet remains strong with a net debt to adjusted EBITDA ratio at year-end of 2.2x. Our current leverage position gives us ample capacity to continue investing organically as well as through strategic acquisitions while continuing to return cash to shareholders in a disciplined way. During the year, we returned $618 million to shareholders through the combination of share repurchases and a growing dividend as well as deployed $40 million for M&A. Turning to our long-term targets. Slide 9 of our supplemental presentation materials provides an update on our progress against the long-term financial targets that we communicated in 2021. Recall, this represents our fourth set of long-term goals after meeting or beating our previous three sets. The consistent execution of our key strategies enables us to continue delivering against our targets with an overriding focus on delivering GDP-plus growth and top quartile return on capital over the long term. Through the first two years of the cycle, sales growth on a constant currency basis was 16% annually, well above our target and GDP, driven by strong volume growth, higher pricing and M&A. Adjusted EBITDA dollars have grown 28% compared to 2020, with adjusted EBITDA margin of 15.1% in 2022. As always, our focus will continue to be the optimal balance of growth, margins and capital efficiency to drive incremental EVA over the long term. We remain confident in achieving our 2025 margin target of 16% plus as part of that EVA equation. Adjusted earnings per share grew 13.5% annually over the past two years, surpassing our target of 10%. And our return on capital was 17.4% in 2022 and in the top quartile relative to our capital market peers. Given the diversity of our end markets, our strong competitive advantages and resilience as an organization to adjust course when needed, we're confident in our ability to continue delivering against these targets through a wide range of business cycles. Now shifting to our outlook for 2023; as Mitch and Deon commented on, we are starting out the year in a challenging volume environment as we continue to see destocking in the first quarter in both the Label materials and Apparel businesses. We have been activating countermeasures and are confident in our ability to grow earnings for the year through a variety of environments. As we look at how we expect that to play out across the year, given the continued destocking, we expect the first quarter to be comparable to Q4 of 2022, which was $1.65 in adjusted earnings per share. Following Q1, we expect to see a strong rebound beginning in Q2 and moving through the back half of the year, with a second half earnings run rate of more than $10 annualized. In the second half, we expect downstream inventories will normalized, China to be rebounding and our growth in Intelligent Labels will build as we move through the year as the new programs roll out in areas such as logistics. For these reasons, we expect significant earnings growth in the back half and also see a very strong trajectory as we exit 2023. For 2023 overall, we anticipate adjusted earnings per share to be in the range of $9.15 to $9.55. To highlight the key drivers of the high end of our 2023 EPS guidance compared to prior year, we anticipate roughly 5% organic sales growth, with the majority from higher prices. We estimate restructuring savings net of transition costs of roughly $0.40 and another roughly $0.30 from temporary cost reduction actions. And we expect strategic growth investments of roughly $0.25, and we estimate net nonoperational items, headwinds from interest, currency and tax and a benefit from share count to be roughly $0.25 net headwind. In summary, through this dynamic environment, we're pleased with the strategic and financial progress we made against our long-term goals in 2022. Despite the near-term challenges, we remain confident in our ability to continue to deliver exceptional value through our strategies for long-term profitable growth and disciplined capital allocation. Now we'll open up the call for your questions.

Ghansham Panjabi:

Can you just give us yes -- can you just sort of elaborate on your view that the near term is largely inventory destocking versus something more broader in terms of recession? I mean you yourself are enacting a recession scenario plan. How do you -- what gives you confidence that this is purely more or less inventory destocking versus something more broader than that?

Mitch Butier:

And Ghansham, just to build on that. It's also what we're hearing from the marketplace, our customers are talking about the fact that they had built inventory throughout the year leading up to Q4 as well as the end customers, CPG firms and so forth and the same thing on the Apparel side. So it's market Intel. It's comparing -- we have pretty clear links between our product consumption and demand relative to consumption of nondurable consumer goods, for example, and they definitely have disconnected to the negative. They were a bit positive early in 2022, even the end of '21, which is why we called out that we thought there was some excess inventory in the system at the time, and that continued throughout the year. And then it's unwinding just at a much quicker pace than we traditionally see. So there's a number of vectors we're looking at triangulate it gives us a lot of confidence. This is a majority of inventory correction. That said, we do expect and consumption to moderate a bit. You're already seeing it in Apparel with a weak holiday season. And as far as you're looking at the GDP outlooks for at least Europe and North America, they're modest to a slight recession.

Adam Josephson:

Mitch, just one last one along similar lines to Ghansham's question, which is, if you're anticipating conditions to get more or less back to normal in the second half, why they need to activate this recession scenario, if it's just a 2-quarter blip? And what exactly does that entail for you because if the economy gets back to normal in second half, will you still need to do that recession activation, if you will?

Operator:

Our next question comes from George Staphos with BofA Securities.

Deon Stander:

Thanks, George. We don't believe that in 2022, our volumes were impacted by any part of chip shortages because, as the market leader, we had secured enough chip supply to ensure that we could deliver to all of our customers' expectations. Clearly, from a margin perspective, we maintained margins. There was some degree of chip inflation, and we've dealt with that through productivity, as we always do. And as we look forward, the logistics is certainly going to be a big part of the second half of our growth during 2023. But I will emphasize that Apparel will still be the largest part of our business and will be growing during 2023 as well, George.

John McNulty:

When you look at the severity of the destocking, particularly in the LGM segment, I mean, we've seen some data out there that kind of shows year-over-year 20%, 25% decline. I mean, certainly worse than we even saw in the financial crisis. I guess, can you explain how that's happening or why that's necessarily happening? And are we putting ourselves in a position now, given that it's so much worse than GDP in terms of the production levels, that there may actually be a restock where maybe people have cut even too deeply, just trying to focus on cash generation or what have you? I guess, can you help us to understand that a little bit?.

Operator:

Our next question comes from Anthony Pettinari with Citigroup.

Greg Lovins:

Yes. Thanks, Bryan. So on the inflation question, I think sequentially from Q3 to Q4, overall net price inflation was a relatively immaterial impact. We had a little bit of sequential price Q3 to Q4 from some of the actions we've been taking as we move through the back half and a little bit of sequential inflation. I think I talked about last quarter, we expected a little bit of sequential impact from paper. At the same time, we had some sequential benefit from the films and chemicals, a bit of deflation there. So, as you look into 2023, sequentially, we don't see a lot of change there. Still a little bit of pressure on specialty papers, just given capacity and what's happening in the marketplace there from a specialty paper perspective and maybe a little bit of sequential benefit in films and chemicals just like we had in Q4. When we look at overall price inflation, we have a carryover benefit of price, carryover impact of raw material inflation. We also have a bit at or above historical levels of wage inflation. We've got some utility inflation where we had a little bit of a benefit last year from prices we had locked in for part of last year as well. So we look across that whole basket of raw materials, wage inflation, utility inflation. We expect roughly neutral impact year-over-year from that perspective, all those things included.

Operator:

Our next question comes from Mike Roxland with Truist Securities.

Deon Stander:

Yes, Mike. In answer to your first question, it was the latter. We see during times when things are more difficult for brands, retailers and customers that they look to improve their automation efficiency. And this technology that we have really plays into the heart. It reduces cost, labor -- improves labor efficiency, provides visibility throughout the supply chain. So we see that as an accelerant and not a barrier to adoption of our Intelligent Labels platform. As it relates to China, clearly, we saw in 2022, the impact of the COVID policy playing out in the country. And what we saw, as I said in the fourth quarter was that China was down low single digits. That trajectory started to change. We believe that post the COVID change, we see China returning to its normal or slightly above GDP growth said. And we see that as part of our ongoing second half growth that both Mitch and Greg have called out as well.

Jeffrey Zekauskas:

For the nine months, your Intelligent Labels were up 20% year-to-date, and they're up 15% for the year. So that means in the fourth quarter, they grew 0. And you're expecting the first quarter to be like the fourth quarter. So can you talk about what happened in growth in Intelligent Labels in the quarter? Is it likely to be similar in the first quarter?

Greg Lovins:

Yes, Jeff, on the raw material side, we're up for the year in 2022, a little more than 20%. And in Q4, that would be kind of mid- to high teens rate versus prior year. So overall, for the full year, over 20%. And last year, in the fourth quarter of 2021, we still had a net headwind between price inflation than is adjusted as we look Q4 versus prior year.

Josh Spector:

Just a couple of follow-ups, if I could. With depth the destocking that you're seeing in the base labels, has there been any change in pricing in terms of competitive dynamics in that market? And then on the RFID side, you talked about chip availability last year. Do you have availability or secured your needs for what you expect to happen in later this year? And are chips inflationary or deflationary for your cost stack over the next 12 months?

Josh Spector:

Question on is destocking was having any impact on competitive pricing dynamics within the base label business?

Operator:

Our next question comes from George Staphos with BofA Securities.

Mitch Butier:

Thanks, George. Yes, so I'll start off. So as far as what our customers are saying around inventory levels, a couple of things. One, as you know, we have many customers, particularly on the material side. And so there's a lot of anecdotes, but we were hearing definitely a range of two to four weeks of excess inventory. So there was quite a bit of build overall. And on the Apparel side, the end customers not -- I mean, you've heard -- you can read all the headlines of what they're talking through, but they definitely have quite a bit of extra inventory and even entire containers full that they were -- said they're just waiting for the next season to unload at the next season. So quite a bit of inventory, which is that's what our customers are telling us and what we're all seeing in the headlines, and I think what we all know on the Apparel side. If you look at the actual hard data of inventory levels within Apparel, it's actually dropped down a bit from where it was pre-pandemic. So a little bit of a disconnect between what the data says and what we're hearing anecdotally, but we definitely ourselves know that there's excess inventory there. As far as logistics, I think your question is with the growth and the opportunity we see, how big can logistics be specifically can it be $1 billion by 2030. Deon, do you want to take that one as well as a follow-up?

George Staphos:

2030.

Mitch Butier:

Yes, the position -- performance and outlook are ahead of our acquisition case.

Mitch Butier:

All right. Well, thanks, everybody, for joining us today. As you've heard throughout the call, we remain confident that the consistent execution of our strategies will enable us to continue to meet our long-term goals for superior value creation for all of our stakeholders. Thank you all.

Operator:

Greetings. Thank you for standing by. Welcome to Avery Dennison's Earnings Conference Call for the Third Quarter Ended on October 1, 2022. This call is being recorded and will be available for replay from 4:00 p.m. Eastern Time today through midnight Eastern Time, October 29. To access the replay, please dial 800-633-8284 or +1 402-977-9140 FOR international callers. The conference ID number is 21997967. I'd now like to turn the call over to John Eble, Avery Dennison's Head of Investor Relations. Please go ahead.

Mitch Butier :

Thanks, John, and good day, everyone. We delivered another strong quarter with revenue up 19% and EPS of $2.46 and up 26% ex currency and in line with expectations. We had strong performance across the company. LGM and RBIS, both delivered impressive top and bottom line growth. Our strong results come amidst a dynamic environment. Inflation continues, we're raising prices accordingly, and now we see signs of softening demand. The higher inventory levels downstream from us that we called out at the start of the year have begun to finally reduce. Despite these challenges, and an incremental $0.10 currency headwind, we remain on track to deliver EPS growth of 10% for the year, 18% ex currency. Our ability to consistently deliver impressive financial results rests both on the team's depth ability to execute amidst compounding crises and the strategic foundations we have laid. As you know, a key element of our strategy has been our focus on accelerating the adoption of Intelligent Labels. Enterprise-wide Intelligent Labels revenue was up 20%. And as you heard us mention a quarter ago, momentum in this business is accelerating. We are now targeting more than 20% growth annually in the coming years, with promising developments in logistics, which is expanding from targeted applications such as special package handling to broad-based use cases in food, where we are seeing promising pilots in grocery and QSR, and in general retail, where the technology is being expanded beyond apparel. The benefits of our Intelligent Labels technologies and solutions are clear. The increased supply chain and inventory visibility, lower cost and improved speed of operations reduce waste and ultimately enhance the experience of end consumers. We believe the current macro environment will serve to further heighten the value of our tech and solutions here. As the global leader in RFID, we have and will continue to strategically invest to not only capture Intelligent Label opportunities, but create them. Our strategies continue to pay off. Now a quick update on the quarter by business. Label and Graphic Materials posted strong top line growth driven by higher pricing and low single-digit volume growth. The supply chain constraints we discussed last quarter eased in Europe, enabling us to normalize lead times, whereas, in North America, material availability challenges remained, particularly in paper. Overall, volumes remained strong across LGM, up 4% annually versus 2019. LGM's profitability remained strong in the quarter, with double-digit operating income growth. Retail Branding and Information Solutions delivered another quarter of strong margins and revenue growth. Robust growth in high-value categories, Intelligent Labels, external embellishments and Vestcom was partially offset by a low single-digit decline in the base apparel business. Following several strong quarters, apparel volumes moderated as some brands and retailers brought down inventories that were built up previously. While our outlook assumes further reductions will take place in the near term, we are well positioned to continue to drive profitable growth in the base. As for Industrial and Healthcare Materials, the segment delivered strong sales growth in the quarter and improved margins compared to prior year and sequentially as we continue to implement pricing actions to cover inflation. Across the company, I'm pleased with the continued progress we are making towards the success of all our stakeholders. Our consistent performance reflects the strength of our markets, our industry-leading positions, the strategic foundations we've laid and our agile and talented team. We remain confident that the strategies we formulated will continue to enable us to generate superior value creation through a balance of GDP plus growth and top quartile returns over the long run. And, once again, I want to thank our entire team for continuing to raise their game to address the unique challenges at hand and deliver value for all of our stakeholders. Over to you, Greg.

Operator:

[Operator Instructions] We have a question from Ghansham Panjabi with Robert W. Baird & Company.

Mitch Butier:

Yes. Thanks, Ghansham. So very high level. We don't know exactly where we are in that. There's not a lot of great data about where inventory levels are outside of the large retailers in the apparel sector. So when we entered the year, we said that we thought that we had an elevated level of inventories downstream from us. It seems like it's starting to clear out. If you look within RBIS and apparel, the value channel, so the large discounters seem to be ahead of others as far as reducing that, and that's been impacting us in Q2 and Q3. And then as we look at the other large retailers in athletic -- performance athletic companies and so forth, I think they're still in the midst of that right now. So our guidance assumes that, that continues going into Q4. As for LPM where it is, we think that Europe has had a very strong Q3 and -- as the supply chains eased up there. So we expect our guidance has some softening of that here in Q4. And for North America, though, given the supply chain constraints, there's some inventory in the system, but it doesn't seem as much as maybe you would otherwise think.

Anthony Pettinari:

Just following up on Ghansham's question. Can you talk about maybe the level of organic volume growth that you're expecting for LGM or what level could be embedded in the view for and maybe some of the regional differences? I think earlier in the year, there was an expectation for volume growth to kind of accelerate in the second half. I'm just wondering how the cadence from 3Q to 4Q is sort of shaping up?

Operator:

Our next question is from John McNulty with BMO Capital Markets.

Deon Stander :

John, this is Deon, again. You're right. We originally said that what we're seeing in logistics in the early pilot stages was very much around how they would manage special packaging, as an example, hazardous materials. What we're now seeing is an increased focus on routing optimization and the efficiency that, that will bring. And we expect that, that will continue to scale from pilot to adoption. And as more of the logistics players get involved as they see the benefits that these two, both individual identification, package identification management as well as routing optimization come to bear in the market.

Operator:

Our next question is from Jeffrey Zekauskas with JPMorgan Securities.

Greg Lovins :

Yes. Thanks, Jeff, for the question. So as I said, we saw some sequential inflation Q2 to Q3. That included a bit of slight deflation on the chemicals and film side, just as you said, petrochemical inputs starting to come down. And we expect a bit more favorability on those from Q3 to Q4. So the increases we've been seeing here in the back half are really largely paper-driven, with much of that also coming in Europe, really driven by what you've seen as -- just as you said, energy costs are up. They've started to come down for now. Depending on how you look at those projections, some expectation, depending on how the winter goes those could come back up. So they've come down recently, very recently, not sure how that will continue to play out. So our approach has been continuing to manage that through both pricing and productivity. So we did have sequential price benefit Q2 to Q3, continuing to increase prices here as we move through the back quarter as well. So we'd expect more price in Q3 to Q4. So overall, we continue to see generally inflationary pressure driven by paper, with some relief on the petrochemical side. At the same time, we do see -- even though utility costs or energy costs have come down a little bit now, still a bit of a headwind as you move into next year for suppliers as well as our own operations. Not a big impact for own operations, but bigger for our supply base as well as just continued inflationary pressures in areas like wages that are a bit higher than what we normally would have seen from an inflation perspective. So kind of a broad set of inflationary pressure still, we think, and we've continued to increase prices to manage that.

George Staphos :

Thanks for the details. I want to come back to the question on IL and adoption. So you're obviously optimistic on the outlook. You're calling for 20% or better growth, more than 20% growth looking out into the future. How do you think that evolves or varies if we are in a bit of a downturn in next year, partly, as I would imagine some of your target customers return profiles on adoption in a trial might come down early on if there's less traffic to track through IL? How should we expect that? Do you expect to see better than 20% growth next year?

Deon Stander :

And George, I’d also -- this is Deon. I'd also add that as it relates to the various sub-segments, while apparel has had significant growth, we continue to see great growth prospects as we move forward, not least because we're going to see new customers come on board, expansion in additional categories and expansion in new use cases such as loss prevention during next year. And then if you look in food and logistics, both these segments are much, much larger than apparel overall, and we're just starting to see the adoption profile there as specifically some of the solutions they're bringing are starting to resonate. As an example, in grocery, the pilot we've run has really helped to drive significant initial results around store labor efficiency and freshness visibility across the supply chain. And we remain confident in the outlook. We continue to invest both in innovation capability and capacity. We believe this business will be a $1 billion business in 2023.

Joshua Spector :

Just curious if you could comment on the backlogs in LGM by the regions, or I guess to the extent that there is a backlog existing given the growth you saw in Europe? So just curious how the length there changed? And have you seen any change in pricing behavior from the competitors as their material availability improves as well?

Operator:

We have a question from Adam Josephson with KeyBanc Capital Markets.

Deon Stander :

Well, Adam, as I said, I think there's two elements at play here. One is that as supply chain constraints abate, we've tended to see some of the risks disappear, and our converting customers are starting to normalize their inventories that they have, which then has an impact on some of our order patterns as we've gone through October. It's not necessarily region specific. It's more pronounced initially in Europe because this is where we've seen the biggest moderation in the supply chain volatility that we had, and we've seen more normalized order -- some normalized lead times as we've gone to market during October.

Greg Lovins :

If I could just clarify one other point, I think at a company level, and Mitch already talked about this a little bit, but the bigger inventory drawdown is most likely on the apparel side. So Deon talked a little bit about LGM, where we're seeing more of that, of course, as we talked about already is more on the apparel piece of the business.

Michael Roxland :

Congrats on the quarter. Last quarter, your company benefit from portfolio shifts in RBIS. You called that out with high-value segments comprising about 50% or so, resulting in less exposure, obviously, because you noted to the value channel excuse me, can you talk about plans to further increase the portfolio to higher value categories and to minimize your exposure to this value channel?

Operator:

And we have a question from George Staphos with BofA Securities.

Greg Lovins :

Yes. Thanks, George. So as you said, currency, right now, if rates stay where they are now for next year, we'd have about a $0.50 headwind. If debt levels kind of stayed around the level they are now, we would see probably $0.05 to $0.10 headwind as well just from the increase in interest costs as we head into next year. So those are a couple of specifics looking at next year. I think year-over-year, we have a number of things like we talked about IL continue to grow, Mitch mentioned that a few minutes ago as well is a key growth driver for us, of course. So a number of ins and outs as we look at next year and the uncertainty of the macro, but specifically, $0.05 to $0.10, we would think interest headwind at current debt levels.

Operator:

We have a question from Chris Kapsch with Loop Capital Markets.

Greg Lovins :

Yes, Chris. So a couple of things there. So of course, we've gone through a lot of things we've managed through the last couple of years. One is the unprecedented inflation, but also supply chain challenges at the same time. And I think our teams have proven the resilience and have been able to manage through a number of those challenges like that and feeling well prepared for any type of downturn that we may see next year. I think when you back up and look at LGM, from a margin percentage perspective, certainly, the margin percent has been impacted just by the magnitude of pricing we've been putting in. We said it's roughly 20% here in the third quarter versus last year, on top of pricing we were putting in last year. So just the math on the margins has led to a margin percentage impact there. But when you look overall at LGM, I think you heard Mitch and Dean both say about a 4% compound growth rate from 2019 to this year from a volume perspective. At the same time, if you look at LGM EBITDA dollars, they're up in the 9% to 10% range, compound growth range when we look over that period. So that business has done a tremendous job really driving strong EBITDA growth over the last many years despite the impacts on margin percentage from the pricing math. And we know and we've talked about before that in LGM, we've got strong capital efficiency there, strong margins, strong growth opportunities, and that business generates significant EVA, and we expect to be able to continue delivering significant EVA into the future there.

John McNulty :

Just one, I guess, area of clarification around the raw materials and your outlook. So if I understood right, it sounds like petchems are starting to come down, may come down more. The paper supply chain issues seem to be improving, but you guys are actually guiding to raw materials up sequentially. Do I have all that right? Is that right? And is there something in terms of the timing of when you might see raw material relief that it lags a bit, and it drags into say, 1Q because it seems like the arrows are pointing favorably and yet your arrow is pointing negatively?

Operator:

And Mr. Butier, there are no further questions at this time. I will now turn the call back to you for any closing remarks.

Operator:

That concludes the call for today. We thank you for your participation and ask that you please disconnect your lines.

Operator:

Greetings, and welcome to the Avery Dennison's earnings conference call for the second quarter ended on July 2, 2022. This call is being recorded and will be available for replay from 3:00 p.m. Eastern time today through midnight Eastern time July 30. To access the replay, please dial 800-633-8284 or +1 402-977-9140 for international callers. The conference ID number is to 21997966. [Operator Instructions]. I would now like to turn the conference over to John Eble, Avery Dennison's Head of Investor Relations. Please go ahead.

Mitchell Butier:

Thanks, John. Good day, everyone. We delivered another record in the second quarter with EPS of $2.64, well above our expectations, and are raising our full year guidance. We now expect earnings of $9.70 to $10 per share for the year, more than 10% above last year and 50% above pre-pandemic levels in 2019. Our ability to consistently deliver impressive financial results rests both on the team's adaptability to execute amidst compounding crises and the strategic foundations we've laid to drive outsized growth in high-value categories, grow profitably in our base businesses, focus relentlessly on productivity, effectively allocate capital and lead in an environmentally and socially responsible manner. A key element of our strategy to drive outsized growth in high-value categories has been our focus on Intelligent Labels. We've invested heavily in this platform and the team, seeding new markets, adding new technological capabilities and expanding capacity. Our strategies continue to pay off and are now accelerating. Looking ahead, we are increasing our growth outlook for this platform to more than 20% through the strategic horizon. This is a tremendous example of our strategies at work. We have refined our strategies over time, raising the bar for ourselves in the process to ensure we continue to deliver superior value creation for all of our stakeholders. Now a quick update on the quarter by business. Label and Graphic Materials posted strong top line growth for the quarter driven by higher pricing. Volumes were down due to supply chain constraints, the lockdowns in China and the impact of exiting Russia that we discussed last quarter. Raw material availability hampered our ability to meet demand. Paper in particular was tight and only began to ease at the end of the quarter, and we anticipate further improvements as we move through Q3. The team is doing a tremendous job leveraging our innovation capabilities to offset a good portion of these constraints. And as discussed last quarter, lockdowns in the Greater Shanghai area impacted our materials business' ability to produce for much of April. And while restrictions eased as anticipated, they have had an impact on output as well as end demand in China. Overall, volumes remained strong across LGM, up 4% annually versus 2019. While this is slightly lower than our pace from a quarter ago for the reasons discussed, we anticipate a bounce back as we move into the second half. LGM's margin was strong in the quarter, expanding versus prior year and sequentially. We have further accelerated pricing actions, reducing the time lag between when we experience inflation and implement pricing. We anticipate further inflation as we move into Q3 on paper inputs and energy costs in particular and are continuing to raise prices accordingly. Retail Branding and Information Solutions delivered another strong quarter with significant margin expansion and revenue growth. Strong revenue growth in high-value categories, Intelligent Labels, external embellishments and the Vestcom acquisition, was partially offset by a decline in the base apparel business. Following a robust Q4 and Q1, base apparel volumes were down low single digits in Q2 as some brands and retailers were bringing down inventories that were built up previously. Our outlook assumes further inventory reductions through the balance of the year. We are well positioned to continue to gain share while driving profitable growth in the base. As I mentioned previously, Intelligent Labels momentum is accelerating. We have a stated target of 15% to 20% annual growth in this business over the strategic horizon. And as you know, we have been delivering at the high end of that target. The growth has largely been driven by apparel. And while we continue to see significant opportunity there, long term, we see even greater opportunity outside of apparel. As the global leader in RFID, we have been strategically investing to not only capture these new opportunities but create them. And as I said earlier, we are increasing our growth outlook for this business and now anticipate more than 20% growth in the coming years. As for the bottom line, RBIS continues to deliver strong EBITDA margins, up more than 2 points compared to prior year as we continue to shift this business towards higher-value solutions. As for Industrial and Healthcare Materials, the segment delivered solid sales growth in the quarter and improved margins roughly 2 points sequentially as we accelerated pricing actions to cover inflation. Across the company, I'm pleased with the continued progress we are making towards the success of all of our stakeholders. Our consistent performance reflects the strength of our markets, our industry-leading positions, the strategic foundations we've laid and our agile and talented team. We remain confident that the strategies we formulate will continue to enable us to generate superior value creation through a balance of GDP plus growth and top-quartile returns over the long run. And once again, I want to thank our entire team for their tireless efforts to keep one another safe while continuing to deliver for our customers during this challenging period. The team continues to raise their game each quarter to address the unique challenges at hand. Thank you. Over to you, Greg.

Mitchell Butier:

Malika?

George Staphos:

I guess my first question to start, broadly on the macro. If you could frame for us what your expectations -- what's in your guidance for further destocking in RBIS and base would look like over the remaining 6 months and relatedly, what your outlook is for emerging markets, particularly China as regards to LGM.

Operator:

Our next question is from the line of Ghansham Panjabi with Robert W. Baird & Co.

Gregory Lovins:

Yes. Thanks, Ghansham. This is Greg. So overall, in Europe, the majority of our growth in LGM in the quarter really across North America and Europe was pricing driven. So Europe is where we've seen the most significant amount of inflation particularly in paper as we've gone through the last couple of quarters. A lot of that's driven by the increase in energy prices that are impacting our paper producers as well. So we'll continue to see the highest level of inflation across the globe in Europe, and that's where we've had the most amount of pricing actions as well as we moved through the last year or so. So that's largely pricing driven. As we look into really volume perspective, both North America and Europe, we talked about volumes being down particularly in paper due to the constraints we had in the second quarter. I think Mitch mentioned earlier in his comments that we started to see the paper supply flow in late Q2 and increasing into July. So we'll expect that to improve sequentially from a volume perspective, Q2 to Q3. Overall, I think your second question was around pricing across the regions. In line with what I just said, most of our growth in Q2 was around pricing, we're continuing to accelerate the pace of our pricing actions and close the gap in terms of the timing of when we see inflation to when pricing actions take place.

Operator:

Our next question is from the line of John McNulty with BMO Capital Markets.

Mitchell Butier:

Yes. So just your first question, yes, we're raising our outlook for this platform to 20% plus over the coming years, beginning next year. And yes, the pipeline is robust. We've been talking about the pipeline. We've been investing in this over the years, food, logistics, general merchandise as well as our strength within apparel. And so we saw momentum building, as we've talked about, particularly during the pandemic in the last couple of years, but it takes a little while for those to completely ramp, one. Two, we mentioned that we'd be hard-pressed to exceed our 20% this year just because of chip supply. So as we look into 2023 and 2024, the chip supply is still going to be constrained, but we've been able to secure additional incremental supply to be able to go above that 20% and let this flow through. So this is -- a key shift that we're seeing is as we go into next year and beyond. The largest contributor of this business, as you know, is apparel. It's about 3/4 of the business. And while the percentage growth outside of apparel has been higher for the last few years, the unit volume growth has been bigger in apparel just given its size. We see that starting to shift next year. The largest unit volume contributors will be the ones outside of apparel next year. Still strong growth in apparel, but it's going to be outside. So that's all the elements we've been working and talking through. If you look at food, QSRs, continue to get great momentum there. If you look at general merchandise, we are having a significant growth in -- on home goods and toys and so forth as retailers see the opportunity to apply the lessons from apparel into other categories. Grocery within food, we are excitingly just starting a new pilot with a large grocery company, and that's really linking. We talked about, when we did the acquisition of Vestcom, the strategic opportunity to leverage their sales channel and data management capabilities to introduce it there. So we've just started a pilot within food. And then logistics, we're seeing a number of opportunities across different companies that we are working through. So strong momentum overall. The pipeline is robust. And what you're seeing is it's starting to realize and come through. That said, yes, we will be 20% plus. But the supply chains remain tight, and that's also feeding into the inflation. And we're passing through the price increases that we need to recover that inflation and it's sticking. So that's overall. If you asked about the profitability, the profitability of this business is above average. That's what we've commented on before. We are -- even with this more significant revenue growth, we will continue to keep investing in this business. So that higher profitability is after the incremental investments we've been making, and we will continue to do so because we see significant opportunities over the long term in this space.

Bryan Burgmeier:

This is actually Bryan Burgmeier sitting in for Anthony. I was just wondering, we're more than halfway through the year now, if it's possible to provide a range for free cash flow guidance. I think in years past, you've been maybe 90% to 100% of net income. Do you think that's a fair range to use this year? And then on the FX headwind that you called out in the slide, is it possible to say how much of that headwind has already happened in the first half and how much you're expecting for the second half?

Operator:

Our next question is from the line of Josh Spector with UBS Securities LLC.

Gregory Lovins:

Yes. So there's a number of factors driving what are strong margins really across the company but in LGM as well in the second quarter. One of those is a strong product mix. Our specialty business was up quite a bit in the quarter. It grew more than 20% in the quarter with volumes up as well. And our bulk paper business was down in the quarter given some of the paper constraints. So we had a strong mix impact in Q2 in particular. We also -- as we've said earlier, we've been accelerating our pricing. We're getting closer and closer to pricing real time with the inflation. And as we're seeing that inflation, Q2 was actually the most significant inflation we've seen since the cycle started a year or so ago. But some of that inflation is sitting in inventory still at the end of the quarter and will come through when we sell that inventory through here in the third quarter. And then there's a number of much smaller onetime-type items in Q2. So I think when we look forward, we'll see a little bit of a mix impact from Q2 to the back half as that base paper volume comes back into play here in the third quarter, and we see also a sequential inflation increase. We've talked earlier about paper continuing to be a headwind for us with paper increasing particularly in Europe but also in North America. So overall, some near-term impacts, but we remain confident in the long-term trajectory of this business. And the margin expectations we have for this business continue to be strong, and we expect to continue delivering strong top line growth overall for this business with strong margins, strong capital efficiency. And that generates strong EVA over time and continue to drive strong EVA growth across this business.

Michael Roxland:

Congrats on another solid quarter. My question is around your backlogs and where they currently stand. Have you seen -- have they further extended where they were relative to 1Q? And given continued inflation, do you still continue to mark to market your backlogs? And if so, what has the customer response been for that type of approach? And will you continue to use that approach going forward?

Operator:

Our next question is from the line of Paretosh Misra with Berenberg Capital Markets LLC.

Mitchell Butier:

Well, we just put a plus on that. We're not going to comment on pricing, volumes and dynamics, but the plus is -- the shift can be completely attributed to volumes.

Christopher Kapsch:

My question is focused on LGM and your commentary about second half volumes recovering after being down in the second quarter. Just curious how the current volume trends look thus far into third quarter and how you see the second half recovery that you anticipate being manifested. Will the recovery skew towards certain business units or product lines? Or do you expect it to be more or less pronounced in certain geographies? Any color there around that commentary would be helpful.

Operator:

There are no further questions at this moment. I will turn it back to the speakers for any closing remarks.

Operator:

Thank you. Ladies and gentlemen, that does conclude today's call. We thank you for your participation and ask that you please disconnect your lines. Have a good day.

Disclaimer*:

This transcript is designed to be used alongside the freely available audio recording on this page. Timestamps within the transcript are designed to help you navigate the audio should the corresponding text be unclear. The machine-assisted output provided is partly edited and is designed as a guide.:

John Eble:

01:21 Thank you, [Savanah] [ph]. Please note that throughout today's discussion, we'll be making references to non-GAAP financial measures. The non-GAAP measures that we use are defined, qualified, and reconciled with GAAP on schedules A4 to A9 of the financial statements accompanying today's earnings release. 01:39 We remind you that we'll make certain predictive statements that reflect our current views and estimates about our future performance and financial results. These forward-looking statements are made subject to the Safe Harbor statement included in today's earnings release. 01:55 On the call today are Mitch Butier, Chairman and Chief Executive Officer; and Greg Lovins, Senior Vice President and Chief Financial Officer. 02:04 I'll now turn the call over to Mitch.

Greg Lovins:

09:11 All right. Thanks, and hello everybody. As Mitch said, we delivered a strong start to the year with adjusted earnings per share of $2.40. Consistent with last year and up 5%, excluding currency, roughly a dime above our expectations. Sales were up 18% ex-currency and 13% on an organic basis, driven by higher prices and higher volume and mix. 09:41 Despite the impact of inflation and supply chain disruptions, we delivered a strong adjusted EBITDA margin of 15.3%, up 40 basis points sequentially. Significant revenue growth and strong margins drove EBITDA growth of 6% compared to prior year, up 10%, excluding the impact of currency. 10:05 Turning to cash generation and allocation, we generated $73 million of free cash flow, down compared to last year, but well above our historical Q1 levels. Our balance sheet remains strong with a net debt to adjusted EBITDA ratio at quarter-end of 2.35. 10:25 Our current leverage position gives us ample capacity to continue executing our disciplined capital allocation strategy, including investing in organic growth and acquisitions, while continuing to return cash to shareholders. 10:41 In the quarter, we paid $56 million in dividends and repurchased more than 800,000 shares at an aggregate cost of $152 million. 10:53 Now, turning to the segment results. Label and Graphic Material sales were up 12% on an organic basis driven by higher prices, which more than offset a modest decline in volume and mix due to tough comps as Mitch mentioned. 11:09 Label and Packaging Materials sales were up low-double digits on an organic basis, with strong growth in both the high value product categories and the base business. Graphics and Reflective sales were up high single digits on an organic basis. 11:25 Looking at the segment's organic sales growth in the quarter by region, North America and Western Europe sales were both up high teens, while emerging markets overall were up low to mid-teens. 11:38 The Asia Pacific region was roughly flat with strong growth in India, offset by a decline in China, due to tough comps related to the price increase driven pre-buys, we discussed last year. In Latin America, grew low-double-digits. 11:56 LGM’s adjusted EBITDA margin increased 110 basis points sequentially to 15.6%, largely driven by accelerated pricing actions to offset inflation. And as Mitch mentioned, while EBITDA margins were strong, they declined versus prior year for three primary reasons. 12:17 First, the mathematical impact of raising prices alone reduced the margin percentage by roughly 2 points. Second, the remaining gap from the price inflation lag reduced margins roughly half a point. And third, impacts from the Russian war in Ukraine reduced margins by roughly one-third of a point. 12:38 Now, looking ahead, our input costs have continued to rise and supply chains remain tight. We now anticipate inflation will be roughly 20% for the year with a high single-digit increase expected sequentially in Q2. 12:53 We continue to address the cost increases through a combination of product re-engineering and pricing actions. Shifting now to retail branding and Information Solutions, RBIS sales were up 43% ex-currency and 20% on an organic basis, as growth remains strong in both the high value categories and the base business. 13:17 The apparel business saw broad-based strength across channels and continued double-digit growth in external embellishments. And for the quarter, Intelligent Labels sales were up more than 20% organically. 13:30 Adjusted EBITDA margin for the segment of 19% was up nearly 2.5 points with the positive benefits from higher organic volume and acquisitions, more than offset growth investments and higher employee-related costs. 13:45 Turning to the Industrial and Healthcare Materials segment, sales increased 1% on an organic basis, reflecting low-double-digit growth in healthcare, largely offset by low single digit decline in industrial categories as automotive markets weighed on the segment. 14:03 Adjusted EBITDA margin decreased to 12% driven by lower volume and mix and the net impact of pricing freight and raw material costs. 14:14 Now shifting to our outlook for 2022, while there continues to be a high level of macro uncertainty, we have raised our guidance for adjusted earnings per share to be between $9.45 and $9.85, a $0.10 increase to the range. 14:31 The increase reflects a roughly $0.10 headwind from non-operational items such as currency and taxes, more than offset by roughly $0.20 operational increase, roughly half of which we realized in Q1. This outlook reflects a roughly 50% increase in EBITDA, compared to 2019. 14:54 And we now anticipate 15% to 17% ex-currency sales growth for the full-year. Above our previous expectation, driven by higher prices to mitigate the increased pace of inflation. 15:07 In summary, we delivered another strong quarter, in a challenging environment, and we remain on track to deliver on our long-term objectives to achieve GDP plus growth in top quartile returns on capital, which together drive sustained growth in EVA. 15:24 We will now open up the call for your questions.

George Staphos:

16:17 Thanks. Hi, everyone, good morning. Thanks for all the detail. My two questions, the first is around margins broadly. And then the second is just on the impact of the strike in Europe and it's ending what it might mean for you. In terms of margin gentlemen, can you talk a little bit about qualitatively, if you can't quantify, what kind of margin trend you're seeing in Intelligent Labels either year-on-year or sequentially in the quarter? And the same question around emerging markets. I know it's a broad region, but can you talk about the margin trends you're seeing in emerging markets? 17:01 My second question with the strike now having ended, how will it most immediately impact and likely benefit your business and what are the ramifications of that? Thank you and I'll turn it over.

Operator:

18:38 Our next question is from Ghansham Panjabi with Robert W. Baird. Please proceed.

Mitch Butier:

19:24 Yeah. So, it's hard to predict what each shutdown if there are future ones or what the exact impact will be. We [commented] [ph] there was about $20 million lower revenue from the materials businesses that we have in the Shanghai area. We have an operation in the general Beijing area, but quite a bit smaller overall, as far as size and impact. 19:46 And RBIS’ footprint in China is in South China. So, in the [pro delta region] [ph], so not in the Beijing area in general. So, that's where we are as far as what the impact is. I think the bigger question, everybody needs to make their assessment, what does it really do to end demand? Does end demand – everybody is obviously been depleting their inventories, bounce back and so forth or not. We feel well-positioned regardless of the situation. 20:17 If it were to get to the South China, obviously our RBIS plans would be impacted at that time, but just as we saw that Vietnam was shut down last year, which is a major hub for us as well, we’re able to leverage the rest of our global manufacturing capability to help offset that and quickly come back from. And there it's a little bit different because mostly end market is really linked to demand in both the U.S. and Europe. 20:44 And so, we tend to see that there's a shortening of supply chains or adjustment of supply chain lead times in order to adjust for that. So, slightly different by business. Overall, I think there's, yes, positive of the fact that the Shanghai area is opening. As far as our direct interactions, we've gotten the green light to open up operations everything else, obviously it takes a little while for the gears of industry to start moving, all the customers need to be able to open up and suppliers. 21:13 And we're hoping that from the high degree of lockdown that there are lessons learned from this more broadly and that with each new lockdown should there be one that will have less impact on industry in general.

Greg Lovins:

21:50 Yeah. So, just to reiterate, I guess overall, we said about $0.20 operational be it for the year from our previous expectations, offset by about $0.10 with some headwinds, things like currency translation and a little bit on tax, for instance. In the first quarter, it’s driven by a couple of things

Anthony Pettinari:

23:16 Good morning. The revision to the full-year organic growth guidance, is that entirely driven by price presumably passing along higher costs or is there any change in the volume outlook either positively or negative or mix or anything else that we should be aware of?

Anthony Pettinari:

24:19 Okay. And then 1Q benefited from 9 million in restructuring savings, in terms of maybe seeing a similar level in the coming quarters, is there anything you can say about, sort of restructuring as maybe a potential earnings contributor this year? Have you pulled forward some projects given inflation headwinds there, which was always, sort of in the plan? Any [OpEx] [ph] you can get there?

Operator:

25:09 Our next question comes from John McNulty with BMO. Please proceed with your question.

Mitch Butier:

25:45 Yes. So, we grew more than 20% within the quarter and that was broad based. And yes, as I said, apparel was most of the dollar growth, but percentage wise, the food and logistics categories and now home goods are from a percentage wise off a very small base growing even faster. So, continue to build momentum. What we did say, and I think you might be referring to John, is, given where the supply chain constraints specifically around microchips that would be challenging to go above the long-term growth range that we have a 15% to 20% this year, and we do see that there should be some easing and change a little bit depending what you're talking about as we go into 2023. 26:29 And an important part of this is, we've been able to leverage. We're a bit unique in being able to drive this level of growth and certain for the new market development, just leveraging our scale and our partnerships that we have up the supply chain as the chips of manufacturers and so forth work through this challenging time they have on constrained supply, but we're all aligned on what the opportunity is around RFID and Intelligent Labels more broadly.

Greg Lovins:

27:41 Yes. So, I think there's a lot of moving parts here between, as you said, the strike of our paper supplier starts to get better later here in the second quarter as Mitch talked about. It doesn't have a huge impact on Q2 given that that just ended pretty much here at the end of April. So that will start to get better as we get to the middle of the year. But we talked about the same time, we got a little bit of a China headwind in the month of April at least from there that we didn't have in the first quarter. And then we exited or see shipping to the Russia market, which we had shipped for much of Q1 at least. So, there's a number of impacts there when you look from where we're in Q1 to where it be the rest of the year. 28:20 And just difficult to call what the environment will be in the back half from an inflationary perspective, as well as from a continuing macro perspective. Our next question comes from Jeffrey Zekauskas with J.P. Morgan. Please proceed.

Greg Lovins:

28:57 Well, half of that was actually from currency translation year-over-year. The rest of it was a bit of a gap as I talked about between price and inflation still, as well as some increasing just employee cost, wage inflation year-over-year, etcetera. So, it's really about half of it is currency and the other half, a large part of the other half to remain on gap on price inflation.

Mitch Butier:

29:31 We have a variety of different scenarios we would lay out, so we don't pinpoint a specific target. But as we said, the comps in Q1 Jeff were the toughest and the comps get easier as we go throughout the year. So, that's I guess the biggest thing I'd highlight. So, we don't have – we don't give quarterly guidance or in general or by business, that Q1 is the toughest comp within the materials business overall.

Mitch Butier:

30:00 Sequentially, it's gotten better. We've accelerated. I think one of the things when we commented on performance in Q1 being better than we expected, so we had a number of initiatives just given the shared duration, magnitude, and consistency of the inflation we've been experiencing, we been fine tuning our pricing strategies and our execution capabilities and we're targeting specifically to reduce that lead time, and we were successful in doing that. 30:28 We're going to need to continue doing that given the incremental inflation, which is going from the low-to-mid-teens as Greg said for the full-year to roughly 20% for the full-year. So, it was better than expected is the short answer Jeff.

Josh Spector:

30:51 Yeah, hi, thanks for taking my question. So, just again I guess on the inflation for the high single digit Q-on-Q, wondering if you could maybe breakout how much of that would you say is direct materials so the cost of material itself going up versus, is there some element of that from you operating differently. So, using film instead of paper or sourcing from a suboptimal location that is creating an additional cost burden, but perhaps goes away when supply normalizes, is there a way to differentiate between those two?

Mitch Butier:

31:43 And the way we tend to look at that is that's a different product, if you're substituting having a [film liner] [ph] versus a paper liner, it's a different product at a different price point. So…

Mitch Butier:

32:06 We don't think it had a significant impact on profitability. This was an area where – and this is where demand is strong and customers and their customers need the product. And so, we were able to leverage our innovation and scale capabilities to be able to quickly substitute. 32:20 We've got disproportionately more experience both on the film and paper side of the industry so to be able to do mix and match of different liners, different [phased materials] [ph], it was an area of particular strength for us and that we were able to leverage those capabilities to be able to deliver and they obviously came at a different price point. So, once the supply chain normalizes, yeah, I think there will be some reversion back to the other product categories that the customers ultimately [would want] [ph].

Mike Roxland:

32:56 Thanks. Mitch, Greg, John, congrats on a good quarter. Given the label paper of lease line or supply tightness, can you just give a sense of how you're able to manage supply this quarter? Was it just a matter of procuring tons wherever you could get them and passing along the higher cost of customers? Did you work through inventories? I'm just trying to understand your performance relative to the issues experienced at the [indiscernible]?

Mike Roxland:

34:14 Got you. And then just quickly, just following on John's question regarding chip availability, obviously, Mitch mentioned, I think that's going to improve in 2023, what type of growth you expect to see in Intelligent Labels once if and when that chip availability improves? If you want to comment about 2023, let's look at it this way, if you had the chips available today, what type of growth would you see in Intelligent Labels versus the 15% to 20% you have seen? Thank you.

Operator:

35:31 Our next question comes from Adam Josephson with KeyBanc Capital. Please proceed.

Mitch Butier:

36:20 Overall, our volume assumptions haven't shifted all that much from where we were a quarter ago. And we came into the year with our eyes open to some of the macro uncertainties and so forth. Remember when we gave some commentary around our volume expectations, people thought those might be a bit low. We actually saw obviously are foreseeing some of the specific challenges, but with all that the world's has been going through the last couple of years, we obviously had some temporary dislocations around demand environment built into our overall guidance for the year, and that's proven the appropriate approach thus far.

Greg Lovins:

37:27 Yeah, Adam, I think it's been difficult over last year or so to really call inflation material movements over past the next couple of months really. So, I think for us, we're looking at what we can see from a line of sight perspective. There are different views, if you look at different entities indices and different outlook for the back half of where things may or may not go, but right now, we know what we see for the second quarter as we talked about and we're assuming a moderate kind of environment from an inflation perspective in the back half. That could change up or down and so we would flex our pricing accordingly, I guess.

Operator:

38:32 Our next question is from Joshua Wilson with Raymond James. Please proceed with your question.

Greg Lovins:

39:00 Yes. So maybe just backing up, I think our overall capital allocation balance sheet approach is the same strategy has been for a number of years now. We have a very strong balance sheet right now. Our debt ratio is at a relatively low level despite a lot of the acquisitions that we or even in light of a lot of the acquisitions we've done very recently. And so, we have ample capacity to continue investing in the business, continue leveraging M&A to help strengthen our portfolio and shift the portfolio towards high value categories, and capacity to continue increasing the rate of our dividend over time and continuing to drive share buybacks and return cash to shareholders. 39:38 So, we've talked about over the years. Our approach there has been in periods we're looking at share buybacks to generate a return and in periods where we see, if we pull back in shares, we'll have accelerators in our share buyback in the opposite if we see increases. So, it’s clearly in the first quarter, we saw the pullback in the shares and took advantage of that from a buyback perspective. 40:01 Depending on how that plays out over the rest of the year would really determine how share buyback overall plays out. I think we ended the quarter with about 83 million shares and clearly we expect to be somewhere below that by the end of the year.

Mitch Butier:

40:32 I don't think – we're seeing what you're reading in the headlines overall. I mean, just continued constraints, but I think the bigger item is just, yes, I think just questions about what the more the economic outlook is, then it is around freight availability and so forth. What's going to happen in the coming quarter, coming years and so forth. It's definitely a very sad development to see what's happening within Europe and that's what is on people's minds more than anything than what's going on just getting product and so forth. 41:07 So, that’s key. The sentiment has shifted in Europe overall. This is what I would say. I think growth trends and so forth still seem fairly strong, but the sentiment is more on other matters and what it means to the macro long-term.

Chris Kapsch:

41:32 Yeah. Hey, it’s Chris Kapsch with Loop Capital. So, question on LGM. Good afternoon or good morning, I guess where you guys are. So question focused on LGM, I didn't catch the detail by region. I think you said that basically all the segments sales growth was effectively pricing on passing through the inflation and volume [flatter down] [ph]. My question is, is to the extent that paper liner availability constrained your volume, how did your volume compare to the industry volume? Did this constraint cause you to lose share in any region?

Chris Kapsch:

43:08 That's helpful. And then I think your demand again, LGM has been characterized by generally healthy with strong backlog, and to the extent that this striking result allows you to work down those backlog, would that be – do you have a sense for any part of that backlog being, sort of double ordering because of concerns on behalf of customers to get material and or and just how do you see that those lead times working down over time was – is that, do you look at this as an opportunity that maybe take share as your constraints are alleviated as this strike has resolved? Any color there would be helpful. Thanks.

Operator:

45:08 Our next question is a follow-up question from the line of George Staphos with Bank of America. Please proceed.

Mitch Butier:

45:42 Yes, we haven't quantified and we're not going to overall George. It's – the net impact is relatively small, but still impactful. Because if you isolated on its own as one impact, but we've then been leveraging our other sourcing providers, materials of providers to help mitigate that as well as the material substitution to filmic liners and so forth. So, we haven't provided that, but let's, yes, something that's in our guidance is basically a return to normal, if you will by the second half.

Mitch Butier:

47:11 Thanks, George. Yes. So, overall around the inventory comment, we had said that we had anecdotal evidence and believe there were some inventory building going this year, which by the way, I think is playing out well for the end markets, as far as when you're in a period of tight supply that people have some extra buffer to work through. 47:32 From what we see, it looks like some of that was worked off. We think in Q1, and we commented that our volume mix within LGM was down low single digits. So, comps was one reason, but think that inventory levels could have been another. But we think there's also still continuing some inventory here in Q2, which is important given that the impact of the strike won't be fully worked through until we work our way through Q2 and get towards the end of it. 47:59 Yes, George, I wasn't clear on the second part of your question overall. I mean, broadly speaking, what you've seen through this very dynamic environment is that we've been able to leverage our global scale, our strength and innovation to basically ensure that we are able to provide for our end markets. We are seeing as the industry leader that are not just trying to protect our own business, but also ensure the long-term health of our industries, and that's not just an LGM or a lot of discussion is, but also within RBIS and the branding information solutions we provide there, where with all the challenges that the apparel industry has seen that we've been able to show consistent robust growth through that cycle, especially relative to apparel and demand. 48:46 So, overall, very – yeah, good, very good with how we've performed. There's a lot of uncertainty on the horizon. We're confident in the team's ability to continue managing as we have over the past couple of years.

Mitch Butier:

49:09 Thank you. I just want to conclude by saying strong performance in a very challenging environment and just want to conclude by once again thanking our team for their phenomenal performance, dedication, and ingenuity. So, thank you to the entire team.

Operator:

Ladies and gentlemen, thank you for standing by. [Operator Instructions] Welcome to Avery Dennison's Earnings Conference Call for the Fourth Quarter and Full Year Ended on January 1, 2022. This call is being recorded and will be available for replay from noon Pacific Time today through midnight Pacific Time February 5. To access the replay, please dial 800-633-8284 or 1-402-977-9140 for international callers. The conference ID is 21997964. I would now like to turn the call over to John Eble, Avery Dennison's Head of Investor Relations. Please go ahead.

Mitch Butier:

Thanks, John. And good day everyone. We're pleased to report our 10th consecutive year of strong top and bottom line growth. Our label and graphic materials business delivers strong performance in the year of significant raw material inflation and constrained supply. Retail branding information solutions posted both strong and top line growth and significant margin expansion. Industrial and healthcare materials made solid progress. And importantly, our intelligent labels platform continues to deliver significant growth and increasing potential. In addition to great results for the year 2021 mark an important milestone for the company as a final year of measurement for the five year financial targets we communicated in early 2017. This is the third long-term performance cycle we've completed since first introducing this discipline back in 2012. And I'm pleased to report that we once again achieved our company goals. Our consistent performance over the years reflects the resilience of our industry leading market positions, the strategic foundations we've laid and our agile and talented workforce. Our playbook is working extremely well as we continue to focus on five overarching strategic pillars. Driving outside growth in high value categories, growing profitably in our base businesses, focusing relentlessly on productivity, effectively allocating capital and leading in an environmentally and socially responsible manner. Over the last five years we achieved exceeded even our long-term companywide goals set in early 2017, including delivering an EPS CAGR of 17% and growing the company to $8.4 billion in revenue. There were many important milestones achieved over this time horizon. One standout of course, is Intelligent Labels, now a $700 million platform. This business tripled in size over the last five years, growing 20% annually on an organic basis. The strong growth over this time horizon was driven primarily by apparel, as we continue to drive further adoption of the technology and expand programs with major customers in this key end market. And while we continue to expect apparel to be the key growth driver in the coming few years, we see even greater opportunity over the long run in other key untapped markets. For example, in the food segment three quick service restaurants after successful pilots are in the early stages of rolling out RFID to improve supply chain traceability and inventory accuracy. And in logistics, we continue to work with shipping and logistics players taking further automation to drive speed and productivity. As the leader in ultra high frequency RFID we are positioned extremely well to not only capture these new opportunities but to create them. To that end we are continuing to invest in developing new applications and markets, adding new technologies, both physical and digital, increasing our manufacturing capacity, and expanding our team, the best most experienced in the space. The momentum in Intelligent Labels where we continue to expect long-term growth of 15% to 20% annually is a great example of the progress we continue to make. But it's only one example of many across the portfolio. Over the last five years, we've made solid progress in achieving the objectives in IHM, great progress in LGM and truly remarkable progress in RBIS. We are focused on creating exceptional value for all of our stakeholders across the entire company. Now, looking specifically at 2021, the year was no different as we made solid progress on our strategic pillars while posting impressive results. We deliver EPS of $8.91 for the year, up 25% from 2020 and 35% from 2019 levels. We grew the top line by roughly 19% on a constant currency basis, and 16% organically. All three segments delivered strong results relative to both 2020 and 2019. With solid growth in our base businesses, and continued above average volume growth from high value categories. These strong results come at a time of continued increasing challenges. The ramping up of COVID infections in many countries, continued supply chain constraints, and additional inflationary pressures are taxing the industry, our customers and our teams. The biggest challenges are now in LGM, North America and Europe, where we are seeing both increasing constraints on the availability of raw materials and additional inflationary pressure. The team has continued to find ways to manage these compounding challenges and deliver impressive results over the last couple years. And we are confident we will do so again in 2022. Now a brief summary of the year by segment. Labeling and Graphic Materials delivered another year of strong margins and exceptionally strong top line growth, reflecting above average volume growth as well as pricing. Throughout the year orders remained elevated. This was driven by continued strong demand for consumer packaged goods and ecommerce trends, as well as to a lesser extent, we believe inventory building downstream from us given the supply chain challenges and significant income inflationary pressures. We experienced raw material constraints across many categories throughout the year. Currently, we are seeing some easing of constraints in chemicals and resins, but increasing constraints for paper and transportation. We exited the year with annualized inflation of more than $600 million and nearly 20% increase in our materials businesses alone, as the cost of raw materials and freight continue to rise. Given the magnitude of this inflation, and the lag in the timing of our price increases, margins moderated in the back half of the year for this business. While we are experiencing even more inflation as we start this year, particularly in paper, we expect to offset the higher costs over the cycle. We remain confident in our ability to continue driving GDP plus growth in this high return business. Retail Branding Information Solutions continues to deliver impressive results, with margins expanding to another record on significant revenue growth for the year driven by strength in both high value categories as well as the base business. As I mentioned earlier, momentum in our intelligent labels platform continues as sales grew roughly 30% on an organic basis compared to 2020 and roughly 40% compared to 2019. And a recent Vestcom acquisition is not only achieving its performance goals, but also showing positive early signs and providing additional channel access to intelligent labels. In the Industrial and Healthcare Material segment, sales rebounded versus prior year well above 2019 levels, and operating income grew significantly. We've made solid progress in this group of businesses over the last few years. However, the challenges in some of its end markets, principally automotive have hindered our ability to achieve our ambitions. Despite these challenges, we are focused on achieving the long-term potential of this group. Now as for capital allocation, we continue to execute a balanced strategy. We have increased our pace of growth and capability building investments, both organically and through M&A. Over the last couple of years, we've completed several acquisitions, expanded our venture program and started ramping up the pace of organic investments, which we recently began further accelerating. The overriding focus of our M&A venture program and organic investments is to further increase our presence in high value categories, increase our pace of innovation, and advance our sustainability initiatives. And we intend to continue this path, all while maintaining a strong balance sheet and returning cash to shareholders. With these great results in mind, it's important to highlight that our overriding focus is on the long- term success of all of our stakeholders. And we have a clear set of objectives and strategies focused on their mutual success. We're making great progress towards our 2025 and 2030 sustainability goals, and are on track to deliver our 2025 financial objectives. As the overarching objective of our long-term financial targets is to deliver GDP plus growth, and top quartile returns on capital. This is a recipe for superior value creation over the long term, and we are confident in our ability to continue doing so. After delivering a 20% increase in EPS in 2021 ex. currency, we are again targeting double digit EPS growth in 2022. While 2022 is already shaping up to be just as challenging as the last couple of years, we are preparing for it commercially, operationally, and financially. And once again, I want to thank our entire team for their tireless efforts to keep one another safe while delivering for all of our stakeholders. This has been a particularly taxing time for our teams, and we're all grateful for their dedication, agility and focus. Thank you. Now I'll hand the call over to Greg.

Operator:

[Operator Instructions] Our first question comes from Ghansham Panjabi of Baird.

Mitch Butier:

Yes, Ghansham, thanks for the question. I'll try to cover all those pieces. First of all, I guess, as you said, earlier, in the year, we had more of a challenge in early mid-2021 from petrochemical supply constraints. I think as we move through the first or the fourth quarter, and into the first quarter here in 2022, we've seen more that constraints coming from the paper side, it's a little bit the same on the inflation perspective, as well, we've seen a little bit of easing in petrochemicals in some of the regions, but continue to see some challenges on paper. And particularly in Europe, we've seen more of the constraints, I think in the fourth quarter on paper, some constraints in North America, but a little bit more in Europe, even in Q4. So we're continue to manage through that across the businesses. But that's been a little bit of a trend as I look across the last number of quarters.

Mitch Butier:

And then Ghansham, I think your other question was on the extra week, so the extra week impact is not in our organic sales number that we're quoting. On a reported sales it was about an 8.5% decline year-over-year from a sales perspective.

Mitch Butier:

A bit. But if you recall, we were able to offset most of the shortfall in Southeast Asia as far as just the lockdowns that were occurring there by servicing that volume from elsewhere, principally China. So there was a bit of a carryover into Q4. So you do should be looking at the second half a little bit more on an averaging basis for that business. But overall demand is strong in our business and in apparel specifically. And then broadly, intelligent labels and external embellishments, which continue to show great potential and performance. So overall, the demand outlook within RBIS is strong. There are issues right now just replenishing inventories at the end market level. But there's a little bit of that, Ghansham. But most of this, you should look at as a strong demand environment thus far, clearly, there's a lot of questions about what things will look like as we go through 2022. A lot of shifting forecasts out there and so forth. But right now, what we've experienced is a strong demand environment in RBIS.

George Staphos:

Hi, everyone. Good morning, guys. Congratulations on the year. And thanks for all the details. First question is going to be on LGM. So to the extent that you're starting to see more inflation in paper, and sounds like in particular in Europe, does that change at all your positioning from a competitive standpoint, traditionally, Avery has had in my sense more strength when it came to film based, and also in terms of sourcing feedstock on the pet side, but on paper, you obviously don't have quite the same advantages. So does that put you at a little bit more of a disadvantage, then if it was the inflation is coming at the petrochemical side? Why? Why not? And talk about your ability to raise pricing to offset inflation on paper, relative to if it was coming from the chemical side?

George Staphos:

Mitch, thanks for that. Just a point of clarification on the answer. Then my second question, is the supply chain issue in Europe largely being triggered by some of the strikes that are occurring at the Finnish paper mills from what you've gathered? Are there other things that are more important? And then the second question, you talk about investing incremental $35 million in intelligent labels, digital capabilities and sustainability, is that capital cost, will there be some or is that mostly P&L effect, and independent of work shows up on your financial statements. Beyond sort of the description you have here, what will Avery get in terms of incremental growth and capabilities in this key category for you going forward in '23 and beyond from that investment? Thank you.

Operator:

The next question comes from John McNulty, BMO.

Mitch Butier:

Yes, so I think one is just the number is larger. And it's been growing, and part of its commensurate with the opportunities that we see. So it's an increase base from what we had in 2021, which was roughly around $25 million or so. And that was an incremental increase of about $10 million from the year before that, and it's just seeding all these opportunities that we see in intelligent labels, but also around increasing our digital capabilities, and so forth. So if you look at this, these incremental investments that we've been making over time, we've been funding them through just running the base business, and if you look at our overall level of SG&A and the gearing around that, and so forth, funding it through productivity, and this is something that is part of our core strategy. If you look at our five strategic pillars, they're all intertwined. And the third pillar is around a relentless focus on productivity. And that's so that we can accelerate our investment in high value categories. And should we continue to invest in productivity to make sure the base is profitably growing, as well as expanding margins. And that's exactly what we're doing.

Mitch Butier:

Yes, it is a wide array of investments here, the 18 months to 4.5 years is the right time horizon to be thinking about, and some are seeding completely new markets. Others are basically adding new capabilities and a new region for a program or a space that we know works in one region, we're expanding in another and we know very much what the commercialization lifecycle is there.

Anthony Pettinari:

Good morning. Given the price increases that you've announced and the cost inflation environment continuing in 1Q, based on what you're seeing right now, do you have a sense of when you might be fully caught up on costs or price cost neutral? And what does that lag sort of look like versus previous cycles? Understanding that we're sort of in an unprecedented situation right now on inflation.

Mitch Butier:

Yes, and just to build on that, I mean, we've, we kept predicting it was a few months out, when we wouldn't be able to narrow and close that gap. But the forecasts that the indices provide, as well as our own outlooks, consistently, there's been more inflation continuing longer than we had anticipated. So whatever your own assumption is around when inflation will abate, assume a few months, a quarter after that is when we would catch up.

Greg Lovins:

Yes, certainly, as you said, Anthony, Q1 has been more challenged, last year inflation was really just starting in the first quarter. So we just talked about a second ago, we still have a bit of a price inflation gap here in Q1 versus prior year, we also have the biggest currency impact on the year will be in the first quarter, that was the strongest currency rates last year as well. So I think we said about $25 million of the currency headwinds in the first half, and the bulk of that is in Q1 also. At the same time, as we talked about a minute ago, as well, we've been increasing the pace of our investments since the first quarter of last year. So we look at those things, we'll have some volume benefits, of course, year-over-year in Q1 with the continued growth of the business, get a bit of a price inflation gap still in the first quarter. And then the currency headwind and the continued investment. So those are the kind of big buckets, I think about the Q1 [Indiscernible] versus last year.

Josh Spector:

Yes. Hi, thanks for taking my question. Just similar question on the prior lines around investments that you're making. And specifically on CapEx, it's a pretty big step up that you're pointing towards this year. Curious if there's anything in terms of one time made your major investments the next couple of years to think about, or if that's a higher level of organic investment, we should be considering longer term for Avery?

Josh Spector:

Okay, that's helpful. I just be curious if you would comment, if you're seeing any production impacts now within China, or if your guidance is assuming any further disruption either within China or the rest of Asia, that you're baking into guidance and kind of along with the CapEx question. Are you investing in additional source supplies to deal with, I guess, further impacts or potential disruptions in the future?

Operator:

The next question comes from Jeffrey Zekauskas of J.P. Morgan.

Greg Lovins:

Yes, I don't know. I mean we didn't quote specifically what the gap was, we still had a gap in Q4 when we look versus prior year. I guess if I look across the last few quarters, as we said we had about 20% inflation in the fourth quarter. And from a pricing perspective, we talked last quarter, we had about five points of price in Q3. And as we said, here in Q4, we had in LGM high single or very high single digit inflation in the fourth quarter. So we're starting to get closer to cover that. But we still do have a gap year-over-year, and we expect to have a little bit of gap in Q1 as we talked about earlier as well.

Mitch Butier:

Sure. So Jeff, just quick answer to your first question. Generally, the pace is roughly the same, the pace of inflation is higher, and the pace of price increases are the same. So as far as the dollar gap roughly the same. As far as intelligent labels, a 75:25 split. No, that's not from the Vestcom acquisition. As far as any shifts, we did have a shift, we were at 90:10, split pre the Smartrac acquisition, and then Smartrac had a bigger presence outside of apparel. And so that's what moved was the biggest single fuel step functions shift in the mix between those two. And over time, yes, that has and we expect continue to the apparel to be a bit smaller percentage of a much larger pie. And so that's what we are seeing. And that's what you should expect to see. Now we're not going to share every single point differential, and so forth for strategic reasons, we will show more the large proportionality of the portfolio. And so the last part of your question, yes, we would expect intelligent labels for food and logistics to be growing faster than what we're seeing for apparel. Apparel, as I said, in dollar terms will continue to be the majority of the growth for the coming few years. On percentage basis, the other categories will be growing faster. And then on dollar basis, we expect that to be the biggest growth driver post the 2025 horizon. So that's, we are seeing multiple horizons of growth and opportunity here and seeing a lot of great interest, potential and performance in apparel, adjacent to apparel, so apparel customers moving into new adjacent categories, such as home goods, and so forth, and then obviously in food as I shared the story and logistics and elsewhere so.

Adam Josephson:

Mitch, Greg and John. Good morning. Thanks for taking my questions. Mitch, you described almost this rolling supply chain crisis earlier first in the US and then in Southeast Asia and now in Europe, just wondering what exactly is embedded in your guidance as far as when this you expect this European situation to resolve itself. I know the strikes are supposed to go on for another month or so. But it's been one thing after another. I'm just wondering how you're thinking about the situation and how much longer lasting you expected to be and why?

Adam Josephson:

I appreciate that. And just one on that LPM volume growth, you mentioned low single digit, can you just compare that to what you've seen thus far. And then also just give us some flavor of what you're expecting by region? Along those lines this year, obviously, China has had its difficulties, Brazil's having its difficulties, Europe's got, obviously an energy crisis it's dealing with. So can you just talk about what you're seeing geographically in that - in the context of that low single digit expectation for LPM?

Operator:

The next question comes from Paretosh Misra of Berenberg Capital Markets.

Mitch Butier:

Yes, so we're not quoting the number of engagements anymore. Partially just because it's, you got very large engagements and smaller specialty engagements in there, it's more to show the magnitude of how the pipeline looks relative to our current revenue. And where you can see the increasing activity, great activity within apparel, continued pipeline there as well as broader pipeline activity going outside of apparel. So generally we saw significant growth, as we talked about in the pipeline overall, particularly in 2020 throughout the early stages of the pandemic, and early 2021, we purposely shifted our focus to not feeding the pipeline as much as far as more so working through the pipeline. So we've seen a significant shift of pipeline activity moving from business case into custom programs, moving into pilots, and so forth. And that is having the, yes, expected outcome overall, just things moving through the pipeline, which is why we're expecting the growth on percentage terms to continue to be bigger outside of apparel as compared to what it is in apparel. We still see significant dollar growth from apparel itself in 2022.

Mitch Butier:

So just as far as the supply chain, I mean, we are, yes, we're completely confident in our ability to hit the 15% to 20% growth that we have targeted long term for this business in 2022. The high end of that to be specifically that we've secured the supply. We're seeing a lot of from a demand side, we probably could even go a little bit more than that. But we are right now just real time evaluating what are the chip availability through 2022. If you look at our own assessment, and just broader assessments, the dynamics easing a bit, and I think we'll have a lot more insight here in the next three to six months. So that is a not a constraint to growth of hitting our 15% to 20% goal. But as far as some of the larger programs we're working on, so forth, those will probably have to be phased a little bit more 2023 given the situation. So given our industry leadership position, we're working with all the key players throughout the supply chain on chips. And we are, yes, working with them to make sure there's ample supply for us as well as the industry at large. So that's something that we are working through and again, comfortable hit our number this year and continue to see the 15% to 20% growth over the long term. As far as pricing, yes, there has been some inflation on chips as well. And we are also repricing our own RFID and lays outbound accordingly.

Christopher Kapsch:

Yes, thank you. So my question is focused on the LGM business. First, there's been some consolidation on the pressure sensitive label stock space recently. So I'm just curious about your perception of that. With the consolidation that's gone on there, create a competitor that would, I guess, influence the otherwise benign, competitive dynamic. And then the second one is just industry checks have suggested to me that the industries, that industry is pretty tight in terms of meeting customer demand, one might even characterize maybe customers on allocation. Just curious if you would characterize it that way? And if it's - if this is a dynamic that's only in North America, are you seeing that other regions? And is it would you say, if that is an accurate characterization would you say it's more a function of these logistics and supply chain constraints? Or are more a function of just, kind of robust demand? So there's a few in there, but thank you.

Christopher Kapsch:

That's helpful. I appreciate it. So it sounds like that particular dynamic is one that's concentrated in North America.

Operator:

The next question comes from the line of George Staphos, Bank of America.

Mitch Butier:

Yes, we're actually seeing I'd say that the momentum and energies somewhat equal between food and logistics, and but answering your question specifically around logistics, we've already are selling our solutions specifically in areas around hazardous materials, working with certain targeted areas for helping get through customs and so forth at the border. And we are working with a number of logistics players, including some of the large ones about how to drive further automation and so forth across their network. So there's quite a bit of activity, often what happens and so when I talked about the pipeline, one of the steps in the pipeline is around custom solution. So that would be like dealing with the hazardous materials. And that sounds worse than its batteries that you have to have certain protocols around. So for how you handle battery, so you'll adopt within a specific category initially while piloting on a broader base, and then eventually look to see how you adopt broader base so that the pilots I would say are, yes, that the whole pipeline each stage is active. And we're currently working in multiple geographies, by the way, so this is a US, Europe and in China, pipeline that we're currently working.

Mitch Butier:

Yes, so as far as the logistics opportunity around intelligent labels and RFID, this is something that, yes, I mean, if you think about a future, the question is when does that materialize? It's around the big opportunity, once you get past these specific niche programs, like haz mat I mentioned earlier, is really across the entire network. And if you think through currently, you got a lot of dissimilar packages a high degree of in shape and size, obviously, high degree of skewed complexity. And right now they're doing it through scanning, visual scanning of barcodes. And some of that can be automated through conveyor belts, but a lot of it does also through handhelds, and so forth, and a lot of labor involved. So as you look at the overall objectives of supply chains in general, and the logistics providers, it's around speed, and lower cost, higher volume, faster and lower cost. And so that's where technology is being looked to and our technology solutions built around RFID are a key enabler of that. So those are very large unit programs. So the question is, how does - how do you ramp up towards that and so forth? And we're engaging with as you would expect, we're engaging with many players in the industry around this.

Operator:

And at this time, I'd like to turn the call back over to Mitch Butier for any closing remarks. Please go ahead.

Operator:

This does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your lines. Thank you and have a good day.

Operator:

Ladies and gentlemen, thank you for standing by, and welcome to Avery Dennison’s Earnings Conference Call for the Third Quarter Ended on October 2, 2021. [Operator Instructions] This call is being recorded and will be available for replay from noon Pacific Time today through midnight Pacific Time, October 30th. To access the replay, please dial 1-800-633-8284. For international callers, please dial 402-977-9140. The conference ID number is 21969421. I would now like to turn the conference over to John Eble, Avery Dennison’s Head of Investor Relations. Please go ahead, sir.

Mitch Butier:

Thanks, John, and good day, everyone. I’m pleased to report we delivered another strong quarter. Our two primary businesses achieved impressive top and bottom line growth, and momentum in our Intelligent Labels platform continues. We are in a higher demand environment that comes at a time of continued and increasing challenges. The ramping up of COVID infections and restrictions in some countries, continued supply chain challenges and additional inflationary pressures are passing the industry, our customers and our teams. The biggest challenges have been in LGM North America due to raw material shortages and labor and capacity constraints and in RBIS Vietnam, where output was significantly constrained in the quarter due to COVID restrictions. While we are encouraged by recent trends in these businesses as we’ve been able to increase output in recent weeks, the supply chain constraints continue. As for inflation, the pressures continue to increase. We previously expected some abatement in raw material input costs towards the end of the year whereas we now expect additional inflation in Q4 as well as Q1 of next year. Now, for context on the magnitude of the inflation, in our materials businesses alone, we will be exiting this year with annualized inflation of more than $600 million. That’s a nearly 20% increase, a rate we have not seen in decades. We are thus in the midst of another round of price increases. Despite these hurdles, we continue to achieve impressive results. The team is doing a tremendous job managing through these compounding challenges, focusing on keeping our teams safe and delivering for our customers. Now, a brief recap of the segments. Label and Graphic Materials posted strong top line growth for the quarter, overcoming the challenges I just highlighted, as demand for consumer packaged goods and e-commerce trends continue to drive strong volume growth in our Label and Packaging Materials business, while growth in our Graphics and Reflective Solutions business continues to rebound. LGM’s profitability remained strong, though margins were down from last year due to the increasing inflationary headwinds and higher cost in the quarter from the supply chain constraints. Given the increasing inflationary pressures, we have redoubled our efforts on material reengineering and, as I mentioned previously, are raising prices again. Retail Branding and Information Solutions delivered strong revenue growth in the quarter and continued to expand margins significantly. The segment grew 22% on a constant currency basis and 14% organically, driven by strength in both, high-value product categories as well as the core apparel business. Impressive performance is despite the significant constraint in South Asia, where we have major manufacturing hubs, once again demonstrating the advantages of our global manufacturing network. Intelligent Labels sales, enterprise-wide, were up 15% in the quarter, and we are on track for approximately 30% organic growth for the year versus 2020 and 40% versus 2019, towards the higher end of our long-term target. As expected, the continued strong growth in our RFID business was primarily driven by apparel. Applications outside of apparel, particularly food and logistics, grew faster than the average, though obviously off of a small base. And in Q3, we also closed the acquisition of Vestcom, a business that further expands our position in high-value categories and has the potential to further advance our Intelligent Labels strategy. In the Industrial and Healthcare Materials segment, sales continued to rebound off prior year lows and were up relative to 2019 by 11% on a constant currency basis. As for margins, they are down as inflationary pressures [Technical Difficulty] and costs from supply chain disruptions have impacted the segment to a greater degree than LGM. Overall, I am pleased with the progress we’re making as a company on our long-term strategies while also executing in the near term. We are providing superior service to our customers despite the challenging environment, keeping our teams safe and engaged, ramping up investments for the long term and ensuring we continue to deliver for our shareholders. Given our strong performance in the quarter, we have raised our outlook for the year, now anticipating earnings growth of roughly 25% over last year’s record and are on track to achieve all of our five-year company-wide goals that we established in early 2017. With that, I’ll now hand it over to Greg.

Operator:

Thank you. [Operator Instructions] Our first question is from Ghansham Panjabi with Robert W. Baird & Company. Please go ahead.

Mitch Butier:

Yes, absolutely, Ghansham. So, it’s exactly what you just said. So, it was -- Vietnam is what’s getting a lot of the press and headlines that definitely had the biggest impact. But throughout the pandemic, there’s actually been different regions that have been impacted more than others, and we’ve been flexing the global manufacturing network to help offset that. And so, specifically here, if you’re asking about Vietnam, we are able to leverage specifically China to be able to service that demand in Vietnam. Still impacted growth by a couple of points overall. Question is how much of that is just end demand that won’t happen now because the retailers and apparel brand owners won’t be able to fulfill more end consumer demand or not. But it had an impact of a couple of points is what we estimate, but we were able to -- it would have been larger than that, had we not sourced from China.

Mitch Butier:

Yes. Thanks, Ghansham. Overall, I think we’ve seen inflation continue to increase really across the category. So, I don’t think it’s zeroed in one particular place. We’ve seen chemicals, adhesives, the film and resin components continue to increase. And then, I think in the third quarter, as we expected, we started to see some increase in paper, particularly in Europe. So, I think we’ve seen the acceleration in the third quarter and into the fourth quarter here really across the different component categories. I think the biggest regions where we’re seeing the largest inflation is probably both, in North America and Europe. And North America really started late last year, as you recall, with some of the chemical increases, and that’s continue to grow as we move through this year and then Europe continued shortly after that with paper really kicking in here in the third quarter. It’s been the biggest sequential increase.

Operator:

Our next question is from Anthony Pettinari with Citigroup. Please go ahead.

Greg Lovins:

Yes. So, on your first question, Anthony, I think when we look at a quarter ago, I think our communication view was that we thought by the end of the year, we’d be looking to close the price inflation gap essentially and we’ve continued to see accelerated inflation. So, we’re looking at somewhere kind of low to mid-single-digit further inflation from Q3 to Q4. And now, we’re implementing additional pricing actions. So, I think, our view is that it takes us a few months, 3 to 4 months to pass pricing or reengineer some materials to take cost out to manage the inflation. So, when we start to see inflation stabilize 3 or 4 months after that is probably when we expect to be able to cover that on an ongoing basis.

Anthony Pettinari:

Okay. That’s helpful. And then, is it possible to specify either the financial or the volume impact of the North American labor issues that you referenced? Are those primarily with a group of customers or within Avery? And do those kind of linger in 4Q? Are they better or worse exiting October versus what you saw in 3Q?

Operator:

Our next question is from George Staphos with Bank of America Securities. Please go ahead.

Mitch Butier:

Sure, George. So, your first question, which was talking about the relative levers within between RBIS and LGM as an example. I mean, first off, the inflation is much larger in LGM. Our levers within that -- all of our businesses are one, just our relentless focus on productivity is both focusing on variable costs, so things like innovating material reengineering and so forth, [Technical Difficulty] restructuring. So, touching on both of those, as you highlighted. The material reengineering is more to do within the materials businesses, as you’d expect. You asked, are there limits to that within a given time period. Yes, there are some limits to that. But, over the long horizon, we continue to have a pretty consistent ability to deliver material cost out, we call it, every single year, and we’ve been doing that for decades. So, I don’t see a long-term limit to that, but definitely a short cycle, there’s some limits to what we can do there, which then you move to pricing. Within RBIS, they’re having some inflation as well, not nearly the magnitude that we’re seeing within materials. And there, we’ve been raising prices as well. It’s a little bit of a different impact because every year, there’s a different program, just the way that industry works, and so you’re constantly kind of re-pricing for new programs going from different designs of information and branding solutions for the apparel and retailers out there. And then, last thing I’ll say is just restructuring. That’s been a consistent focus of ours. In times when that are relatively coned, that’s when you want to focus on the restructuring as we’ve been doing over the years. We accelerated a lot of restructuring, as you know, into last year, and so we’re in a position of strength right now. When you’re in a high-volume environment, that’s when you taper back a bit of your restructuring. So, long term, that’s something that’s going to be a key lever for ours -- of ours across the portfolio. But clearly, we accelerated some of our actions in the last year from what we have here on the near horizon.

Mitch Butier:

You’re welcome. No, the pricing is broad-based. So, it’s not just industry specific, is my point. So, regardless of what labeling solutions you’re looking at, there is just inflation that is extremely broad-based. And it’s even outside obviously of packaging materials. So, when you think about the cost of packaging, it’s pretty small relative to overall cost of the packaged goods. So, I think generally, what you’re seeing when you see what’s going on in the macro around increasing inflation, labor constraints, it actually further heightens the need around information solutions labels, whether that be classic barcode labels or RFID and intelligent labels. And so, we think it’s just going to -- while there are inflationary pressures, it also further increases the business case for a lot of the solutions that we’ve been focusing on and investing in.

John McNulty:

On the Intelligent Label front, admittedly, the 15% that you hit is kind of in your long-term range of 15% to 20%. But admittedly, it’s a bit lower than I think what we were expecting just based on a bunch of channel checks throughout the industry. So, I guess, anything constraining your ability to deliver in terms of the volumes throughout this quarter in the Intelligent Label side that we should be thinking about?

John McNulty:

Got it. No, that’s helpful color. And then, I guess, the other question would just be on the free cash flow front. I mean, you already generated a huge amount so far at whatever it was 632, I think it was. 4Q normally is a big windfall kind of quarter for you as well in terms of free cash, I guess. Should we be thinking about it differently just given all the raw material inflation and things like that, or is -- can 4Q kind of be the big acumen that it normally is? How should we be thinking about that?

Operator:

Our next question is from Josh Spector with UBS Securities. Please go ahead.

Greg Lovins:

Yes. I think overall, as you said, part of what you see when you look at the segments is some improvements in RBIS, particularly sequentially Q2 to Q3. And in the materials businesses where we saw a little bit more of the sequential inflation in the third quarter, is where we saw a little bit of sequential decline Q2 to Q3. So, I think overall, a big part of that overall flatness was really driven by the strengthening of RBIS from Q2 to Q3. So, we look at Q3 to Q4, we expect to continue delivering strong margins in the RBIS segment. We did talk about having further sequential inflation that we’re now working through passing prices through. So, that would be a little bit more of a gap in the fourth than what we would have expected before as well.

Mitch Butier:

Yes. So, we’ve got a number of -- I’m not going to comment on anything specific, any specific program we’re working through, but we are working with all of the major logistics players. And a lot of it is -- specifically as you normally see starting out with targeted areas where the biggest challenge is the need for automation are. And so, we’ve got a number of programs, and that’s part of that. I’m going to talk about the revenue growth being above the average from a very small base that relates to those programs and logistics. And as far as adopting across the entire network, which we see significant opportunity just when you think about the amount of automation required and trying to reduce costs, but also increase speed. We see that this technology, RFID and our broader intelligent label solutions as being a key enabler to helping companies achieve that. So, you asked what can the size of the market be? We shared some information in our March Investor Day. You can look at it. But simply, you can just look at a number of parcels that are out there. So, if you think about individual companies when they ultimately fully adopt what the magnitude that can be.

Jeff Zekauskas:

I think, in your slides, you talk about $600 million of annualized inflation. But, you also say that for the year, your annual inflation is about 10%. So, if $600 million is 20%, then 10% is $300 million. And $300 million would be offset by, I don’t know, 4% across the board price increase. Are your prices up that much, or are you in the hole by, I don’t know, $50 million or $70 million in raw material costs this year. Can you size that?

Jeff Zekauskas:

Okay. And so, propylene has already fallen and probably polyethylene is going to be down, I don’t know, a few cents a pound in October. Maybe it’s going to go down $0.05 a pound for the next 3 or 4 months. But, what you said is you thought that your inflation would be not only higher in the fourth quarter, which I understand, but in the first quarter, why would it be higher in the first quarter of ‘22, as a base case?

Mitch Butier:

Part of it, Jeff, is just the first 1.5 months it stays in your inventory and then it slowly bleed through to the P&L. So, it’s just a delayed effect of when we actually get the inflation. The other thing I’ll say is, I know there’s an outlook as far as what might be happening over the coming months. I think, us and the entire industry kind of got that wrong a quarter ago, where there was an expected abatement here in Q4, and we’ve been seeing incremental inflationary pressures. So, we tend to just look out a few months and look to see what’s there and what do we expect and try to evaluate capacity additions and what’s going on in the macro to help shape beyond that. But I think we’re in a pretty uncertain environment. So, we’re not baking anything in or commenting on 2022 at large.

Greg Lovins:

Yes. I think, it depends on the region and the specific business. I think, it’s been a challenge on certain chemicals that go into our films and our adhesives depending on the region and it’s not as though we haven’t been able to get them for an extended period of time, but it does create some challenges within operations when you may have something that’s delayed a week or a few days even. And then, you end up having to run over time or do something else to manage through those kind of situations. I think paper liners in Europe has been a challenge more recently as well. So, there’s a -- really nothing that’s been longstanding one thing, I would say, over the course of the last few quarters. It’s really been different areas that impacted us for short periods of time as we moved across the year here.

Operator:

Our next question is from Paretosh Misra with Berenberg Capital. Please go ahead.

Mitch Butier:

Yes. We’ll lay that out in the next earnings call. But overall, it’s going to be a new category with both -- and the majority of it is in high-value categories and the rest of it will be a base.

Mitch Butier:

I think your question, sorry, there was a little disruption. The RFID pipeline growth I think is what your question was. So, yes, we continue to see good momentum overall within the RFID pipeline. I’d say -- I think, I commented on this last quarter as well. Our focus is more on moving things through the mouth of the funnel, if you will, more migrating them further down into the funnel. So, great progress on what we’re seeing there, a lot of -- whether you’re looking at food, on quick service restaurants, a number of pilots being initiated, a number of pilots being moving to local or regional rollouts. So, there’s quite a bit of activity going on there, and we commented on logistics earlier as well. So, that’s generally what’s happening. I guess, beyond that is just a move into -- within some of the -- if you think about a number of retailers that are multi-category retailers, having discussions about moving out of the apparel department and into other departments within those larger retailers as well. So, number of activities going on. Broadly, I’d say, it’s the food and logistics areas of the area with the greatest growth similar to what we identified in the Investor Day in March about where the opportunity was and where our focus was.

Chris Kapsch:

So, focused on LGM and the comments about organic growth by region specifically, just hoping for a little bit more color as to why Western Europe would be up more than 20% versus the low double digits in North America and emerging markets. I don’t think it has anything to do with the more pronounced inflation there. So, just wondering if you could -- if there’s some explanation for the divergence in the trends there? Thanks.

Mitch Butier:

But you’re still above the historical growth rate of that region. So, still healthy markets, but definitely, we’ve got some gyrations quarter-to-quarter.

Mitch Butier:

Well, we had -- it’s pretty much LGM North America is what’s [Technical Difficulty] the most in LGM. And then, for RBIS, it’s the constraints just around like we talked about Vietnam and Malaysia and so forth that are COVID-related, and it’s not just us, obviously. It’s the entire -- it might be a region of a country or the entire country. And then, LGM Asia has also impacted, particularly freight is a challenge globally. It’s a particular challenge in freight around Asia and just moving product between countries and so forth. So, that’s obviously a challenge in LGM as well in Asia.

George Staphos:

One is just a quick detail question. I had missed it. You said something about $60 million related to Vestcom just for posterity. What was that related to again? And I had a question on capital allocation.

George Staphos:

And then, my other question, could you remind us what you said in the past, and if any of this has changed in terms of your appetite and ability to do M&A within the LGM sector? Again, in periods of stress, the big companies usually gain capabilities, gain share; the smaller companies would tend to fall back. Are there any companies in the pipeline that would be helpful to you from a value-add standpoint, because that’s one of the components in terms of your capital allocation strategy, and would be complementary to Avery. Would you have the willingness to do anything like that? And relative to some of the experiences some of your peers had back in early 2000s, would you have the ability to add anything in LGM? Thanks, guys. And good luck in the quarter.

George Staphos:

Mitch, would it be fair to say that the high-value quotient would be more likely met in things that would be in the RBIS segment more broadly, or is that an over simplification and incorrect? Thanks. And again, I’ll turn it over from here.

Operator:

Mr. Butier, there are no further questions at this time. I will now turn the call back to you for any closing remarks.

Operator:

And ladies and gentlemen, that does conclude the conference call for today. We thank you all for your participation and ask that you please disconnect your lines. Have a great day, everyone.

Operator:

Ladies and gentlemen, thank you for standing by. [Operator Instructions] Welcome to Avery Dennison’s Earnings Conference Call for the Second Quarter Ended July 3, 2021. This call is being recorded and will be available for replay by noon Pacific Time today through midnight Pacific Time July 31. To access the replay, please dial 800-633-8284 or +1-402-977-9140 for international callers. The conference ID number is 21969420. I’d now like to turn the call over to John Eble, Avery Dennison’s Head of Investor Relations. Please go ahead.

Mitch Butier:

Thanks, John, and good day everyone. We delivered another strong quarter ahead of our expectations, raise our outlook for the second half and announced an agreement to acquire Vestcom, a leader in shelf-edge pricing and branded labeling solutions in the U.S. Vestcom has roughly $400 million in revenue, with a consistent history of strong growth and above company average margins. Vestcom will further expand our position in high value categories, while adding channel access and data management capabilities that have the potential to further advance our intelligent label strategy. Deon will tell you more about the acquisition, both the strengths of the company and how it will accelerate our strategies in a moment. Turning to results. In the second quarter, earnings rebounded significantly, as sales grew 29% on a constant currency basis, reflecting a strong rebound in RBIS and IHM and continued strength in LGM. The quarter was even more impressive relative to 2019 with revenue up 14%, EBITDA margins up 80 basis points, and EPS up 30%. Now, while we are pleased with the results, our strong performance comes at a time of continued uncertainty given the global health crisis and constraints within supply chains. While the rate of new cases among our team remains stable, many parts of the world are experiencing an increase in COVID-19 cases. Certain countries, particularly in South Asia, have experienced a significant rise in infection rates, leading to the recent disruptions at a few RBIS manufacturing locations. While this is impacting July, we don’t anticipate these disruptions will impact demand in the back half of the year. In addition to the effects of the pandemic, supply chains remain constricted, affecting in markets and adding to inflationary pressures. This constraint on the availability of raw materials, freight and in the U.S. labor continues to impact the industries in which we operate. Despite these constraints, we’ve been able to deliver record volumes as our team continues to leverage our global network and scale to minimize disruption to our customers. The current environment further reinforces our determination to remain vigilant in protecting the health and well being of our team and agile to ensure we continue to meet customer needs. Now a quick update by business. Label and Graphic Materials posted strong top-line growth for the quarter at demand for consumer packaged goods and e-commerce labels continued to drive strong volume in our Label and Packaging Materials business. While our Graphic and Reflective Solutions business rebounded significantly up prior year lows. As per profitability, LGM margins remain strong despite increasing inflationary headwinds, including costs from the quarter from the supply chain constraints. Given the increasing inflationary pressures, we are redoubling our efforts on material reengineering and again, raising crisis. We are targeting to close the inflation gap relative to mid last year by the fourth quarter. Retail Branding and Information Solutions delivered robust growth in the quarter and expanded margins significantly compared to prior year lows. Compared to 2019, margins expanded further, as the segment grew 25% on a constant currency basis, and 14% organically driven by strengthened both high value product categories, particularly intelligent labels, as well as the core apparel label business as retailers and brands continued to gear up for a strong rebound in demand. Enterprisewide, Intelligent Label sales were up 40% compared to 2019. As expected, the strong growth in our RFID business was primarily driven by apparel, while outside of apparel, we continue to see strong momentum building for new applications in all key geographies. In the food segment, for example, a North American restaurant chains recently began rolling out RFID across their network after successful pilot over the past year. And in logistics, we saw positive momentum, including the adoption of an intelligent label solution at a large global player in the transport of hazardous materials, such as batteries, which requires special shipping protocols. These are just two examples of programs of what will be many in the years to come. In the Industrial and Healthcare Materials segment, sales rebounded of prior year lows, showing positive growth compared to 2019 as the segment is on pace for its fourth consecutive year of margin expansion. Given our strong performance in the second quarter, and our increased expectations for the rest of the year, we have raised our full year outlook for the company, both from the top and bottom lines. Overall, I’m pleased with the continued progress we are making towards the success of all of our stakeholders. Our consistent performance reflects the strengths of our markets, our industry-leading positions, the strategic foundations we’ve laid, and our agile and talented team. We remain focused on the consistent execution of our five key strategies. To drive outsized growth and high value categories grow profitably in our base businesses, focus relentlessly on productivity, effectively allocate capital and lead in an environmentally and socially responsible manner. We are confident that a consistent execution of these strategies both organically and through M&A, such as the Vestcom acquisition will enable us to achieve our long-term goals, including consistently delivering GDP plus growth and top quartile returns. And once again, I want to thank our entire team for their tireless efforts to keep one another safe while continuing to deliver for our customers during this challenging period. Now, I’ll turn the call over to Deon to provide more color on the high performing and high potential acquisition we announced today. Deon?

Greg Lovins:

Thanks, Deon. Hello everybody. I’d like to add – first add a few points about Vestcom and I’ll be referring to the transaction summary on Slide 17 of our supplemental materials. As mentioned, Deon already mentioned, Vestcom’s annual revenue is roughly $400 million, with strong historical growth and EBITDA margins above our company average including synergies. The purchase price of $1.45 billion represents an EBITDA multiple below our overall company multiple. And we expect this deal to be accretive to EPS by 2022. We’re currently planning to fund the acquisition through a combination of cash and debt. If the deal closes in Q3 as anticipated, we expect our leverage ratio to be near the low end of our target range at the end of this year, giving us ample capacity to continue executing our capital allocation strategy. Now, jumping back to our Q2 results. As Mitch said earlier, we delivered another strong quarter with adjusted earnings per share of $2.25, which was above our expectations by about $0.10 and roughly $1 per share above prior year, driven by significant revenue growth. Sales were up 29% ex-currency and 28% on an organic basis compared to prior year driven by strong broad-based demand and the benefit from easier comparisons. Given that the pandemic had the biggest impact on our results in Q2 of last year. Compared to 2019 our growth has also been strong with organic sales up 11% versus Q2, 2019. Our strong growth combined with productivity gains, more than offset the headwind of last year’s temporary cost reduction actions, as well as an increase in inflation, and new organic investments to deliver an adjusted operating margin of 12.8% up 210 basis points from last year. We realized $17 million of net restructuring savings in the quarter, the majority of which represented carryover from projects we’ve pulled forward into 2020. We also recorded two items, which largely offset each other and our GAAP results in the quarter. The first is a gain related to the recovery of Brazilian indirect taxes paid in previous years. And the second is a liability related to the previously disclosed ruling in ADASA legal matter, which the company disputes remains confident in the prospects of a more favorable outcome upon appeal. Now, as Mitch mentioned, supply chains remain tight and input costs have been increasing. Both raw material and freight inflation were above our initial expectations, and we have continued to see costs rise as we entered the third quarter. With expected sequential inflation in Q3 at a mid-to-high single-digit rate with variations by region and product category. We are addressing the cost increases through a combination of product reengineering, and pricing, and have announced additional price increases in most of our businesses and regions across the world. Turning to cash generation and allocation, year-to-date, we’ve generated $388 million of free cash flow with $206 million in the second quarter up significantly compared to previous years. In the first half of the year, we paid $108 million in dividends and repurchased over 500,000 shares at an aggregate cost of $95 million, for a total of $203 million returned in cash to shareholders so far this year. And as I said earlier, our balance sheet is strong, with a net debt to adjusted EBITDA ratio of 1.3 at quarter end. This gives us ample capacity, even after the Vestcom acquisition to continue executing our capital allocation strategy. Now turning to the segment results, Label and Graphic Materials sales were up 17% ex-currency and 16% on an organic basis, driven by higher volume and pricing. Compared to 2019 sales were up 11% on an organic basis. Label and Packaging Materials sales were up roughly 12% organically with strong volume, growth in both the high value product categories and the base business. Graphics and Reflective sales continue to rebound nicely compared to the trough we saw on Q2 of last year and we’re up 49% organically. Now similar to last quarter, we do believe that Q2 benefited from customers pulling forward some volume from Q3 ahead of new price increases. Looking at the segments organic sales growth in the quarter by region; North America sales were up high single digits. In Western Europe sales were up mid teens, as demand in both regions increased from Q1 and emerging markets overall were up roughly 20% continuing their strength from the first quarter. The Asia-Pacific region grew roughly 20% led by significant growth in India and the ASEAN region, with easier comps can given the pandemic impacts we saw in Q2 last year. And then we had low double digit growth in China. And Latin America grew over 30% with particular strength in Brazil. Our LGMs adjusted operating margin remained strong; it decreased slightly from last year to 14.5%. This was partially driven by the impact of supply constraints, which led to both increase in inflation and some incremental costs in the quarter, such as expedited freight and overtime to ensure we had supply to service our customers’ needs. Shifting now to Retail Branding and Information Solutions, RBIS sales were up 73% ex-currency and 72% on an organic basis. As growth was strong in both the high value categories and the base business, due in part to lower prior year comps. Compared to 2019 organic growth was 14%. The apparel business continued its strength as retailers and brands prepared for increasing demand with particular strength and the value in performance channels and continued double-digit growth in external embellishments. Intelligent Label sales were up organically roughly 65% and up 40% compared to 2019. Adjusted operating margin for the segment increased to 13.1%. As the benefits from higher volume and productivity more than offset the headwind from prior year temporary cost reduction actions, higher employee related costs and growth investments. The RBIS team has continued to deliver, increasing their top-line growth and margins significantly over the last four years, with margin expansion of more than four points since 2016. Turning to the Industrial and Healthcare Materials segment, sales increased 39% ex-currency and 33% on an organic basis, reflecting strong growth in industrial categories, particularly in automotive applications, which more than offset a decline in personal care tapes due to tougher comps. Compared to 2019 sales were up 6% on an organic basis. Adjusted operating margin increased 490 basis points to 11.7% as the benefit from higher volume more than offset the headwind from prior year temporary cost reduction actions and higher employee related costs. Now shifting to our outlook for 2021, we raised our guidance for adjusted earnings per share to be between $8.65 and $8.95, a $0.20 increase to the midpoint of the range. The increase reflects the strong performance in Q2, as well as the increased expectation for the rest of the year, driven by continued strong organic sales growth. And as a reminder, this guidance does not yet include the impact of the Vestcom acquisition, which is expected to close later in the third quarter. We now anticipate 14% to 16% ex-currency sales growth for the full year above our previous expectations, driven by both higher volume and the impact of higher prices. We’ve outlined some of the other key contributing factors to this guidance on Slide 12 of our supplemental presentation materials. In particular, the extra week in the fourth quarter of 2020 will be a headwind of a little more than one points reported sales growth and a roughly $0.15 headwind to EPS in 2021. We estimate Q1 benefited by roughly $0.15 based on the shift of the calendar and then anticipated roughly $0.30 headwind in Q4. The anticipated tailwind from currency translation is now roughly 3.5 to sales growth, and $35 million in operating income for the year based on current rates. And we now estimated incremental pretax savings from restructuring, net of transition costs will contribute $60 million to $65 million, down somewhat from our April estimate, as a strong demand environment has led us to delay certain projects. And given the increased outlook for earnings and working capital productivity, we’re now targeting to generate over $700 million of free cash flow this year, which is up roughly 30% from last year and 40% from 2019. Now given the distortion and our year-over-year comparisons due to the pandemic last year, let me provide you with some color on our second half outlook in relation to the first half of this year. There are four primary drivers, which are each worth roughly $0.15 plus or minus in the second half compared to the first half. First item is the calendar shift, I just mentioned a minute ago. Secondly is the impact on the pre-buy of volume from Q3 into Q2. Third, there’s a sequential price inflation GAAP in the third quarter, which we expect to close in Q4, driven by the timing of passing new pricing increases through. And lastly, given our continued confidence in our business, we are ramping up our pace of investments to drive our long-term strategies. So in summary, we delivered another strong quarter in a challenging environment. And we remain on track to deliver on our long-term objectives to achieve GDP plus growth in top quartile returns on capital, which together drive sustained growth in EVA. We’ll now open up the call for your questions.

George Staphos:

Thanks, Operator. Hi, everyone. Good morning. Thanks for the details. Congratulations on the progress so far this year. I guess my first question is on Vestcom, obviously, pretty big topic today. And, given the rundown, Deon that you gave, I understand why the customer would like it. I understand how it utilizes data management, and so on and mention, how the brand owners and retailers would like it, how does it really leverage Avery’s core capabilities and smart labels? And why did you need this? In your view, what were the one or two primary issues? And can you comment a bit on what the competitive landscape is, how does Vestcom rate versus its nearest peers? And I don’t know if there’s even a share, if you could market share, you could offer there. Thanks.

George Staphos:

Okay, thanks that’s a really good rundown. I just want to switch gears, given that we’ve seen, inflation and cost increases pretty much climb steadily throughout 2021. Second half earnings would likely be burdened by additional inflation that didn’t hit the P&L in the first half. Now, I know that’s in your guidance. But is there a way to quantify if you agree with that premise, what that burden that you’re getting over roughly equates to in second half? Thanks. And I’ll turn it over.

Operator:

And our next question comes from Ghansham Panjabi with Baird. Please go ahead.

Greg Lovins:

Yes, Thanks, Ghansham. So I think when you look at that, kind of five point increase at the midpoint, roughly 40% to 50% of that came in the second quarter with the second quarter volumes coming in a bit stronger. Of course, as we already talked about, the rest of that comes in the back half. So the rest of that being, kind of 2.5 points is assuming some continued strength and volume and a little bit of incremental price from what we had assumed before. So, probably a little bit more on the volume side versus price, when I think about that raise in the back half, but it’s a combination of both of those in the second half from a growth perspective.

Mitch Butier:

Yes, Ghansham on that one Vestcom is very quickly, the growth rate has been above the average as well as the margins, the growth rate, I think we commented in high single digits over 10 plus years. So, very consistently delivering that level of growth and the margins are above the company average both pre-synergy and obviously post-synergy. So great business, highly synergistic with RBIS, I actually – you don’t see very many businesses that are close to what RBIS does as far as integrating, managing variable information to be able to deliver promotional pricing and branded solutions. So just in a new adjacency link the food, which we see as an opportunity to accelerate the Intelligent Labels strategy. So that’s the short of it Ghansham.