Graphic Packaging Holding Co Q3 FY2022 Earnings Call

Good morning. Thank you for joining the Graphic Packaging Third Quarter 2022 Earnings Call. My name is Matt, and I will be your moderator for today's call. All lines will be muted during the presentation, with a chance for questions and answers at the end. I will now hand the conference over to our host Melanie Skijus.

Good morning, and welcome to Graphic Packaging Holding Company's third quarter 2022 earnings call. Joining us on our call today are Mike Doss, the company's President and CEO; and Steve Scherger, Executive Vice President and CFO. To help you follow along with today's call, we will be referencing our third quarter earnings presentation, which can be accessed through the webcast and also on the Investors section of our website at www.graphicpkg.com. Before I turn the call over to Mike, let me remind you that today's press release and the presentations made by our executives include forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. These statements are subject to risks and uncertainties that could cause actual results to differ materially from our expectations and projections. These risks and uncertainties include but are not limited to the factors identified in the release and in our filings with the Securities and Exchange Commission. With that, let me turn the call over to Mike.

Thank you, Melanie. Good morning to everyone joining us on the call and this webcast this morning. Let me begin my remarks on Slide 4 of the presentation. We delivered exceptional financial results in the third quarter. Our continued strong performance in net organic sales growth can be attributed to the global business portfolio we have built, diversified by both end markets and brands, strategic investments we have made, and the robust innovation pipeline we are cultivating. In the third quarter, net organic sales growth picked up sequentially, accelerating to 5% year-over-year. This represents another quarter of outperformance versus our long-term net organic sales growth goals. I remain very encouraged by our significant new product development pipeline and consumer demand for highly functional and increasingly more sustainable packaging. Interest and engagement from existing and new customers remains robust. As demand for fiber-based packaging to replace other packaging alternatives increases, we are capturing new business across our low-cost, well-capitalized, highly integrated platform. As such, our integration rate commenced to grow, with 74% of our paperboard production integrated into our packaging today compared to 72% at this time a year ago. Vertical integration is a competitive differentiator in today's challenging global supply chain environment. We benefit from the flexibility we have established by producing all three paperboard substrates and the assurance of supply we can offer customers. Importantly, our vertically integrated business model provides runway to further enhance operating efficiencies and supports our Vision 2025 margin expansion goals. Adjusted EBITDA increased by 55% year-over-year to $441 million resulting in an 18% EBITDA margin. Adjusted earnings per share excluding amortization improved 76% to $0.67 per share. Strong performance year-to-date is resulting in an increase to our previous $1.5 billion to $1.6 billion adjusted EBITDA guidance. We now expect adjusted EBITDA for the full year of $1.6 billion at the midpoint, reflecting a 52% increase over 2021. Our financial results are underpinned by a secular demand tailwind for more sustainable consumer packaging solutions globally. Importantly, and specific to Graphic Packaging, our ongoing execution of strategic initiatives and platform investments has strengthened and extended our global fiber-based packaging offering and positioned us to capture growth and demand. Price increases required to offset unprecedented commodity input cost inflation continue to be executed globally. As a result, we now expect $425 million to $475 million in positive price-cost relationships in 2022. The significant step-up in adjusted EBITDA resulting from the business drivers I've walked through on Slide 4 will drive strong cash flow generation. This year, as committed, we are focused on driving down our leverage ratio and expect to exit the year in the 3.1 to 3.3 times range. Slide 5 provides additional detail on the inflationary environment and pricing outlook. In the quarter, we continued to realize the pricing necessary to offset higher commodity input costs and recover the dislocation from 2021. $334 million of positive price flowed through the business during the quarter, more than offsetting commodity input cost inflation of $162 million. With roughly two months left in the fourth quarter, our full-year 2022 expectations for commodity input costs have tightened to a range of $575 million to $625 million. Pricing expectations for the full year are approximately $1.05 billion, up $100 million from guidance provided last quarter. Additional SBS pricing, along with other pricing initiatives, were realized and implemented during the third quarter. Our 2023 rollover price and commodity input cost ranges mark-to-market as of today are $375 million to $475 million and $150 million to $250 million respectively. As we have stated, we believe we will see inflation again next year, particularly in Europe. Similar to last quarter, I want to reiterate the rollover figures on slide five are directional in nature and are point-in-time estimates; we will provide guidance for our expected price-to-cost relationship for 2023 when we report fourth quarter and full year 2022 results in late January. Turning to slide six, let me provide a progress update of our K2 coated recycled board machine production ramp. We are pleased to host many of you in September for a look at 100 years of papermaking technology culminating with our largest capital investment in history, the transformational K2 CRB machine. As analysts and investors were able to clearly see during the tour, the machine truly does transform Kalamazoo into the most advanced manufacturing operation with technology, automation, and advancement in energy efficiencies. It is the largest and lowest cost producer of coated recycled board in North America. Production on K2 is ramping steadily and is ahead of plan. We have hit our targeted output of 1,500 tons per day on multiple days, averaging over 1,400 tons per day in September. With the new production on K2, we realized $17 million in EBITDA in the third quarter and expect to meet our $50 million target for 2022. Slide seven is an example of how our global innovation engine and customer partnerships continue to drive new business and organic sales growth. Established as part of Vision 2025, our partners pillar is focused on growing with the best customers in the best markets. We are excited to be doing just that by working with Unilever on a new product as part of the company's €1 billion Clean Future initiative. Unilever announced its Clean Future strategy in 2020 and its intent to change the way some of the world's best-known cleaning and laundry products are created, manufactured, and packaged. Where Unilever's largest detergent brand transformed its laundry capsule with new technology to be its most sustainable, they wanted to be a new package solution that was both recyclable and plastic-free. Our packaging developed for Unilever delivered those enhancements and will reduce over 6,000 metric tons of plastic from entering the waste stream each year. We are thrilled to partner with such a purposeful brand and company on this product launch. The laundry capsules along with the product's new packaging were launched in July and can be found in various outlets throughout France. Reception has been enthusiastic, and we expect to see new growth opportunities with different brands and in additional countries. Current design, product protection, and printability of our high-quality fiber-based packaging enhance marketing appeal for customers. The renewable aspect of the paperboard solution and the high collection and recyclability rates of paper provide proof points to our customers and our customers' customers that the sustainability efforts are making a positive impact. Turning to slide eight, reflecting on new opportunities we see across our markets for plastic substitution, we have raised the expectation of our total addressable market to $12.5 billion. You can see here many different products and packaging configurations under plastic substitution. This serves as a base for our diversified portfolio and the variety of packaging solutions we produce for a wide array of global customers and consumers. I will wrap up my prepared remarks by noting that our overall business remains resilient, and we continue to grow with our innovative solutions. We are meeting a need in the marketplace as global communities become increasingly more focused on sustainability. We are very pleased with our results in the quarter, strong outlook for the full year, and continued progress towards achieving our enhanced Vision 2025 aspirations. We are creating value through leadership with Vision 2025. The investments we have made to advance our capabilities and optimize our mill and converting infrastructure differentiate us. Our 24,000 employees are highly engaged and are truly running at different rates. With that, I will now turn the call over to Steve.

Thanks, Mike, and good morning. Turning to slide nine and key financial highlights in the third quarter. Net sales increased 38% or $669 million to $2.5 billion. Notably, net organic sales growth accelerated from 3% in the first half of 2022 to 5% during the third quarter. A positive price/cost relationship and our European acquisition also drove performance. Adjusted EBITDA margin expanded by 210 basis points year-over-year to 18% of sales. Adjusted EBITDA moved higher by $157 million to $441 million, an increase of 55% over the prior year period. Adjusted earnings per share, excluding amortization of purchased intangibles, increased 76% from last year to $0.67 a share. Our paperboard integration rate year-to-date improved to 74%, up 200 basis points from 2021. On slides 10 and 11, please find our sales and adjusted EBITDA waterfalls. Sales increased $669 million year-over-year, or 38%, driven by $334 million in pricing and $380 million in volume mix from organic sales and acquisitions. Foreign exchange was a $45 million sales headwind in the quarter. Adjusted EBITDA increased $157 million, or 55%, to $441 million in Q3. Drivers of EBITDA growth during the quarter were $334 million in price and $61 million in volume mix. We are earning on our organic sales and acquisitions that are meeting expectations. Partially offsetting pricing improvements and volume mix in the quarter were $162 million of commodity input cost inflation, $28 million of labor benefits and other inflation, $27 million of unfavorable net performance, and $21 million of foreign exchange. Within the net performance category, we recorded $38 million of increased year-over-year incentive accruals in the quarter and incurred some higher costs to meet accelerated organic sales growth. EBITDA from our CRB optimization and K2 machine ramp contributed positively during the quarter, adding $17 million to performance. As Mike discussed, we are on track to deliver $50 million of EBITDA from this transformational investment during 2022. Momentum in our production ramp will continue as we exit the year, delivering and expecting an additional $50 million in EBITDA in 2023. On slide 12, let me expand on quarterly financials, operating performance and capital allocation. Our food, beverage, and consumer businesses grew 20% before acquisitions during the quarter, driven by positive price and organic sales growth. Our foodservice business also achieved strong growth, up 29% from the same quarter one year ago. Turning to paperboard market data, the FMPA will report industry operating rates for the third quarter on Friday. Q2 industry operating rates remained very strong across substrates with SBS at 94% and CRB at 102%. Our CUK operating rate remains over 95%. Our teams worked tirelessly and were successful in capturing and servicing higher organic sales growth during the quarter. Backlogs remained strong at eight-plus weeks across all substrates. During the quarter, we returned $23 million to stockholders in dividends and repurchased $15 million in common stock, effectively eliminating shareholder dilution from long-term incentive grants. In September, our Board of Directors approved a quarterly dividend increase of 33% effective with the dividend payable in January 2023. The increase to our dividend payout is reflective of our balanced approach to capital allocation, the strength of our cash flows, and the significant progress we have made toward our Vision 2025 growth goals. Our net leverage ratio was 3.7 times at the end of the third quarter. We have rapidly reduced our net leverage ratio over the past 11 months following the European acquisition. We expect to be roughly 3.2 times levered as we exit 2022. Finally, liquidity remains healthy at over $1.4 billion. On slide 13, let me provide an update on expectations for the full year. As you saw in the third quarter, strength in organic sales, improved pricing, strong volume mix, and the K2 ramp are driving substantial results. We are increasing our adjusted EBITDA guidance at the midpoint by $50 million to $1.6 billion. This reflects growth of 52% over 2021. Expectations for sales for the year are now closer to $9.5 billion. Turning briefly to cash flow, we expect capital expenditures of $500 million to $525 million, as we make investments to capture current and future organic sales growth. Cash interest has moved slightly higher to reflect the current interest rate environment, while our range for cash taxes has declined. Adjusted cash flow is expected to be in the $600 million to $800 million range. Our guidance update on adjusted EPS excluding amortization can be seen on slide 14. Continued execution of our growth and margin expansion initiatives this year has increased our expectations for adjusted EPS. We now see a range of $2.20 to $2.40 per share, up from the guidance we provided last quarter. That will conclude our comments this morning. Let me now turn the call over to the operator for questions.

Before I provide instructions on the Q&A, please note that due to global connection issues this morning, if you experience any difficulties on this call, please contact Melanie Skijus and Investor Relations via e-mail. The first question is from Ghansham Panjabi with Baird. Your line is now open.

Thank you. Good morning, everyone.

Good morning, Ghansham.

Yes. Good morning. I just want to make sure you could hear me. I guess first off, Mike, obviously very strong momentum on the volume side during the third quarter as well. But we are starting to see some sort of concern on the consumer staple side especially in the beverage side. Can you just give us a sense as to how volumes progressed throughout the quarter? What you're seeing in terms of new product activity, maybe across both Europe and the US as well?

Yeah. Sounds good. I'll start and then Steve you can add some color to that. I think we saw a pretty broad-based strength across our overall business in the third quarter. It didn't change much materially from month to month. It was strong. Some of that, Ghansham, was a function of the fact that we had Kalamazoo up and running. We are creating more paperboard. We had Middletown running, so it created an opportunity for us to really service our business incredibly well with the fact we had paperboard to meet customer demand. As you look through the different verticals, we saw food and beverage growth. We saw mobility continue to be strong on the foodservice side of the business here in North America. Europe grew in certain categories, and a couple of them were down slightly. But overall, Europe had a positive growth trajectory, which we're pleased with. And as we've kind of rounded out of the third quarter and into early fourth quarter, today here we're seeing our growth at the top end of our kind of long-term target, so 2%, call it 200 basis points. And if we finish the year at that kind of level that will be fantastic, because what that will mean is for the third year in a row, we'll be above 3% organic growth. If you do a three-year stack on that it's over 10% in terms of organic growth. And as you know that's a real pivot from the kind of trajectory we had before that time period. So that's kind of how we're thinking about it and what we're seeing. And Steve, I don't know if you have anything else to add to that.

Nothing to add, Mike. I think you described it well. I think the broad-based nature of it was positive for us, both food service and core food and beverage. And probably the only thing to add is we can continue to identify a couple of hundred basis points of real new-to-the-market innovation products primarily in plastic replacements that are supporting the net organic sales growth.

Thank you for that. For my second question, can you share your thoughts on capital allocation for 2023? I understand you're focused on paying down debt this year. Additionally, regarding AR packaging, could you discuss some opportunities to leverage the innovations you've highlighted earlier this week? Any insights you can provide about this in relation to the US would be appreciated.

I'll start with that. I mean, I think that's been really one of the positives we've seen on the AR acquisition. We anticipated that we would learn and be able to kind of move trends that we're seeing across the globe much faster. That was part of our investment thesis. And as we talked about when we made the investment, Europe is really ground zero for sustainability. We see a lot of those trends come out of Europe, and that's part of what you see on the slide in the deck that showed the expansion of our TAM. We've got the ability to be able to increase that because we got line of sight into additional plastic replacement opportunities and expanded that now to $12.5 billion. So we're very pleased with what we see there. You saw an example of one of those products when we put in the deck that had detergent in what we did there with paperboard for Unilever. We're really pleased with that one and we anticipate we'll see continued acceleration of those kinds of trends and be able to leverage that really on a global platform. So we're excited there too. In regards to capital allocation, this was a year where we told everybody we were going to focus on debt reduction. And that's in fact what we've done as you've heard Steve say in his prepared remarks. We will finish at the midpoint of our guide around 3.2 times. We want to get down in the 2.5 to three times long-term target, which will be sometime next year probably early next year. And then as we kind of look at what's due with a strong healthy cash flow generation, what I love is the optionality we've got in the business. We've got the ability to look at game-changing M&A where it makes sense and comes with high returns and synergies that make sense to us. We can pursue capital projects, large capital projects to change our cost structure in our mills or our converting business. And obviously, we've got the ability to return cash to shareholders too. And you saw our Board here in September increased our dividend by 33% as an example, and we continue to buy back our dilution. So we've got all of those things available to us and we'll look at the types of returns we can see for shareholders along those lines. But ultimately going into an uncertain macro, what I love is that we're going to throw off a lot of cash. And if we actually drive our debt down a little bit for a period of time here where we're kind of watching the market develop a bit, that's not a bad option for us either. So I love the optionality that we've got, multiple levers to pull, and the team has done a fantastic job this year positioning the business with the acquisition of AR and the start-up of Kalamazoo really positions us heading into 2023 with a lot of momentum.

Great. Perfect. Thanks so much, Mike.

You bet.

The next question is from the line of Mark Wilde with Bank of Montreal. Your line is now open.

Thanks. Good morning, Mike. Good morning, Steve, and Melanie.

Hi. Good morning, Mark.

I wondered just to start off, Mike, can you just give us a little more color on what you're seeing over in Europe right now? It does seem like the economic pressure there is even greater than we're seeing in North America. And I wondered, kind of, when you talk about Europe, if you can also talk about what you're seeing from your customers in front of the winter season and prospects of energy cuts?

Hi, Mark. Good morning. It's Steve. I'll begin and then Mike can elaborate. As Mike pointed out, we experienced modest organic sales growth in Europe this quarter, which, considering the macroeconomic conditions and the challenging environment, was favorable for us in terms of consumer demand for food and beverages. We did notice a slight decline in our core beverage business as people returned to more out-of-home activities. However, as we approach winter, we anticipate a rebound due to the investments made in fiber-based packaging for home beverage consumption. Additionally, AR Packaging has performed well, achieving $118 million in EBITDA year-to-date, and we project reaching $150 million to $160 million for the year despite foreign exchange challenges and the current environment. This indicates strong performance at the operational level, and as Mike mentioned, innovation plays a key role. We recognize that the upcoming winter months could present challenges, and Mike can briefly discuss our energy strategies. So far, because we are not as energy-dependent as some other manufacturing businesses in the region, we have successfully met customer demand. Mike, do you have anything to add?

No. I think maybe just to add Mark so we buy 25 million MMBTUs in natural gas as a company. A little less than one of those is in Europe, because it's converting only as you know, and so our exposure there on the nat gas side isn't real high. We buy a fair amount of paperboard, one million tons on a global basis. So we're watching that. And obviously, you've seen the ability for those producers to push those prices along and we've got that reflected in our contracts and really in the mark-to-market that we gave you here as part of our prepared remarks. So look, I think all our customers are watching what's going on right now. The weather is good in Europe. It's been very good the last couple of weeks, and their injection levels are high. Nat gas prices have come down over the last couple of weeks from their all-time highs in June and July as you well know. But that can change quickly. And so we're monitoring closely. We've got really good communication between that business and Steve and myself, and in some cases it's changing on a daily and weekly basis. And that's part of why you saw in the mark-to-market, we have a range there of $100 million, and it's largely due to the fact that that inflation in Europe is just a little hard to call right now. And so we'll continue to watch it. We'll be aggressive around our pricing actions and make sure we cover that as we've been. And that's kind of how I think we're thinking about that operating environment.

Okay. That's helpful Mike. And then just for my follow-on, I wondered if you could just give us an update on a couple of conversion projects that you've talked about. One is using that mechanical pulp mill that you bought down in Augusta to potentially make FBB at Augusta and the other I think is the talk we've had about converting from SBS to CUK over at Texarcana. And I guess I'm asking those questions just in the context of all of this particular boxboard capacity. We're seeing the Scandinavians talk about adding.

Sure, thanks for the great question. We are continuing to run trials on the FBB pulp type we have in Augusta. We acquired a thermomechanical pulping operation adjacent to our property, which gives us some options that we are exploring, including analyzing costs and benefits. Similarly, we still have the potential to convert one of the swing machines in Texarcana that we discussed a couple of years ago. However, with our eight-week backlogs and the strong growth we've experienced, we haven't felt the need to take action on those projects. We are also assessing our CRB platform; the start-up in Kalamazoo has gone very well, and we are pleased with the new machine's performance. As we consider our strategy at Graphic, we have several options to explore, and we are making efforts to be prudent in our capital allocation, keeping a medium to long-term perspective in mind. This includes evaluating what we can produce and integrate into our operations versus what we may acquire externally, which amounts to about one million tons. Our leadership team is continuously reviewing this and discussing it with our Board as we move forward.

Okay. Very good. I’ll turn it over. Thank you.

Thank you for your question. The next question is from the line of Mark Weintraub with Seaport Research Partners. Your line is now open.

Thank you. First, kind of a smaller question, but on the incentive accruals of $80 million this year, what would be more typical? And so, do we then therefore get some sort of assuming it's a lower number next year, do we get almost like a double catch-up next year? We get a bump next year on the bridge?

Yes, Mark, it's Steve. As you know, last year we had significant underperformance on incentives driven by the inflation that rolled through the business; this year I'd characterize this as a return to more normalized incentives, both short and long term as we kind of put the bridge together. Obviously, we'll look to continue to perform at that level. I wouldn't assume a significant snapback in 2023 to consider this a little bit more at the more normalized level. There might be a modest one. We'll be able to articulate that with guidance in January, but that's really a return to more normalized compensation.

Got it. Thank you. And also, when you're doing the mark-to-market, when was the date that was as of? Is that as of kind of very recent? Does that capture what's been some pretty big declines in recovered paper pricing in the recent past?

Yes, Mark, it's Steve. It's mark-to-market as of the moment we're talking, as we kind of pull things together as we head into this conversation. So, it's very current. So it takes into consideration latest SBS pricing on the pricing front; it takes into consideration what we know. As Mike just mentioned, though, one of the reasons we've got a bit of a range on it, on the cost side into 2023, is just because of variability in Europe. We're obviously in a day-to-day mode in Europe, in terms of knowing even what the mark-to-market is for certain costs that we're managing through. And so, we think that overall, the midpoint of the price and cost is very representative of if you truly did mark-to-market that those would be the numbers, both price and cost, but the variability is a bit wide right now, primarily driven by Europe.

Okay. Appreciate the added color. Thank you.

You bet. Thanks, Mark.

Thank you for your question. The next question is from the line of George Staphos with Bank of America. Your line is now open.

Hi, thank you. Good morning, everyone. I hope you’re doing well. I appreciate the information provided. My first question is about your expectations for top line and volume growth. Mike, could you elaborate on how the addressable market increased from $9 billion to $12.5 billion? What specific factors contributed to this growth? Additionally, how are the new products you are introducing helping to drive growth while ensuring consumers are willing to pay, especially in the current inflationary environment? How do you manage the risk of demand being inflated due to customers placing double orders, considering that backlogs are currently around eight weeks? We’ve observed instances where ordering is done more as a precaution than an actual need, which could lead to a decline in demand. I also have a question regarding capital allocation.

I'd like to start with the latter part, George. As you recall, our growth has been around 3%. This past quarter was particularly strong. In fact, we have exceeded our medium and long-term goal of achieving 100 to 200 basis points, which we consider to be the right target for our company over time. We have outperformed that goal over the last three years. If we examine our performance, we haven't experienced growth rates of 10% or more like some other packaging companies have over the past couple of years. Our growth has been quite steady. In the first and second quarters of this year, we noted that we were a bit behind our desired level of service for our customers, with backlogs extending beyond 10 weeks, which is longer than we would like. We are now pleased that our backlogs are at a strong eight weeks, which is historically a good level for our industry and allows us to serve our customers effectively. Regarding customer inventory building, we have limited visibility, but given the current macro environment, it seems that there isn't a strong desire to build up working capital. If there is any inventory buildup, it does not appear to be widespread. We will continue to collaborate with our customers to ensure they have what they need, and we’re seeing improvements in our service levels, with our on-time and complete deliveries returning to around 90%, where we expect them to be. It's been around six to nine months since I've been able to say that, so we’re happy about it. In terms of the growing addressable market, George, that's largely due to our innovation and design teams globally, enhanced by the capabilities we gained from AR Packaging. We are actively exploring different segments and markets to find opportunities for paperboard and consumer-based fiber packaging. Every earnings call, we try to showcase different aspects of our margins to highlight what we’re observing. For example, Unilever has made a notable commitment to go 100% paperboard, creating an attractive, childproof package that features excellent graphics and a strong sustainability narrative. We see our customers continuing to prioritize this approach in line with their ESG goals and public reporting, which aligns with our offerings. Our team in Europe, along with our additional resources, is working diligently to identify market segments where we can achieve significant growth and add value for customers, and this strategy is proving successful. This gives Steve and me confidence that our goals of 100 to 200 basis points and the commitments we made as part of Vision 2025 are appropriate for our company.

And George, just to add to Mike's point specifically on the $12.5 billion, it's plastic replacement is a category, so the actual broad-based category, and of course, it's consumer based. And so I think it speaks right to the heart of our food beverage, foodservice consumer packaging. So, consumer and plastic replacement are really kind of what's been honed in on to allow us to increase that addressable market.

Okay. Just a quickie, it's not a huge number, but the increase in CapEx can you talk about what drove that? Any key end markets to the extent that you can share on life Mike? Thanks guys and good luck in the quarter.

No, thanks George. And we're pleased to actually take it up a little bit because it's all about organic sales growth both known projects that we're investing behind at the $2 million to $5 million type of investment out of time. These are typically modest-sized investments that are high return for us to have the capacity, mostly converting capacity in the case to capture the growth. And so think of it as categories like we were just talking about, a fiber bowl replacement or that kind of replacement or a cup replacement into fiber. So, these are primarily organic sales growth capture investments that will give us confidence in the 100 to 200 basis points on a multiyear basis.

Okay. Thanks. I'll turn it over.

You bet.

Thank you for your question. The next question is from the line of Kyle White with Deutsche Bank. Your line is now open.

Hey good morning. Thanks for taking the question. I wanted to go back to I believe it was Ghansham's earlier question. We had a beverage can peer report some weak volumes especially in September. Curious if you guys saw a noticeable drop off in September on your CUK grade, or was this being offset elsewhere, or is it something that maybe you expect to occur in October?

Hi Kyle, it's Mike. We had a little problem there. Can you repeat the question please?

Yeah. Apologies about that do you hear me better now?

Yeah. Yeah we got you. Good.

I wanted to return to Ghansham's question about the weakness reported in beverage can volumes, particularly in September. Did you notice a significant drop-off in demand for your CUK grade during that month, or do you anticipate this happening in October? Can you provide any details regarding this specific grade?

Yeah. No, we have not seen a meaningful drop-off on our CUK. As a matter of fact, our demand remains strong. But remember, it's much more broad-based than just beverage. Beverage is a big market for us, but we're now in the frozen food market. That's really strong there. There's a lot of strength applications for CUK. And we buy a fair amount of it as you know Kyle, globally too. And so every time that we're making out of making in West Monroe we've got a plan for both in 2022 and 2023.

Got it. And then a lot of the volatility on OCC here recently, just curious what your near-term outlook is for that and then, what you think it will average out for next year. And then, more importantly, how should we think about the relationship between OCC costs versus kind of coated recycled board pricing over the long-term?

Sure. I can address that. Steve can add anything further. Paperboard pricing, like other commodities, is influenced by supply and demand. We currently have an eight-week backlog for all our materials and we've seen a 5% growth this quarter. So far in October, we're at a 2% growth rate. This ongoing growth necessitates paperboard, as every package requires it. Regarding the comments in certain trade magazines about OCC, I understand why paperboard buyers might be concerned since OCC prices have dipped slightly. However, they may not fully grasp the responsibilities that Steve and I hold, which enable us to provide accurate insights into the situation. Our backlogs exceed eight weeks, which includes the acceleration at our Kalamazoo facility while we continue operations at our Middletown mill. We need those production volumes to support our business. As Steve mentioned in his remarks, the FPMA data will be released on Friday, giving us further insights. We have a significant presence in this market, so we feel well-informed. Ultimately, the pricing relationship between OCC and paperboard relies on supply and demand, and right now, demand remains strong.

And Kyle, the only thing I'd add is just specifically for you is that OCC on a year-over-year basis will turn into a deflationary environment in Q4, but it's been more than offset by the ongoing inflation we're seeing for external paperboard, chemicals, net energy, et cetera. Hence the continuation of net inflation that we're managing even here in Q4. And then, for our mark-to-market, we're just assuming as is.

Got it, it’s helpful. I'll turn it over.

Thanks, Kyle.

Thank you for your question. The next question is from the line of Cleve Rueckert with UBS. Your line is now open.

Hey. Good morning guys. Thanks for taking my questions. I just wanted to go back to organic growth. And I guess, specifically just sort of looking at slide 8. In the past we've said that most of this growth is mainly driven by new products and not necessarily accelerating growth within the existing portfolio. Steve, you touched on it a minute ago in sort of response to George. But I'm just wondering, what do you have to do now to access this addressable market? I mean, is it mainly that sort of incremental investment in the downstream converting capacity as you sort of explore opportunities in R&D with your customers? Is that what we should expect you to focus on for the next couple of years?

Yeah. No, Cleve, I think that's right. I mean, the reality is as you know innovation in our segments take time. And so the team as we continue to look at that, ongoing 100 to 200 basis points, it's multiyear in its orientation. It's what's our line of sight in 2023 to give us confidence that there's at least a couple of hundred million dollars there. Do we have line of sight to even convergence in 2024, 2025? Because some of these conversions for our customers are multiyear in their orientation, like you've seen with KeelClip; it takes years for it to totally play out. So that's why that backlog of opportunities is significant. We're looking out even today, probably out to 2025 for certain projects that we already some of the investments we're talking about making are to support multiyear initiatives. So it is about today but also it's multiyear. I don't know, Mike anything to add.

No. Well said Steve. I think the other part of it, Cleve, Steve mentioned this earlier on the call regarding the increased CapEx is we're investing behind this. And we've got to have the capabilities to drive that level of growth and those innovations, and it requires investment on our behalf. But that also makes us quite sticky with that end-use customer. And those are categories we really want to win in because we believe that our fiber-based solution has a unique competitive positioning to be able to do it in many cases replacing plastic as we've talked about here. So it's a combination of really strong innovation and design capabilities that we've invested in heavily over the last three or four years in terms of human capital and process capabilities, as well as the CapEx and the investments that we've made in our converting operations to support that. And you've really got to do both. And I think that we're really hitting our stride along those lines and making a pivot away from what historically had been a company that had great operating problems and focused on cost reduction in a flat market. And we did a really good job with that to one where now we truly are driving meaningful top-line growth that's been over a number of years, and that's the DNA we're really trying to build and the pivot that we've made as a corporation. Hopefully, that's coming through and you're seeing that.

Yeah, I mean low cost highest quality well-capitalized tends to win the day over time and our customers recognize that too, because they want to invest behind a company that's willing to put the dollars to work.

Yeah, that's a great point. Thanks for making that clear. And just one, I guess another follow-up on an earlier question, but we get the question all the time. So I want to pose it to you. It relates to paperboard capacity especially from competitors. I know we've talked extensively about the North American market on these calls before. But I guess just thinking about capacity expansions in Europe and also in China, how does that affect your business? I mean, how should we think about it? And how are you thinking about it and planning for some of these changes? And then more so outside the US than inside?

I appreciate the question. It's an important one. And I guess parse apart a little bit you talked about both China and Europe because they're different in terms of what's going on there. But first, what I'm going to say is we share a common view that the market is going to continue to grow. I think we've demonstrated that over the last three years of what we've been able to do. So there's going to be a need for more paperboard here in the future. The question, of course, on investors' minds is it should be is what do those operating rates look like? Are the tons covered, where do they go? And what are the implications? As we think about China and those of you on the call who've followed that market for a long time, I mean ivory board has been overbuilt in China for the last two decades plus, and a very modest amount of that actually makes its way to North America. I think last year it was less than 25,000 tons. And the primary reason for that is the vast majority of the mills in China or non-integrated in both cost and energy, which makes them high cost. And so they tend to service that local market quite well. But that stuff just really doesn't export well to different geographies because of the costs associated with it. So it's not to say that it can never show up here, but the cost structure and the cost curve over the medium-term just, it's disadvantage. There's no other way to say it against North American and European consumers. So that's how we think about China. In terms of Europe and some of the announcements that have been made, to be fair some of these have been just hypothetical, look, I'm looking at potentially doing this. I'll let you know in 2024 what I'm thinking type thing versus a very well-capitalized company last week announced they're going to spend €1 billion, which is a lot of money. And by their own estimation create Europe's lowest-cost FBB mill. And look, that makes sense to me given what they're spending, given they have an existing mill location to put that money into it. And what I believe will happen over the next few years is that machine comes online in 2025, that's what they said at least, is that that will put a fair amount of pressure on a lot of non-integrated small FBB and recycled board manufacturers in Europe, particularly given the energy situation that's playing out there now, that I don't anticipate will be materially different over the next two to three years. So, time will tell. We'll have to kind of see how that all plays out. Ultimately, the question for investors as it relates to Graphic Packaging is what the implications are for the imports here into the US, as they stated that some of that material could come to the US. I think that's a hard question to answer for me to answer right now for anybody to really know for sure, because it comes down to what's FX doing, what are costs doing in 2025, which is a long ways away from now. So, what we know for sure is that Graphic Packaging is going to throw-off a lot of operating cash flow over the next few years. I think we've done a very good job of reinvesting it intelligently back into our business to create value for shareholders. And we're going to be a very, very strong company in 2025. And so, we'll be ready to respond based on what happens there and how it kind of all plays out. And we'll be very thoughtful in terms of the decisions we make around investments back into mills, how we manage our supply and demand to grow our business. But what we'll continue to do, Cleve, is drive our integration rates up. You saw we had 200 basis points of improvement this year. We'll make progress again next year. And by 2025 that will continue to grow. And so, that's how we kind of think about it. And as I mentioned earlier, when Mark asked the question around kind of what are you thinking in terms of potential investments back into CUK, FBB, or CRB, it's through that lens that we study this. We spent a lot of time thinking about those trade flows, where we buy tons, what we make, how we integrate it into our own business, and how to create the most value for shareholders over time. So, it's a very thoughtful process that we spend a lot of time on as a leadership team and as a board. And you can rest assured that that will continue to be the case here going forward. So hopefully, that gives you a little bit of color on the topic. And I appreciate you asking the question.

Yeah. Appreciate it.

And Cleve, the only thing to add kind of to round it out to Mike's point just, in North America probably as of this morning, any additional investments here in North America are probably out in the 2026 timeframe at the earliest based upon at least most recent facts from other competitors.

Appreciate it. Thank you very much, guys.

You bet.

Thank you for your question. The next question is from the line of Mike Roxland with Truist Securities. Your line is now open.

Thanks Mike, Steve, Melanie. Congrats on another good quarter.

Thank you, Michael.

Mike, I wanted to follow up on the CRB and the more than eight weeks of backlog that you mentioned. I’ve seen some reports indicating a decline in CRB demand, so I’m curious to hear what you’re experiencing in your business regarding CRB. Is the slowdown in the backlog due to decreased demand, or is it mainly a result of improved supply chain conditions that have helped you reduce the extended backlogs?

Yes. It's hard to know for sure what other people are seeing. So, I'll speak to Graphic, Michael, but we have an eight-week backlog on our CRB business today, and that's with a ramp in Kalamazoo that's gone better than planned, and the Middletown mill continues to operate as we said it would into the future here. So, those combination of two factors are really what we're seeing. And so I don't know as I kind of indicated earlier, what someone else is seeing when they say they've got a four to five-week backlog. Again we don't have clear visibility into all that. All I can say, as a producer of about roughly half of that material, we haven't seen that. Our demand has remained strong. The center of the store is actually pretty good. I think you've seen some of our customers, they've taken a lot of price, but their volumes are holding in there, maybe down 1%. And I think the other thing to remember, Michael, for us is that over 20% of our actual portfolio business here in North America fits into the store brand or private label sector. So, if a customer is trading down for whatever reason, we tend to participate at an equal level there, if not a little bit more, which is purposeful on our behalf, and we built the company over the last really decade to be able to do that is that portion of the business continues to grow. So we might be benefiting more than others; it's hard for me to know. We will look on Friday and see what the data says, but I think overall, the robustness of our backlog on three substrates remains very good.

And to repeat something Mike said earlier, actually moving from 10 weeks to eight was actually a benefit for us in terms of our ability to meet customers' expectations; still significant demand, but it's actually a healthier customer relationship experience as well for them in terms of ability to get them product on time in full.

Got you. I appreciate the color there. And just one quick follow-up on Kalamazoo. Mike, you mentioned this in your commentary that it's ahead of schedule. I think you mentioned the same thing on the field trip as well. If the mill is running better than you anticipated, I guess, can you provide some color around why you're reiterating your EBITDA guidance and don't see upside to those numbers that you've laid out there if it's actually running a lot better than you anticipated?

We are very pleased with our daily operations as we ramp up to over 1,400 tons a day, which we detailed earlier. Our performance includes $17 million in Q3 and over $30 million in Q4. We have strong confidence in achieving $50 million and the next $50 million as well. So, we want to emphasize our high confidence within the framework of our overall guidance; the returns are solid.

Yeah. I think that's well said, Steve. I mean, when you look at 2023, Michael, we said there was $50 million there. We feel really confident in that.

Thank you for your question. The final question will be from the line of Gabe Hajde with Wells Fargo. Your line is now open.

Good morning, Steve.

Good morning.

Good morning.

And I apologize I joined a little bit late. So, but I'm a little surprised I take to the last question to try to take a peek around the corner into 2023. And I guess I apologize, if I missed it. But if I take the midpoint of the mark-to-market on price costs seeing to apply 225, even if I assume kind of flat volumes, we assume that the $50 million from Kalamazoo plus maybe a little bit more of normal graphic productivity. It seems to me like inflation non-material-related or non-input costs related might be running maybe 80 to 100 would seem to imply I don't know directionally a EBITDA number? And then I guess on the bottom end, if I were to annualize and I appreciate this isn't the best way to do it, but maybe the midpoint of Q4 call it 405 410, would it kind of get me to, I don't know, 16 20 number. Are there pieces parts in there that we're missing? And I appreciate that you're trying to forecast in the future and we don't know the biggest component which is price cost or swing factor I should say?

Yeah, Gabe, it's Steve. I think we provide more insight into 2023 than anyone else in our sector, and I know you recognize that we aren't offering guidance just yet. We will do that at the end of January. We have publicly mentioned a few things. Your basic assumptions are correct; the company will operate similarly to how it has in the past. However, next year, we will face FX headwinds, the possibility of not having the Russian business, and we expect more maintenance downtime, which we estimate could be about a $50 million year-over-year headwind. We will give complete detailed guidance once we transition out of this quarter and into 2023.

I appreciate that. All right. Thanks guys. Good luck.

Goodbye.

Thanks, Gabe.

I want to thank everybody for participating in the call today. I apologize to anybody we were not able to get to in terms of the queue and for any issues with sound quality that may have been out there given some of the web problems we're experiencing today. I hope you're all able to join us in January for our fourth quarter and full year 2022 results and an update on our continued progress towards achieving the goals established with our enhanced Vision 2025. And with that, I hope you have a great day. Thank you. That concludes the conference call. Thank you for your participation. You may now disconnect your lines.