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Avery Dennison Corporation (NYSE:AVY)

Q4 2008 Earnings Call

January 27, 2009 2:00 pm ET

Executives

Eric M. Leeds – Head of Investor Relations

Dean A. Scarborough – President, Chief Executive Officer & Director

Daniel R. O’Bryant – Chief Financial Officer & Executive Vice President Finance

Mitchell R. Butier – Vice President, Chief Accounting Officer & Controller

Analysts

Jeffrey Zekauskas – J. P. Morgan

Reik Read – Robert W. Baird & Co., Inc.

Joseph Naya – UBS

George Staphos – BAS-ML

John E. Roberts – Buckingham Research Group

Ghansham Panjabi – Wachovia Capital Markets

Operator

Welcome to Avery Dennison’s earnings conference call for the fourth quarter and year ended December 27, 2008. This call is being recorded and will be available for replay from 2 pm Pacific time today through Midnight Pacific time through January 30, 2009. To access the replay please dial 1-800-633-8284 or 402-977-9140 for international callers. The conference ID number is 21411859. I would now like to turn the call over Eric Leeds, Avery Dennison’s Head of Investor Relations.

Eric M. Leeds

Our discussion today will reference the earnings release that we issued earlier along with the supplemental presentation materials entitled fourth quarter and full year 2008 financial review and analysis. Both documents were furnished today with our 8K and posted at the investor section of our website at www.investor.averydennison.com.

Our news release references GAAP operating margin which includes interest expenses, restructuring and other charges included in the other expense line of our P&L. Also referenced are transition costs associated with acquisition integrations. Restructuring charges and integration transition costs tend to be fairly disparate in amount, frequency and timing. In light of the nature of these items we will focus our margin commentary on pre-tax results before their affect and before interest expense.

This detail is in schedule A2 to A5 of the financial statements accompanying today’s earnings release. Slide 18 of the presentation contains a reconciliation of the affects of acquisition integration costs. We also remind you that we’ll make certain predictive statements that reflect our current views and estimates about our future performance and financial results. These statements are based on certain assumptions and expectations of future events that are subject to uncertainty.

The Safe Harbor statement included in the documents we published today along with our recent Forms 10k and 10Q address the most important risk factors that could cause the actual results to differ from our expectations. Here today are Dean Scarborough, President and CEO; Dan O’Bryant, Executive Vice President and CFO; and Mitch Butier, Corporate Vice President Global Finance. I’ll now turn the call over to Dean.

Dean A. Scarborough

While 2008 was tough year I want to emphasis that despite the challenging global economy we did deliver record free cash flow. In response to the economic environment, we are accelerating our cost reduction and productivity initiatives. These actions will reduce our cost structure, increase our competitive advantages, strengthen our balance sheet and add operational flexibility. Despite the recent economic turmoil we will continue to generate robust cash flow and will emerge with even greater market leadership when the economy improves.

Let me just describe some of the actions we are taking. We launched a major restructuring effort in the fourth quarter with a target to achieve more than $150 million of annualized cost savings. We’ve eliminated merit increases for 2009 except in countries that have very high inflation or where we are legally required to do so. We are adding free cash flow as a key metric for our management bonus program. New and more aggressive targets have also been set to reduce working capital.

We are reducing capital and IT spending to $135 million which is a 30% reduction from an already reduced level in 2008. We are accelerating our investment in enterprise lean sigma which enables us to capture cost savings while at the same time improving service to customers. We’ve renegotiated our loan covenants to improve flexibility and to enable our cost reduction actions and we will soon offer to exchange our HiMEDS convertible securities which would result in further deleveraging.

These actions to improve liquidity assist us in the event of a protracted downturn while generating the cash flow to pay dividends and reduce debt. The uncertainties of today’s economies have limited our ability to forecast with confidence our 2009 results. We have no visibility on the timing of a recovery. Raw material and pricing trends are also very difficult to forecast in this environment so our mindset is to prepare for the worst case scenario and to focus on cash generation.

In the absence of giving guidance we’ve provided examples of our scenario planning which indicate that even if recent revenue trends continue, we still generate significant free cash flow. Now, just turning to a quick review of our segments, in the fourth quarter all of our businesses felt the effects of the slowing economy. In each segment customers curtailed orders and in office products in particular worked off inventories to preserve cash.

In pressure sensitive materials after showing signs of improvement earlier in the year, sales declined in the fourth quarter in the US and European markets. Sales in emerging markets continued to grow in the quarter but just slightly as we felt the impact of the slowing economy everywhere in the world. Raw material inflation persisted driven primarily by constrained capacity in specialty paper markets.

Once again, inflation outpaced our price increases and the benefits that we were able to gain from our restructuring and other productivity initiatives. In retail information services, sales declined further in the fourth quarter as retail conditions in North America and Europe continued to decline. We’ve essentially completed the Paxar integration, capturing over $120 million in savings. Moving forward we’ll focus on two major initiatives, we are moving quickly to reduce our fixed costs in anticipation of another poor year in retail and apparel.

We are also investing in new capabilities to streamline and standardize our order to delivery process. This will enable RIS to provide industry leading service with much lower operating costs. This will require some investment this year but will enable us to achieve our operating margin objectives when the market recovers.

Office product sales continued to decline reflecting the softening retail environment and customer destocking. Inflation continued to put pressure on margins despite increased productivity. We’ve carried a fair amount of inflation in this business throughout 2008 and while we’ve seen some improvement our January price increases are an important step in margin recovery.

I want to emphasize that even in the current market conditions we are still investing in key growth programs that are critical to our long term future. We’re protecting R&D spending. We are continuing our investments in radio frequency identification and will expand in to the high frequency market later this year. Our entry in to Japan has been enthusiastically endorsed by key customers and partners in that market and we do expect significant growth there in 2009.

We are investing in two new decorating technology capabilities in the pressure sensitive business and we have a number of new product introductions slated in our tapes, graphics and RIS businesses. With that, I’ll turn the call over to Dan.

Daniel R. O’Bryant

Let’s begin with an overview of full year 2008 on slides four and five of the handout. Reported sales for the full year 2008 were up almost 6.5% with the growth attributable to acquisitions and the benefit of currency translation. Full year sales on an organic basis reflect the progressively softening market conditions faced throughout the year with sales declining just over 3% for the full year.

While emerging markets continued to outperform developed markets during the year, the slowdown has been global. Two of our largest businesses, pressure sensitive materials and retail information services were among the first to feel the impact of the recession early in the year. Hopefully they’ll also be among the first to feel the turnaround when it occurs. But, as Dean pointed out so far we haven’t seen much improvement from the fourth quarter run rate. The cost reduction and productivity improvements that we’re implementing should provide us with significantly increased operating leverage when market conditions do improve.

Let me start with a few comments on 2008 in total and then I’ll provide some detail on the fourth quarter. As we’ve been discussing over the last few quarters we incurred significant raw material inflation in 2008. Approximately $125 million of higher costs than in 2007 combined with a period of weak underlying demand. These were the primary factors that drove 2008’s consolidated operating margin down 2.5 points versus 2007.

While we were able to get some selling price improvements our price inflation gap is still sizeable. Some are surprised that we are still facing inflationary pressure with pulp and oil prices both declining there’s a question of why our material costs haven’t come down. Most of the materials that we buy, particularly on the paper side are specialty grades. Material suppliers have been reducing capacity, refocusing their businesses and consolidating, keeping material costs up in a number of key raw material areas.

So, while we are experiencing relief in some of the materials we procure, the decline in pulp and oil prices have not driven meaningful deflation for us. To help offset the high inflation, we implemented price increases in 2008 and we put in place additional price increases at the start of this year. As we’re still behind the curve in inflation we’re continuing to work to reduce material costs through global sourcing and reengineering of our products.

While we do believe raw material costs will moderate if the current economic environment persists, it is difficult to predict the timing and the overall impact of raw material declines on our pricing. So, finishing up Slide Four you may recall that at the beginning of 2008 we targeted achieving 85% of the Paxar acquisition synergies by year end with the remainder realized in 2009. As Dean mentioned, the 2008 Paxar integration was essentially complete and as we go forward we’ll have the full $120 million of recurring benefit.

Turning now to Slide Five I’ll give more specifics on our restructuring plans which once implemented are expected to yield significant recurring savings. Again, our primary goals here are to right size our fixed costs to current market conditions to maximize the operating leverage when market conditions improve. So, in the fourth quarter of 2008 we began to implement a companywide restructuring program targeting more than $150 million in annualized savings over the next two years.

Our actions will impact approximately 10% of the company’s global work force and we expect roughly $70 million of incremental restructuring savings from these actions in 2009. We will not be providing a lot of detail on locations and business impact because we have not finished announcing our plans internally.

So, summing up 2008 some facts that we think are the best examples of Avery Dennison’s resilience to tough market conditions notwithstanding the challenging environment we achieved record free cash flow of $365 million and retained uninterrupted access to capital throughout the market turmoil. We deleveraged our balance sheet by $160 million since our second quarter 2008 acquisition of DM Label. We remained in compliance with our bank covenants and amended the covenants going forward to create a carve out for our restructuring program. The new terms will also provide additional operating headroom for the next couple of years.

While on the topic of deleveraging, in a separate news release issued today, we announced that during the first quarter of 2009 we intend to offer to exchange our HiMEDS coverts. While their conversion isn’t mandatory until November of 2010, taking the dilution now instead of then is appropriate given the benefits the company will receive from having lower leverage in today’s environment.

Now, let’s turn to Slide Six to begin the discussion about the fourth quarter of 2008. Reported sales were down 11.8% compared to the prior year. Sales on an organic basis were down 8.1%. currency translation explains four points of the difference with a roughly $0.05 of impact to earnings per share.

While we don’t normally talk about the results of months within a quarter, the fourth quarter of 2008 merits exception. Revenue on organic basis declined approximately 4% in October, 5% in November and then 14% in the month of December. In December, 2008 many of our customers just simply shut down. In office products December usually is a strong month for us as customers build inventory ahead of price increases and work to hit volume based rebate tiers. The opposite occurred this December as customers are managing for cash and curtailed their purchases.

While it’s way too early to predict the first quarter of 2009 I will say that orders are looking a lot like the slow month of December. It appears that the normal holiday slow down has been deeper and has continued through much of January. We’ve seen marginal improvement in a few areas over the last week or two but not enough to call a trend. Fourth quarter operating margin before restructuring and asset impairment charges and transition costs declined to just under 5%.

Now, on Slide Seven, adjusted earnings per share of $0.65 in the quarter excludes $0.22 for restructuring charges, asset impairment and transition costs. Our effective tax rate for the quarter was -51% bringing our full year 2008 effective tax rate down to 2%. The -51% in the quarter reflect a net benefit of $25 million from tax planning actions, from changes in tax reserves and statutory rate changes and there were also changes in geographic income mix that impacted both the quarter and the full year rates. Now, the ongoing annual tax rate is expected to be in the low 20% range although it can vary significantly from quarter-to-quarter.

Now let me walk you through the story on fourth quarter sales on Slide Eight. Looking at organic growth trends on a regional basis sales in the US declined approximately 14%. In Europe, sales before currency were down 6%. Asia declined 6% on an organic basis primarily due to the weakness in apparel exports to the US and Europe that impacted retail information services. Our raw materials business in Asia grew very modestly in the quarter. Sales in Latin America were down 6% versus the prior year on an organic basis in part due to retail information services but also due to raw materials.

Looking at margins on Slide Nine, on an adjusted basis operating margin declined to 4.9%. Our price increases in the fourth quarter continued to work in to the inflation gap that we’ve had all year but the rapid volume decline in most businesses really drove the margin story. Dean has already gone through the segment discussions and we’ve talked about cash flow so let’s skip ahead to Slide 15 where we’ll provide the detail on our covenant amendments.

Last we week completed the amendments to our bank agreements which are outlined on Slide 15. These changes enable us to proceed with the restructuring actions that we described and give us more headroom to run the business during this economic cycle. In the fourth quarter we were in compliance with our covenants.

On Slide 16 to 17, we list some of the contributing factors to 2009’s financial results. Now, we’re providing these so you can better understand the models in the 2009 section of the news release and at the bottom of Slide 17. While we’re not providing a 2009 earnings forecast, we do want to provide you with some of the key factors that are going to drive our results over the next year.

Our focus is on generating free cash flow. We’ve been reviewing several scenarios to prepare ourselves for a very uncertain outlook. For example, if the fourth quarter 2008 revenue trend continues through 2009, meaning an 8% decline for the year on top of the slow 2008, we could deliver approximately $1 per share of adjusted earnings. Most important, approximately $260 million of free cash flow.

If 2009 revenue on an organic basis is down about the same percentage as it was for all of 2008, which was 3%, we estimate approximately $2 per share of adjusted earnings and about $300 million of free cash flow. The good news is that under either scenario we continue to generate free cash flow.

Now, before turning the call back to Dean we want to stress that these models are not guidance, they are for illustrative purposes only. With that, let me turn things back to Dean for some additional comments before we take your questions.

Dean A. Scarborough

2008 was a tough year and I believe that 2009 will be just as, if not more challenging. Now, we’re fortunate that most of our products are on some kind of consumable rather than durable product. People still buy apparel and shampoo and beer during a recession. Only about 15% of our business is impacted by the durable goods sector.

We are a market leader in most of our core market segments. The strong market positions and competitive advantages enable us to generate strong cash flow in a down market. We’re managing the company with a plan for the worst mentality. We’re reducing our fixed costs aggressively, we’re reducing capital spending and focusing management on generating free cash flow. We’re taking steps to ensure our liquidity and we are still investing in a few focused areas that will help enable our future success.

All this will enable us to endure a protracted downturn if we need to and will enable significant upside when the recovery comes. Now, we’re happy to take your questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from Jeffrey Zekauskas – J. P. Morgan.

Jeffrey Zekauskas – J. P. Morgan

In the office and consumer products area your profits held up very well excluding charges and I think your sales decreased about $35 million but your operating profits were up a couple of million. How did you do that?

Daniel R. O’Bryant

Well, we have been raising prices in that business as we’ve carried the inflation for a good part of 2008 that had not been carried on to customers. That’s part of the equation. We’ve also driven a lot of productivity in that business. They are out ahead of the rest of Avery Dennison in terms of their use of enterprise lean sigma principles and that has really driven an awful lot of productivity so they’ve managed their business quite well under pretty slow circumstances.

Jeffrey Zekauskas – J. P. Morgan

So there are no asset sales or gains in those numbers?

Dean A. Scarborough

No, those are the real operating numbers.

Jeffrey Zekauskas – J. P. Morgan

If I recall you’re now on FIFO instead of LIFO. Are there any FIFO affects that you’ll feel either in the fourth quarter or in the coming quarter, the first quarter.

Daniel R. O’Bryant

I’m not sure what you mean, we’ve been on FIFO now for two or three years I think.

Jeffrey Zekauskas – J. P. Morgan

Right but aren’t your raw materials really going to come down as you purchase new raw materials but what you have to do is use your raw materials in inventory which are much higher costs?

Daniel R. O’Bryant

When you look at our inventory turns there is a leg between – if you’re talking about raw material inflation or deflation, there is a couple month lag from when we procure it to when it actually hits the P&L, if that’s your question.

Jeffrey Zekauskas – J. P. Morgan

I guess the restructuring you have, you’re going to lay off about 10% of your work force which I think is about 3,700 people but the savings is only about $70 million. Why is the savings so small relative to the number of people?

Dean A. Scarborough

The restructuring that we’re doing is weighted towards our retail information services business. We’ve completed the integration and this next wave of savings there in productivity is going to be substantial. A lot of those people are not in the US, they’re in Asia, many of them in China so there is a little bit a of a disconnect perhaps between the total savings and the total headcount but the real impact on that business is the improvement it will have on our customer service. We really are driving a transformation of that business that will benefit us in the market place. But that’s why the dollars and the headcount may not run parallel.

Jeffrey Zekauskas – J. P. Morgan

Lastly, what’s the gap that you’ve got between your raw material price inflation and your pricing either for the 2008 year or for the quarter?

Daniel R. O’Bryant

We’ve been running with a gap of about $20 to $25 million a quarter if you started back to the beginning of 2008 looking forward. We made a little progress against that in the quarter. We raised our prices on an annualized basis of about $50 to $55 million. We saw inflation in the quarter of about $10 million less than that so we closed the gap a bit but not substantially and we’ve raised prices in several of our businesses again in January.

Hopefully, we’ll see raw materials begin to turn in our favor and that will give us some benefit over the next couple of quarters but right now we’re fighting most of that margin gap that we’ve been fighting all year.

Operator

Your next question comes from Reik Read – Robert W. Baird & Co., Inc.

Reik Read – Robert W. Baird & Co., Inc.

In your slides you talk about some incremental weakening in the apparel market in Europe. Can you spend a little time and tell us what you’re seeing there?

Dean A. Scarborough

Well basically the same thing we’ve been seeing in the US for the last couple of quarters. I think Europe is behind the US in terms of recessionary trends by at least a quarter or two and consumers are spending and it’s showing up in the retail statistics.

Reik Read – Robert W. Baird & Co., Inc.

But there’s nothing beyond what you view as the market trend?

Dean A. Scarborough

No.

Reik Read – Robert W. Baird & Co., Inc.

Last quarter you talked about a lot of the RFID projects that you have in the pipeline which is pretty sizeable, perhaps as many as 30, but their significantly weighted towards the apparel market. How has that weakness in that market impacting those projects at this point?

Dean A. Scarborough

Well, as you might guess, in this environment retailers are being cautious about spending money. Their reducing their capital budgets. Although, my sense in talking to some of the retailers is they’re still going to be spending some money on information technology because customers, even though they’re buying less still expect to have good service in the stores. So, I think what we’ll see is a continuation of pilots. We haven’t seen that many cancellations. We’ve seen delays or slower rollouts in the business so still interest in RFID but I would just say overall more caution in the current environment.

Reik Read – Robert W. Baird & Co., Inc.

You mentioned Dean in your prepared remarks that you were going to do more in the way of high frequency later in the year. Is that going to be done with existing equipment or will you need some additional capital?

Daniel R. O’Bryant

No, it will be done with our existing equipment.

Reik Read – Robert W. Baird & Co., Inc.

Then the last question on the RFID space with Invigo announcing a $0.058 inlay how is that something that you guys need to respond to and how might that impact the RFID loss?

Dean A. Scarborough

Oh gosh, it’s not that big of a deal and we’ve got plenty of productivity in that business. We’re still planning to see a reduction in the RFID loss for 2009.

Operator

Your next question comes from Joseph Naya – UBS.

Joseph Naya – UBS

I was just wondering if you could give us any kind of guidance of how we should be thinking about pension going forward?

Daniel R. O’Bryant

Sure, we will see some pension cost increases this year. The P&L affect of that will be about $10 million so it’s not substantial. We’ll make some cash contributions as well, we expect to put in about $25 million in to the plan this year. We’ve done a couple of things to reduce the impact or the potential negative impact of the pension. First off, we have had two plans operative in the company for the last almost two decades and we have now merged those two plans together.

One was substantially over funded last year and the other was under funded. Of course, in the environment we’re in today they’re both under funded but this takes a lot of the pressure off having to manage the one plan that has traditionally not been as well funded. Secondly, we have frozen the defined benefits plan now for all future employees and moved to defined contribution plans which will also take some pressure off.

In a down year like the year we’re in we certainly have had some impact but I think we’re managing it as carefully as we can and the P&L impact this year will not be so substantial.

Joseph Naya – UBS

Just curious on the kind of $1, $2 EPS number that you threw out there given the different scenarios, does that incorporate additional shares for the HiMEDS?

Dean A. Scarborough

Sure. Yes, it does.

Joseph Naya – UBS

Can you give us an idea kind of what you’re thinking there?

Dean A. Scarborough

Well the original terms of the HiMEDS provides for first of all a conversion in November 2010 but there was a maximum number of shares that could be converted which was 8.6 million shares. We will be offering something in that range with other consideration so we’ve modeled something like that in to these scenarios but of course the way the HiMEDS turns out is a bit dependent upon the offer and how well it is received. That also assumes that 100% of those are exchanged and we’ll probably get something less than 100% once we’re finished with this.

Daniel R. O’Bryant

So the added share count is the take and the put is the interest expense savings.

Operator

Your next question comes from George Staphos – BAS-ML.

George Staphos – BAS-ML

I guess maybe related to Rick’s question there, within the free cash flow range that you provide for the scenario ranges that you provided, does that also incorporate any cost for restructuring? So, in other words that $260 or $300 free and clear or would we then have to back out something for restructuring down the road?

Mitchell R. Butier

No, that’s got the restructuring built in to it as well. We have the restructuring built in to it for the free cash flow on the earnings per share before the restructuring charges.

George Staphos – BAS-ML

In terms of the covenant adjustment, can you remind me, maybe it was in the presentation, what did you have to pay to have that flexibility built in to the covenant?

Daniel R. O’Bryant

Well, the biggest impact is on the interest rate associated with the term loan now which goes up to 225 basis points over LIBOR.

George Staphos – BAS-ML

What was it before?

Daniel R. O’Bryant

Well, we were running around 50 basis points or a little bit lower so it’s nearly 200 basis points added on. We’ve been well below market on our variable interest for the last couple of years. This brought us basically back to market.

Mitchell R. Butier

The new term loan, by the way we attached the amendment to the 8K that was filed today so you can see them there, their exhibits. The term loan has a modest amortization of about $60 million annually so we’ll be reducing indebtedness not just in the revolving credit facility but also in the term loan. There were customary amendment fees.

George Staphos – BAS-ML

With the restructuring program, what kind of volume environment would you need to see to net that benefit to the bottom line so that we could actually see it in the results? Obviously Paxar, you generated the synergies that you thought you would, it’s been such a difficult volume environment we haven’t necessarily seen it in the EPS results. If we’re saying down 3% to down 8% revenue growth organically let’s say, does much of that $115 million benefit get to the bottom line or do you need to be growing in line with GDP at that point?

Dean A. Scarborough

The biggest question and the thing we can’t answer because we don’t have any visibility is the volume. So, the cost take out is basically against our current cost level. That’s the way I look at it and the $64,000 question is how much drops to the bottom line and that has to do an awful lot with the amount of volume that we get.

Daniel R. O’Bryant

I think part of your question George goes back to the kinds of savings that were coming out during the integration of Paxar. Some of those were volume dependent because they were raw material savings and we only got them if volume stayed where it had been. There’s little, if any, of that in the restructuring. This is really fixed costs that we’re taking out so it’s not so volume sensitive.

Operator

Your next question comes from John E. Roberts – Buckingham Research Group.

John E. Roberts – Buckingham Research Group

Are there any new analysis that you’ve been able to do to track that channel inventory of labels either looking at turnover of retailers or some other metric that would give you a sense that you’re bottoming in the supply chain there? Because obviously I think the labels are coming out of the supply chain at retail faster than they’re going in to the supply chain from you.

Dean A. Scarborough

You’re talking specifically John about the pressure sensitive business?

John E. Roberts – Buckingham Research Group

Well both, you’ve got the issue I think on both sides, don’t you?

Dean A. Scarborough

We have it everywhere actually. Here is the issue, and pressure sensitive in the roll business, remember we’re selling to thousands of customers that are selling to tens of thousands of end users so it’s almost impossible to track that. I can just tell you anecdotally in talking to customers what they’re saying the behavior of their customers is pretty much ordering a lot less and more frequently.

I mean I’ve had customers just tell me my normal order size has been cut in half. So, people are just being very, very cautious about inventory levels. In retail information services again, here’s another business where you don’t have a lot of forward visibility but fundamentally what we’re seeing is retailers cutting their open to buy requirements for future seasons so again, I think retailers are going to be extremely cautious about putting products in to inventory until they feel the consumer is ready to begin spending again. There was an amazing amount of discounting going on this last holiday season.

John E. Roberts – Buckingham Research Group

Is there a minimum order size maybe that you could watch that as you said customers are ordering in small amounts more frequently that’s there. Is that stabilized at least? I’m just trying to think what kind of metrics you might look at to get a sense of stability along the supply chain?

Dean A. Scarborough

Well order sizes in retail information services continued to drop. Some of that is driven by a trend from many retailers to have more season. Instead of having four seasons a year they replenish their stores more frequently and obviously some of it is just the fact that they’re reducing their inventory levels so it’s really difficult. Customers don’t tell you when they place their orders on how they’re thinking. So, I think this is going to continue, smaller order size is going to continue to be a trend.

John E. Roberts – Buckingham Research Group

Just to check the math here and I think this is right, you’ve got two scenarios here with a $1 a share difference in EPS for a 5% swing in revenue so I can assume a 1% swing in revenues is $67 million of sales is $0.20 a share roughly. As you back that up through the P&L it’s like a low 40% variable margin.

Dean A. Scarborough

John, I wouldn’t describe that kind of decimal point accuracy. The reason we built these scenarios is to understand what kind of liquidity and what kind of fixed cost reduction we would need to generate strong cash flow even in a very serious downturn. So, that’s the way we’re looking at it.

John E. Roberts – Buckingham Research Group

So if I wanted to assume half way between mathematically it would work out to have way between $1 and $2 if I had a sales decline of say 4.5%.

Daniel R. O’Bryant

When we were looking for scenarios we might put in front of you it was less about where we thought the high end and low end would come out but looking for trends. So, the 8% trend is a continuation of what we saw in the fourth quarter that would last all the way through the year. It was not intended to be the bottom end of a range, it was simply if things keep looking like they’re looking how do things come out.

Looking on the other end we used the average for the year which would be a bit of a recovery up to the 3% decline level. So, finding the midpoint on there was not what our intention was. We were just trying to look at the trends that we’ve been experiencing and evaluate how those might look if they lasted for the year.

John E. Roberts – Buckingham Research Group

I understand I was just asking if it was somewhat linear between – so I, if my own assumptions wanted to assume a 5.5% decline or half way between your two scenarios I would come up a number that might be half way between your two scenarios on EPS.

Daniel R. O’Bryant

That sounds reasonable.

Operator

Your next question comes from the line of Ghansham Panjabi – Wachovia Capital Markets.

Ghansham Panjabi – Wachovia Capital Markets

Back to the adjusted EPS and free cash flow slide, can you help us understand why there’s only a $40 million swing in free cash flow with the different EPS scenarios $1 versus $2? And also isolate for us how much cash restructuring charges are embedded in there? You may have mentioned that I might have missed that.

Daniel R. O’Bryant

To the first part of your question, I’ll try to remember the second part when we get there but, our cash flow is a lot more stable than our earnings might be under the circumstances and that has shown to be the case. If sales are stronger then we’re going to require more working capital and while the income may produce higher earnings some of that will get absorbed in to the balance sheet and the opposite is true if sales decline more significantly.

So, there’s a bit of an offsetting factor in that respect between what the cash flow would be and what the earnings would be. In our numbers as far as restructuring, we’ve assumed that we’ll spend most of the roughly $120 to $130 million during 2009. We used some of that in the fourth quarter already, a number in the neighborhood of $15 million, most of the difference over $100 million would be used during ’09.

Ghansham Panjabi – Wachovia Capital Markets

That includes a non-cash component, right?

Daniel R. O’Bryant

In the earnings it does not. We have not included the affects of the restructuring charges cash or non-cash in the earnings side in the cash flow we’ve taken the cash component.

Ghansham Panjabi – Wachovia Capital Markets

Also, just looking at the many sort of theorized scenarios for the global economy at this point, the most obviously one relates to an extended period of retail and industrial weakness. Has that prompted any conversation on the dividend policy at the board level?

Dean A. Scarborough

Well the board certainly realizes the importance of the dividend to investors and in fact that is one of the reasons we are so focused on cash flow. I think the good news in almost any scenario is that we have cash flow significant to pay a dividend and to pay down debt even in a very, very poor year. But, it’s certainly something that the board talks about.

Operator

Your next question comes from George Staphos – BAS-ML.

George Staphos – BAS-ML

Can you tell us are there any additional steps or ways that you need to manage your restructuring when more of the headcount is coming from a place that is farther away from your main markets like China or Asia? Or, is it pretty much the same protocol, the same procedure since you’ve done it so many times you have so many processes in place already?

Dean A. Scarborough

Unfortunately, it’s the latter so we’re pretty good at executing restructuring and integration plans. A lot of the integration plans that we’ve done or Paxar were in markets outside the US. In Europe actually are what are the most complex but that is also where we have a lot of experience, it just takes longer and it costs more.

George Staphos – BAS-ML

So from a control standpoint you don’t feel that you have any more or less issues to worry about given that you’re cutting out a fair amount of heads from over in Asia?

Dean A. Scarborough

I don’t really feel a lot of execution risk there.

George Staphos – BAS-ML

Maybe one last question, obviously we’re in the midst of a significant down turn, my sense is probably RIS added a little bit more volatility to the downside given the end markets that it was in. Hopefully, this will also add upside volatility when markets recover. If we look at out in to the future, if RIS doesn’t perform as you ultimately expect it will presently, is that a business that ultimately could be separable from the rest of Avery Dennison? And, are there any parts within Avery that for whatever reason could not come out from the overall parent and whole of the organization?

Dean A. Scarborough

George, we’re not throwing in the towel. A, I still think this business is a good business. We have, even in this dark hour, this is the worst retail recession in at least three or four decades. When you talk to retailers they’re really feeling it. I do think, and this is a little bit of a paradox, there is a lot of business transformation we can execute in retail information services by streamlining and standardizing a lot of processes.

Both Paxar and our business were built up over the years with a lot of acquisitions in a very decentralized manner and the reality is that we can run this business in a much more standardized way with a little bit of information technology and a lot of process discipline and improvement that will generate the kind of savings that we got in the integration process.

This slow period actually gives us the ability to execute a lot of change in the business without disrupting customer service. We knew we were going to do this anyway, we were going to take a number of years to do it but we’re going to accelerate our plans and get that in place. In the future, retailers are going to need smaller order sizes delivered more frequently and with even more accuracy. There are going to be more demands for information technology with things like RFID and we’re really in a unique position with that business.

I think when the economy recovers, certainly in retail we’re going to see a huge rebound in a business that has very high variable margins along with the opportunity to reduce costs. So, that’s our vision. It’s going to take us a couple of years I think to show the reality of that vision but we intend to be there.

Operator

Your next question comes from Reik Read – Robert W. Baird & Co., Inc.

Reik Read – Robert W. Baird & Co., Inc.

Just off the comments you guys made before on specialty paper and the capacity there, do you have any visibility in to what those vendors may be telling you? Are they still cutting or is it at least a stable situation and it’s more market dependent now?

Dean A. Scarborough

My view is probably a couple of months old. This has been going on for a while. It’s mainly a US phenomenon where we had a lot of paper companies bought out by private equity companies. They’ve shed underperforming assets, they’ve cut capacity, they’ve also frankly when the dollar was low, they’ve had a lot of other markets that have looked a little more attractive than selling in the US. As the dollar starts to strengthen a bit and as overall demand starts to go down, I’m figuring that things will likely change but so far they haven’t. We’re sure working hard to find alternatives and we will because we have in other markets.

Operator

Mr. Leeds, I’ll turn the call back over to you for closing remarks.

Eric M. Leeds

Thank you everyone for joining. Have a good day.

Operator

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

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