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. Welcome to Avery Dennison's Earnings Conference Call for the Third Quarter Ended on September 28th, 2024. This call is being recorded and will be available for replay after 4:00 PM Eastern Time today and until midnight Eastern Time, October 30th, 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.

Thank you, Jeremy. 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 from GAAP on schedules A-4 to A-9 of the financial statements accompanying today's earnings release. 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. On the call today are Deon Stander, President and Chief Executive Officer; and Greg Lovins, Senior Vice President and Chief Financial Officer. I'll now turn the call over to Deon.

Thanks, John, and hello, everyone. We delivered another strong quarter with earnings per share of $2.33, above our expectations and are raising our full year guidance. We now expect earnings of $9.35 to $9.50 per share for the year and are targeting roughly 20% earnings growth compared to the prior year. Both Materials Group and Solutions Group delivered strong bottom line growth in the quarter, and in Intelligent Labels, we are delivering another year of strong top line growth and continue to see significant opportunity ahead. Materials Group continued to demonstrate its resilience in the third quarter, again delivering solid volume growth and strong margins. In North America and Asia, volume increased compared to the prior year and sequentially, in line with expectations. In Europe, volume was slightly below expectations, increasing compared to the prior year and down sequentially, largely driven by normal volume seasonality. Broadly, macro retail volumes remained soft relative to long-term trends, particularly in developed regions as the cumulative effects of inflation continue to affect consumers, and we do not anticipate this will change in the near term. Solutions Group delivered strong sales growth and margins in the third quarter, driven by strong growth in the base and continued growth in high value solutions. Overall, the apparel category was strong after normalizing mid-year as we expected, providing further evidence that retailers and brands are largely through destocking. In the quarter, we were able to largely overcome some interruptions in the apparel industry due to the unrest in Bangladesh, a key apparel sourcing country. Within high value solutions, strong growth in apparel and general retail categories was partially offset by logistics and drugstore channel softness. Focusing on our Intelligent Labels platform, as we continue to connect billions of physical items with digital identities, I have high conviction in delivering against our target of roughly 15% plus sales growth over the long term. This multi-decade growth opportunity will be driven by continued adoption in apparel and accelerate adoption in new segments such as food, logistics, and general retail, a key focus for us in the near term. As the market leader, we are extremely well-positioned to capitalize on this opportunity. In food, we announced a strategic collaboration with Kroger focused on building a better customer and associate experience through RFID technology. This collaboration makes item-level digital identification possible, enabling more frequent and accurate inventory information to maximize freshness, reduce waste, and improve the associate experience. The collaboration will begin in the bakery department across the Kroger network. This is the first grocer moving to rollout for item-level RFID tagging and represents a significant step forward for our Intelligent Labels business and the industry overall in a very large addressable market with significant opportunity for growth in the years to come. Turning to results, enterprise-wide Intelligent Labels sales were up mid-teens year-to-date. As we shared during our Investor Day, new customer rollouts will be uneven, particularly due to the pace of deployment as well as by comparison to initial volume builds for new program adoption in prior years. In this context, we now expect double-digit growth for the full year on softer logistics volume. Overall, the ability of our solutions to help address industry 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 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 and 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. 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. While we are increasing our outlook for the year, the environment remains uncertain and warrants some degree of caution. We remain confident in delivering 10% earnings growth across a range of scenarios over the cycle recently laid out in our Investor Day. I want to thank our entire team for their continued resilience, focus on excellence, and commitment to addressing the challenges at hand. And with that, I'll hand the call over to Greg.

Thanks, Deon, and hello, everybody. In the third quarter, we delivered adjusted earnings per share of $2.33, up 9% compared to the prior year, driven largely by benefits from higher volume and productivity. Compared to the prior year, sales were up 5% ex-currency and 4% on an organic basis, as higher volume was partially offset by deflation-related price reductions. Adjusted EBITDA margin was strong at 16.4% in the quarter, up 40 basis points compared to the prior year with strong margins in both segments. And we continued to generate strong free cash flow with $420 million generated through the first three quarters, up nearly $50 million compared to the prior year. Our balance sheet remains strong with a net debt to adjusted EBITDA ratio at quarter-end of 2.1, which includes paying down $300 million of debt that matured in August. 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 first nine months of the year, we returned $315 million to shareholders through the combination of share repurchases and dividends. In the third quarter, we repurchased 300,000 shares and distributed $71 million in dividends. Turning to segment results for the quarter. Materials Group sales were up 4% ex-currency and on an organic basis compared to the prior year, driven by mid-single-digit volume growth, partially offset by deflation-related price reductions. Looking at Label Materials organic volume trends versus the prior year in the quarter, North America was up mid-to-high single digits. Europe was up mid-single digits, including the impact of the slight volume pull-forward into Q2 that we noted last quarter. Asia-Pacific was up low-single digits and Latin America was up mid-to-high single digits. High-value segment growth was also strong with graphics and reflective sales up mid-single digits organically, and Tapes up low-single digits organically with particular strength in industrial categories. Materials Group delivered a strong adjusted EBITDA margin of 17% in the third quarter, moderating sequentially as expected due to typical volume seasonality, and comparable to the prior year as higher volume and benefits from productivity were offset by higher employee-related costs and the net impact of pricing and raw material cost. Regarding raw material costs in the third quarter, globally, we saw low single-digit inflation sequentially as expected. The increase was driven by higher paper prices, primarily in Europe. We've addressed the cost increases through a combination of product reengineering and pricing actions as we discussed last quarter. As we move through the third quarter, paper prices began to stabilize. Overall, we expect our raw material cost to be fairly stable in the fourth quarter. Shifting now to Solutions Group, sales were up 6% on an organic basis and 7% ex-currency. With base solutions up mid-teens as apparel volume remained normalized and high-value solutions were up low single digits. Within high-value solutions, strong growth in Intelligent Labels, apparel, and general retail categories was partially offset by logistics and softer volumes in our drugstore channel in Vestcom. As Deon mentioned, enterprise-wide Intelligent Label sales grew mid-teens through the first three quarters of the year as apparel volume normalizes and new categories adopt. While the third quarter was below our expectations, we delivered more than 20% growth in apparel and general retail categories, which was partially offset by logistics, largely due to prior year customer inventory builds and a customer transition that reduced some RFID parcel volume in the third quarter. That transition is now largely complete. Despite uneven growth this year, as Deon mentioned, the Kroger collaboration we announced yesterday is another proof point of our industry leadership and builds on our confidence in delivering on the significant opportunity ahead. Solutions Group delivered strong adjusted EBITDA margin of 17.9%, up 110 basis points sequentially and 150 basis points compared to the prior year, driven by benefits from higher volume and productivity, partially offset by higher employee-related costs and investments. Now shifting to our outlook for 2024. We have raised our guidance for adjusted earnings per share to be between $9.35 and $9.50, with the midpoint reflecting nearly 20% growth versus the prior year. As you'll recall, our outlook includes our four key drivers of earnings growth in 2024, which are on track. The normalization of label volumes early in the year, the normalization of apparel volume mid-year, strong growth in Intelligent Labels as apparel rebounds and new programs roll out, and ongoing productivity actions. We've outlined additional key contributing factors to our guidance on Slide 12 of our supplemental presentation materials. In particular, in focusing on the changes from July, we estimate 4.5% to 5% organic sales growth, now targeting the high end of our previous outlook. For the year, we continue to expect high single-digit volume growth, partially offset by deflation-related price reductions. We expect incremental savings from restructuring actions of more than $55 million, up $5 million from our previous outlook, some of which was delivered in Q3. And we now anticipate a headwind from currency translation of roughly $5 million in operating income for the year, slightly better than our previous outlook for both the third and fourth quarters. And we continue to target roughly 100% adjusted free cash flow conversion. In summary, we delivered another strong quarter, increased our outlook for earnings growth, remain confident in our ability to continue to deliver exceptional value through our strategies for long-term profitable growth and disciplined capital allocation. And now, we'll open up the call for your questions.

Our first question comes from Ghansham Panjabi from Baird. Please go ahead.

Hello, everyone. I hope you're doing well.

Hi, Ghansham.

Thanks, Deon. First, regarding the Materials segment and the volume rebound in 2024, do you think it's starting to plateau? You experienced a rebound after the destocking effect last year, but now with a weaker consumer, you’re still below 2022 levels. Also, in Intelligent Labels, is the lower-than-expected volume in 2024 due to end market conditions or challenging comparisons? What’s the situation there?

Yes, Ghansham. So on the material side, I think when we look at the quarter overall, I think we see as we would have expected, materials volumes, particularly in Europe, sequentially slowing a little bit from seasonality. I guess if you compare over a couple year period, especially compared to 2022, price is a pretty significant factor there. So from that perspective, we're in the midst of raising prices in 2022. Now we've seen some deflation over the last year and prices have come down. So that's part of it when you look at the sales number overall. From a volume perspective, I don't think we've seen much change in the overall trends. I would say or as Deon mentioned in the earlier comments, Materials Europe was a little bit lighter than we expected, and we do continue to see a little bit softer retail volumes in Europe overall. But otherwise, not much change from a trend perspective on volumes and materials.

Yes, Ghansham, let me emphasize that the overall macro-environment remains uncertain. We're noticing this in the feedback from our customers, particularly in Europe, where both our customers and their end-customers are expressing a more subdued sentiment. This is backed by macro retail volume data from Europe. Regarding your question on IL, I think it's worth taking a moment to reflect on the significant growth opportunity we outlined during our last Investor Day. We are confident in achieving our growth target of over 15% in the future, and the Kroger announcement marks another important milestone that is likely to resonate within the industry and act as a catalyst for additional growth. Our apparel business has established several proof points, and we now have another proof point emerging in logistics, with further developments in food as well, which will be crucial for unlocking future potential. In the short term, our focus is on driving adoption, ensuring that we create and execute demand effectively. As we move forward, some of the fluctuations we see quarter-to-quarter are less critical. Specifically in logistics, the main variance we observed was due to year-on-year inventory builds by customers and a transition that affected some RFID volume. I believe this poses a first-year annualization challenge rather than an ongoing concern moving forward.

Our next question comes from the line of John McNulty from BMO Capital. Please go ahead.

Yes, good morning. Thanks for taking my questions. So I guess on the new Kroger opportunity, can you help us to think about the scale of that? I know fresh bakery is kind of the first launch and then there's more to come. But I guess, can you help us to think about what that might mean in terms of either tag volumes or growth for you, how that phases in, how quickly that may phase in? And then I guess also tied to that, I know there's a lot of discussion right now in the QSR markets around food safety. I guess, can you speak to the pilot programs that you're seeing and if you see the potential for some meaningful launches in QSR as we go into 2025?

Thank you for the question, John. Let’s start by discussing the Kroger aspect before moving on to QSR. Our confidence in achieving our long-term growth target of over 15% is really based on our ability to drive adoption. As mentioned, we are focusing on apparel and continuing to enhance our logistics in IL. The Kroger announcement highlights that our technology is widespread and provides tangible returns on investment for food customers, especially in grocery. The food segment remains the largest of all our segments and is significantly larger than apparel, which has only about 40% penetration, approximately 200 million units to 1 billion units. Therefore, there is considerable potential for growth in the industry and for us as market leaders. Our collaboration with Kroger will initiate in the bakery channel and will gradually expand to other areas over time, such as protein and fresh produce. This process will take time, and we expect the rollout to be a gradual adoption. We have witnessed this in apparel and logistics, and I am confident we will see it in food as well. It’s important to note the value of our long-standing partnership with Kroger, rooted in our relationship through Vestcom, and how we have provided both innovative solutions and effective execution. While we cannot disclose specifics on program sizes with individual customers, this rollout will support our growth target of over 15% as discussed during our Investor Day, John. Regarding QSR, we currently have several in rollout, particularly one that emphasizes food safety, which was the initial motivation. Here, we are utilizing digital identification and tracking physical items back to their sources to ensure transparency regarding production and freshness. We are in talks with several other QSRs, and I believe the new FSMA regulations in the U.S. will expedite the focus on food safety. Consequently, I think they will increasingly adopt RFID technology, which will benefit us as the market leader.

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

Hi, everyone. Good morning.

Good morning, George.

Hey, George.

Thank you for taking my question. I wanted to follow up on the progress of the Intelligent Label initiative. I understand you can't disclose the size of the program relative to a customer, but could you share how many stores this will initially launch in within Kroger, including the timeframe? Additionally, could you provide some insight into how Kroger needs to implement this on both the front-end and back-end and your role in that process? Any details would be appreciated. Furthermore, can you explain what is happening with Vestcom regarding the slowdown and its implications for your earnings, especially considering you have raised your guidance for the year? I'll have more questions in the next round.

Sure, George. Regarding the Kroger rollout, we are initially focusing on the bakery, and we plan to expand gradually over the next several quarters to reach nearly 2,800 stores. The bakery is easier to manage since it operates within a single department and supply chain. Most of the implementation will take place at the bakery level and in the stores, rather than directly within the supply chain, although some elements will involve the supply chain as we move forward. Our approach will be to collaborate with Kroger on a phased rollout spanning the next six quarters. As for Vestcom, we experienced some challenges in the third quarter primarily due to general softness in the drugstore channel, which affected our volume. One of our clients is beginning to recover from bankruptcy, which is encouraging and will contribute to growth moving forward. We expect overall growth for Vestcom in the fourth quarter. Additionally, the recent hurricane impacted Southeastern states and resulted in a price freeze on all food items, leading to fewer price ticket changes during that time. This should improve as we enter the fourth quarter. Vestcom remains a significant and valuable segment for us, with strong margin potential and good growth opportunities, even in the drugstore channel. We're aiming to make progress in this area as we move towards 2025, George.

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

Thanks, Deon, Greg, John for taking my questions. Two questions from me. In 3Q, can you comment on how much Intelligent Labels actually grew? You mentioned strong growth in apparel and general retail. You mentioned the weakness in logistics and the drugstore channel. So just wondering how much it actually grew in the quarter? And the second question is just Deon, following up on your comments on the drugstore channel, it sounds like based on the last question that it's temporary in terms of weakness, but could it be something more permanent? You're seeing a lot of drugstores, Walgreens and others announce store closures. So do you think there's been a shift in drugstores in terms of fewer drugstores that could have some type of more permanent impact on Vestcom?

In the third quarter, as Greg mentioned, we adjusted our year-to-date performance from the mid-to-high teens to mid-teens after nine months, due to softness in logistics. Regarding the drugstores, there is likely a temporary aspect to this volume recovery connected to factors such as hurricane pricing and the recovery efforts of some drugstore partners facing their own issues. However, I don't view this as a long-term permanent change. We see significant opportunities available, as we do not engage with all drugstore players and are in discussions with a major one about how we can provide our solutions. Our Vestcom business focuses on two key elements: first, offering a productivity solution to improve labor efficiency in stores, which remains a primary concern for retailers; and second, delivering a media solution to enhance consumer connection at the point of sale. Much of what Vestcom achieves relies on a patented data composition engine that processes various data feeds and outputs them in a label format. Our solutions hold a competitive advantage in this area, and as retail continues to face challenges in labor and attracting customers, I believe our offerings will become increasingly relevant.

Our next question comes from the line of Jeff Zekauskas from JP Morgan. Please go ahead.

Thanks very much. So in the Solutions Group, base solutions grew 15%. So that's 6% growth for the whole segment. And if Intelligent Labels is now growing 15% and it used to grow 17% or 18%, that means that Intelligent Labels grew 10%. So Vestcom and Embellishments then must have shrunk 10%. Is that correct? And then secondly, Kroger's baked goods are about $5 billion. And I don't know their average baked good is somewhere between $2.50 and $5, so that's a billion tags or maybe 2 billion tags at $0.03, so that's $30 million to $60 million a year. Is this the order of magnitude we're talking about?

Yes. On your first question, Jeff, so when you look at overall in high-value segments, as we talked about, we're up low-single digits ex-currency in the quarter. So Deon already talked about Vestcom. Vestcom was down given the drugstore channel impacts that we talked about. Emblex was also a little soft, partially impacted by that Bangladesh unrest as well as in performance apparel a little bit softer this quarter as well. Intelligent Labels growth, if you recall, is in both segments. So we continue to drive growth in the Solutions segment as we also continue to leverage our strong converter base within our Materials segment to grow really in the general retail categories that we've talked about growing very well, and that shows up in the materials business. So it's split between both our growth and IL split between both solutions and materials. So overall, that's largely the framework for how we get to where we were in overall high-value segments.

And Jeff on Kroger, you're right that bakery is the smallest part of the kind of what I would call periphery perishable items, but it's one that has significant impact for the retailer in this regard. A lot of what gets done in terms of understanding one items are fresh and highly perishable in that regard are manually done. And so you have both an impact on kind of labor effectiveness as well as the associate experience in the store. And this is why we know that the technology can impact both of those, both improve the associate experience, which is critical for retailers. And the second piece is also making sure that you're able to drive efficiency and by definition, reduce waste as well. We're not going to comment on the size of the exact program as we roll out over time, Jeff. But I will say that this is going to be for us a very important tipping point for the industry. It's the first visible marker that food and grocery will go. And when people realize the scale of the ubiquity of that benefit, like in apparel, as we now starting to see logistics, I think it will act as a catalyst for further acceleration and adoption.

Our next question comes from the line of Josh Spector from UBS. Please go ahead.

Yes, hi, good morning. I guess maybe more generally within RFID and specifically the food opportunity. Can you just talk about the margins or kind of the drop-through that you expect on that market, assuming you're not going to comment on Kroger specifically? I guess, does that come in line with what your average RFID book of business is today? Is it below until you get scale or is there some reason why it's higher? Any framing there would be helpful. Thanks.

Yes, certainly, Josh. I want to emphasize that our Intelligent Labels platform consistently maintains margins that exceed the average for our segment. Whether the product is used in apparel, logistics, or the various food categories, we generally observe stable margins across these applications. While the average selling price may fluctuate based on the product's complexity or the scope of the solution, our margins remain consistently above the average segment margin.

Our next question comes from the line of Matthew Roberts from Raymond James. Please go ahead.

Good morning, everyone, and thank you for your time. Can you hear me?

Yes.

Okay, thanks. Maybe if I could touch a little bit more on the food opportunity and see what Kroger is trying to look or learn from the bakery. I know you said it's six or so quarters for the full rollout, but once it is in place, are there any milestones or timelines put in place before potentially rolling it out to other departments? And also while I appreciate, it is still early and planning with more to come in a couple of months for 2025 and in September, you laid out your long-term financial framework. But should we expect 2025 to be within that framework of the 5% top line and 10% EPS growth or are there any unique items or timing from 2024 that could impact that bridge? Thanks for taking the questions.

In terms of the broader food opportunity, it's the largest category we see for IL adoption overall. The market comparison shows 200 billion units of the same food in the addressable market, compared to 65 or 70 for logistics and about 45 for apparel. This indicates a significant multi-decade opportunity ahead. Regarding the timing of the rollout, we are not disclosing all the details yet, but we are focusing on bakery first, then rolling out over time. Based on our results, we anticipate moving to categories like proteins and leafy greens in the future, but it will take time. I want to emphasize that the rollout will be uneven in terms of timing and adoption, as we have experienced with apparel and logistics, and we expect the same in food. Our main focus is to drive adoption, create demand, and then fulfill that demand.

Yes, on the 2025 question, Matt, as you said at Investor Day, we laid out our financial framework for the future where we talked about growing 10% adjusted earnings per share growth annually. I would say right now, our early view of 2025 is that we'd be following that algorithm that we laid out a month or so ago. When we look at the drivers of that, obviously, Intelligent Labels growth, we've talked about being a driver of that. In apparel, we'll have a more normalized first half of the year next year. And our margins in the second half of this year in solutions are better in our first half. So that should give us a little bit of first half benefit as well. And then continue to have more normalized growth in materials. But as Deon laid out earlier, a bit uncertain retail environment there. So we remain cautious a little bit on that front. But those are the main drivers that help get us towards delivering that target we laid out back in September.

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

Good morning. Do you think your label volumes tracked kind of in line with the industry in 3Q or given it may be difficult to track market-share quarter-to-quarter, maybe you could just speak year-to-date? And then I guess maybe same question for Intelligent Labels, do you think you're kind of growing in line or stronger or a little bit weaker than the market? And then just to reiterate, like the weaker 3Q IL activity, is that just completely kind of like timing of projects and the comp or is there anything from like an industry perspective that you'd point to that impacted volumes in the quarter?

Yes, our label volumes are generally consistent with industry standards, and we are managing to maintain or slightly grow our market share in the label business worldwide. In terms of our Intelligent Labels business, there has been some volatility due to the significant logistics rollout last year and some softness this year, but overall, we are performing in line with the market since we are creating it. We anticipate that over the long term, we will continue to hold the majority of the market share and gradually expand it, thanks to our competitive advantages. Regarding your question about the third quarter, the performance is primarily related to specific comparisons and the transition, with no other fundamental factors impacting our third quarter performance in Intelligent Labels.

Our next question comes from the line of Michael Leithead from Barclays. Please go ahead.

Great. Thank you. Good morning, guys. Can you speak to the pricing in both of your businesses sequentially in the third quarter? Are you seeing incremental price give back or are prices generally flat at current levels? And relatedly, it sounds like European materials, input cost is up, price and demand perhaps a bit softer. Is there any change in terms of how you guys need to approach the European market going into 2025 or is it just sort of transitory weakness given where we are in the cycle at this point?

Yes, thanks, Mike, for the question. So overall, when we look from Q2 to Q3, we saw low single-digit inflation, really, I guess, very low single-digit inflation sequentially after a little bit of sequential inflation in the second quarter as well. And as you said, that's really largely in paper in Europe is where we're seeing that. And we talked about last quarter that we were announcing and implementing some pricing actions. So we also had some low-single-digit price benefit sequentially from Q2 to Q3 as we're managing that. So the net impact was pretty negligible in the quarter overall. So I think when we look forward, we continue to see a relatively stable environment overall from a materials perspective. So we don't see that shifting too much in the very near term, difficult to call more on an ongoing basis though.

Mr. Eble, there are no further questions at this time. I will now turn it back over to you for closing remarks.

Thanks, Jeremy. As you all know, our overarching objective is to deliver GDP plus growth and top-quartile returns, which is a recipe for superior EVA and value creation over the long term. We are confident that the consistent execution of our strategies will enable us to achieve our long-term objectives. This now concludes our Q3 earnings call. Thank you all for joining today.

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