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Executives

Edward White – Senior Vice President, CFO

Jason Bissell – Asst. Director, Investor Relations

Albert Strouken – Chairman, CEO

Analysts

Ghansham Panjambi – Wachovia

Richard Skidmore – Goldman Sachs

George Staphos - Bank of America

Christopher Manuel – Keybanc Capital Markets

Timothy Thein – Citigroup

Claudia Hueston – J.P. Morgan

Joseph Naya – UBS

[Peter Reischmeyer – Barclays Capital]

Owens-Illinois, Inc. (OI) Q4 2008 Earnings Call January 29, 2009 8:30 AM ET

Operator

At this time I would like to welcome everyone to the O-I fourth quarter 2008 conference call. (Operator Instructions) I would now like to turn the call over to Mr. Ed White, Senior Vice President and Chief Financial Officer.

Edward White

Good morning from Perrysburg, Ohio. We're here today to discuss our fourth quarter and full year 2008 results, talk about expectations for 2009 and answer any questions you may have. With us on the call today is our Chairman and CEO, Al Strouken and several other members of our senior management team. We are also joined by Jason Bissell, Assistant Director of Investor Relations.

Before I go further, let me turn the call over to Jason to review the company's position on forward-looking statements. When he is finished, I will discuss the results, and then Al will offer his perspective on the quarter and the year. Afterwards, we'll be glad to take your questions.

Jason Bissell

We would like to remind you that in discussing the company's performance today, members of management may make forward-looking statements within the meaning of Section 21-E of the Securities Exchange Act of 1934 and Section 27-A of the Securities Exchange Act of 1933. Such statements relate to future events and expectations and involve both known and unknown risks and uncertainties.

The company's actual results or developments may differ materially from those projected in the forward-looking statements. For a summary of the specific risk factors that could affect results, please refer to the company's most recent 10-Q and 10K filings with the Securities and Exchange Commission. The company does not assume any obligation to update or supplement any particular forward-looking statement made during this call.

Also during the call members of management may refer to certain non-GAAP financial measures. Information regarding those non-GAAP financial measures as well as the reconciliation to GAAP financial measures is available on the O-I website.

Yesterday, after the market closed the company released its fourth quarter and full year results. The earnings release stated that additional information would be posted on our web site. Ed White will refer to charts this morning to help illustrate and reconcile results with prior year. If you have not already accessed these charts, you can go to our web site at www.o-i.com. Click on Investor Relations and look for the charts under the events presentation section. The chart numbers are in the lower right hand corner.

Edward White

The results we are discussing today are striking in that our non GAAP EPS for the year, $3.80 is the highest we've had in 17 years since re-listing on the New York Stock Exchange in 1991, and our fourth quarter 2008 EPS at $0.45 was the second best quarter EPS we've had since that year.

This all occurred during a time when the global economy entered into a recession triggered by high inflation and unprecedented credit restriction. So in light of these challenges we are very pleased that we generated record results.

If you take a look at our EPS reconciliation on Chart 1, you can clearly see how we were impacted by global economic factors during the quarter and the year with declining volumes, continued high inflation and now a foreign exchange headwind.

The headline for both the quarter and full year EPS was the price and product mix contribution; $0.79 in the fourth quarter and $2.58 in the full year. The $0.12 EPS increase in the fourth quarter from lower net interest expense reflected benefits realized from our major de-leveraging in 2007. This translated into an incremental $0.37 EPS benefit for the entire year.

Let's move on now to Chart 2, the Net Sales Reconciliation. We again see the benefits of our margin recovery effort. Price and product mix contributed $152 million to fourth quarter sales, up7.8% over prior year. On a full year basis, the contribution of price mix was $572 million, up 7.7%. We are especially pleased with this accomplishment, since it follows the 5% price mix improvement in 2007.

For the last two years our pricing strategy coupled with our footprint realignment actions have contributed significantly to margin repair.

Sales volume declined in the fourth quarter by $197 million accounting for 40% of the full year volume decline of $514 million. The 10% quarter decline was larger than we expected when we spoke to you at the end of the third quarter. It was primarily due to a greater reduction of end user demand and customer de-stocking. In fact, we estimate that half of the year's $514 million decline was due to the global economic recession, mostly occurring in the last six months of 2008, while the other half was attributed to volume given up as a result of our margin improvement strategy.

Let's move on to Chart 3. Segment operating profit for the quarter was $157 million, down $143 million compared to the fourth quarter of 2007. However, our year to date segment operating profit of over $1.1 billion exceeded our 2007 results by more than 4%. Manufacturing and delivery represented the largest negative variance in the reconciliation both in the quarter and for the full year.

Let me offer some perspective on that. Our manufacturing and delivery costs for the fourth quarter were $178 million higher than the same period last year. We had forecast this increase in our October call in anticipation of our planned temporary line stoppages. Although these stoppages resulted in an earnings empty, they demonstrated our ability to make swift and effective changes to preserve cash instead of allowing inventories to increase.

In addition, inflation in the fourth quarter, although softer than the third was still a major cost penalty. However, these negative factors were offset in part by productivity improvements that were accelerated by our ongoing lean project.

Let's move now to free cash flow charts. An account of free cash flow on Chart 4 shows the fourth quarter and year end comparison. Free cash flow for both periods exceeded previous year measure. In fact, despite the restrictive economic environment in which we were operating in 2008, our full year free cash flow of $345 million exceeded the record of $332 million we had achieved in 2007.

Chart 5 is a graphical representation of the various components of free cash and the contribution they made in 2008. We start on the left hand side of this graph with our 2007 free cash flow of $332 million. The green bars show increases in components of cash compared to prior year, while the red bars show decreases.

Lower cash spending for settlement of asbestos related claims was the largest year over year contributor. I'll address asbestos in more detail shortly.

From the business side, higher segment operating profit contributed an extra $128 million. Other operating cash flow items defined in the footnote at the bottom of the chart contributed $86 million. Now offsetting these positive cash flow factors were the red bars for higher working capital, higher CapEx and cash spending on plant restructuring.

The negative working capital variance over prior year was $238 million and was largely driven by finished goods inventories. While finished goods were actually lower at the end of the 2008 in terms of tonnage, the value of those inventories on a dollar basis was higher than at year end 2007.

I do want to thank our sales and manufacturing teams for their quick reaction in coordinating temporary line shut downs and preventing a significant use of cash from being even larger. In fact, the working capital component of receivables, payables and inventories which we call management working capital ended the year at 16.2% of annual sales, and that is a record low for our company.

Now let's turn to Charts 6 and 7 to look at the progress we're making in terms of our asbestos liability. At the end of each year we conduct a thorough review of our asbestos activity to determine the extent of our liability for the next several years and the associated reserve charge required to cover that liability.

First, nothing has changed in the basic pack pattern. We exited the business in 1958. That was 51 years ago. As a result, the average age of new claimants with serious illnesses continues to increase. New claimants are now in their late 70's. This means that asbestos remains a limited and declining liability for us.

Second, as you can see on the left side of Chart 6, we had only 5,000 new cases in 2008. On the right side of the chart, you see that we also continued to reduce the number of pending cases. Finally, turning to Chart 7, you see our cash payment history in the graph on the left side.

Remember that in mid 2007 we embarked on a strategy to proactively settle claims on terms favorable to the company and to reduce litigation risk. In 2008 we continued this strategy which has brought positive results and we intend to continue pursuing this approach, although at more modest levels in the future.

As you can see on the right side of this chart, we expect the current portion of our liability for 2009 to be about $175 million, a $35 million decline from 2008 cash spending, and we expect spending levels on the average to decline 5% to 10% annually thereafter.

As a result of our annual review of our asbestos related liability, the company recorded a non cash charge of $250 million the fourth quarter. The larger 2008 charge reflects higher than previously estimated filing rates and average disposition costs for 2008 and for the next several years. Overall, due to the success of our change in strategy our liability today is almost 30% lower than 2006.

Next we have Charts 8 and 9 to show the reconciliation from GAAP to non GAAP earnings for the quarter and year to date which adjusts for asbestos, restructuring and some one off tax adjustments.

Turning to Chart 10, O-I is entering 2009 with a strong balance sheet, good liquidity and no near term debt maturity. We created this position through significant de-leveraging over the past two years. This was done by divesting our plastics business and by generating free cash flow.

Today, we are within our targeted range for the debt to EBITDA leverage ratio at 2.0 compared to a covenant ratio of 4.15. We have $768 million available on our revolver. Our revolving bank credit line is good until June 2012 and our nearest note maturity is May, 2010 for $250 million.

Now let me provide some direction as we head into 2009 with the understanding of course, that there are many unknown variables given the state of the global economy, Therefore, I will touch primarily on aspects of our business into which we have better visibility.

Let's start with free cash flow and the typical elements that make it up. Here are some of our assumptions for 2009. Working capital; we will strive to maintain the current level of current capital expecting it to be neither a significant source or use of cash.

Capital used to maintain our existing footprint; we plan to spend at or below 2008 levels, and this excludes both capital and footprint modernization which I'll discuss in a moment.

Cash interest and cash taxes; we expect the net of these two items to increase over prior year by $40 million to $50 million due to higher taxes on higher 2008 earnings which more than offset expected lower cash interest based on today's interest rates.

Asbestos; as discussed, asbestos payments should decline by about $35 million. And finally, pension; given the poor performance of the equity markets in 2008, most pension plans saw a significant drop in plan asset values. Ours is no different and the mark to market adjustment reduced our equity by over $1 billion. We average asset returns over a five year period. As a result, the poor pension asset return of 2008 will be muted in our 2009 P&L.

On the liability side, our pension obligation has only decreased slightly since our 2009 global discount rate increased only by 30 basis points from prior year. As such, our estimates for 2009 now indicate that our consolidated pension expense will be approximately $20 million compared to a $26 million pension income in 2008 a $46 million non cash earnings swing year over year.

On the cash side, our global pension funding levels are expected to increase from about $61 million in 2008 to approximately $70 million to $75 million in 2009 based on current exchange rates noting that all of our 2009 pension funding will be for our non U.S. plan, and no funding will be required in 2009 for our larger U.S. based plan.

Let's move to Chart 11 which was first shown at our investor day last May. As we discussed at that time, we carefully evaluate alternatives available to the company to allocate free cash flow. We continue to believe whether viewed over the long or short term that organic growth into our footprint offers the highest value creation opportunity to O-I and its stakeholders.

These organic growth investments can include both selective capacity expansion and under serve the growing markets as well as the modernization and streamlining of our footprint to better leverage our installed asset base and maximize profitability.

As previously mentioned our balance sheet and liquidity is stronger than it has ever been before. Given the size of our company we are at targeted leverage levels. However, due to the uncertainty into today's market, we feel it most prudent to preserve our ability to pursue future opportunity and to protect the gains we have made over the last several years in terms of increased financial flexibility.

As such, we have no plans in the short term to engage in share repurchases or to initiate a dividend payment. Therefore, organic growth is our planned use of cash in 2009, recognizing that cash used for organic growth actually results in a reduction of reported free cash flow in accounting terms. But our focus is not on how to report the numbers, but rather on creating value for O-I.

We will use the cash we generate in 2009 to invest in the following organic growth opportunities. We have $40 million budgeted over the next 12 months to expand our plant in New Zealand where we are the sole glass producer. We see great opportunity in supporting our customers in New Zealand's growing glass market.

In addition, we currently estimate approximately $200 million to continue the restructuring and modernization of our global footprint. This spending includes cash for severance and shut down costs as well as CapEx to upgrade the factories absorbing the transferred volume.

Let me reaffirm that while we intend to aggressively pursue the modernization of our footprint, we are highly cognizant of the environment and conditions around us. We will not put our financial flexibility at risk. Also keep in mind that the payback period for intended plant shut downs is generally less than two years. While this may seen to contradict our commitment to grow, it is actually a significant step toward creating a more profitable organization which is then better able to capitalize on growth opportunities.

Al will address volume and price in his comments so let me wrap up with some insight into our input costs, especially energy. Because energy represents approximately 20% of our cost of goods sold, and is the most volatile of our cost input. Our strategy is to minimize the amount of cost fluctuation.

We do this in North America by hedging about 50% of our furnace fuel which is natural gas. In Europe we buy ahead by entering into fixed priced contracts for about 50% of our energy spend. By managing our energy costs this way, we avoid the full impact of cost increases or decreases. In addition, our energy cost in Europe lagged the market by three to six months on a portion of our spend.

As a result, some of the higher energy costs of 2008 will continue into 2009, so when using crude as a proxy for European energy costs, it's important to take these facts into consideration. In 2008, our actual energy inflation in Europe was lower by $120 million to $130 million than the Brant crude proxy. This means of course, that in 2009, we will not experience the perceived energy deflation that some are expecting if they are comparing current stock prices to 2008 highs that were in a range above $130 a barrel.

Taking all of this into consideration and based on current energy markets, we expect limited inflation on the biggest portion of our energy spend, natural gas and fuel oil. However, we expect greater increases in our electric rates next year.

We also expect to see inflation in labor costs, especially benefits and in some raw materials such as soda ash.

Now I'd like to turn the call over to Al so he can expand on the current business environment from a regional basis and offer his perspective on our outlook.

Albert Strouken

Good morning to everyone on the call. I'm happy to report that the company finds itself in a solid financial state at this time. We are well equipped to weather the current economic storm. In fact, I believe that is precisely during stressful economic times that healthy companies such as ours are able to create competitive advantages that have positive long term implications.

As you can tell from Ed's comments we find ourselves in a contradictory situation, reporting record results in the midst of an economic recession and yet, facing so many unknowns that we are reluctant to predict what will happen next month let alone for the whole year. To try and put this situation in perspective, we have looked back at industry trends as well as our own historical experience.

When did we last see this type of dramatic change in the world economy? For most of us, the answer is never. Unfortunately we cannot easily draw on history for learning in this situation. 2008 was like two entirely separate years for us.

In the first half of the year, we experienced strong demand and an accelerating rate of inflation but the second half was very different; particularly the last quarter. We saw drastically reduced demand, double digit changes in exchange rates and an even more profound drop in publicly quoted prices of oil and natural gas.

This was a serious test for us, at least a test to see if we could adhere to our margin repair strategy and to our commitment to safeguard the financial flexibility and liquidity we achieved over the last couple of years. We had to do this under circumstances where normal was very difficult to define.

But, we did. We had to take rapid and drastic steps to ensure that the company would be able to stay on its path to commercial and financial success. As Ed said, our manufacturing team did a fantastic job of implementing temporary line shut downs at many of our factories while ensuring that our customer needs were met.

Ed gave you a thorough review of the results for the quarter and the full year 2008 and discussed the primary factors that influenced our performance. I will therefore, try to add some perspective and offer an interpretation of what we are seeing.

Let me begin by offering some color on our performance by region. In North America, we actually saw some weakness in demand early in the year. This trend, coupled with knowledge gained for our initial footprint analysis made clear that we needed to eliminate excess install capacity.

As a result, we permanently closed three plants and an additional two furnaces in 2008. These decisions under implementation were made prior to the significant demand drop off we witnessed in the later part of the year. This helped us buffer the impact of that decline.

For instance, by closing three plants in Canada we ensured that the remaining Canadian plants run at a significantly higher utilization rate. In addition, the weakening of the Canadian dollar exchange rate over the last six months has made it less economical for U.S. based competitors to export into that market. That helps us as a domestic supplier.

In this environment, it is important to have some perspective as to whether the volume declines we're seeing are specific to O-I or reflective of the overall demand picture. In the U.S. where we have up-to-date industry statistics available from the Department of Commerce, the statistics for 2008 to December show that we are less than 1% off in our glass segment share. This is well within the typical fluctuation rate we have seen over the last eight years.

The reported data also shows a significant drop off in inventories for the entire industry during the month of December. Not captured in the data are shifts to alternative packaging material, and you may have seen reports that cans may be making some gains over bottles in the beer industry in North America due to the economic environment.

In a typical year, consumers here drink a significant amount of imported beer, most of which is in glass bottles. As imports have declined and consumers are trading down and domestic beer brands, glass may be experiencing some share loss, but this share will likely return once market conditions improve.

The reduced imports of beer into the North American market are also impacting glass sales in other regions where our share of the popular export brand is rather significant. Our business in Europe is going through a more rapid and severe correction than we have seen in North America. Starting mid year in 2008 and accelerating since then, we have seen double digit declines in volume across several of the industries we service. This was particularly pronounced in the fourth quarter.

The demand in Eastern European countries which represent some of the fastest growing markets in Europe, have seen quite a bit on contraction as well in the last year. Currency woes in Russia and Ukraine are likely to impact those economies further in 2009.

In our conference call last quarter, we told you that were adjusting a portion of our inventory levels in Europe and that we would curtail our European footprint with additional permanent shut downs. Since late 2007 through the first quarter of 2008, we will have shut down six furnaces in six countries.

Combined with the footprint alignment in North America, we expect to see cost savings of more than $100 million over the course of 2009 from these actions.

With many more glass container competitors in Europe than in North America, it's much more difficult to make general statements about how the competition is reacting to the current economic environment. We believe that the inventory build up in Europe is more substantial than what we are seeing in North America. The word in many European countries provide only limited immediate cost relief on temporary shut downs. As a consequence, companies need to take more permanent actions to see long term cost benefits, and that type of change takes longer to implement.

We have not seen yet any public announcements until early this week from European competitors about adjustments to their own footprint. We understand however, that some of the earlier announced expansion plans have been shelved. We will continue to review our footprint world wide on an ongoing basis and will make adjustments as needed in light of overall demand and productivity improvements.

The global financial crisis also reached Latin America in the fourth quarter, reducing the demand for glass as customers cut back on inventories and slowed operating levels. We curtailed production throughout the region as did the competition. Lower food exports to the U.S. and Europe has well as decreased beer production were considerable drivers of reduced demand.

Latin America will still be facing significant inflationary pressure in 2009 primarily driven by energy and soda ash prices, as well as the currency devaluation against the U.S. dollar. This makes it all the more important to execute on our pricing strategy. It is too early to tell what affect capital restraints may have on float renewals of returnable bottles during the coming year in Latin America.

In Asia Pacific we are seeing two different patterns; one in China and another for the rest of the region. Outside of China, we experienced only a slight slowing in demand. Currently the strengthening of the U.S. dollar against local currencies is making imports of glass containers into Australia and New Zealand less attractive as a competitive alternative. This helps us in our volume and pricing efforts on a local basis.

While we experienced rapid cost escalation in China early in 2008 it stopped abruptly toward the end of the year when the cost of fuel oil and local soda ash dropped significantly. Sales growth also slowed dramatically as customers experienced a downturn in demand. We found them turning more to used bottle markets rather than replenishing their float with new bottles.

Since China is mostly a spot supply market, the price competition I talked about in earlier calls increased in intensity. We curtailed production in China as a result as did most of our significant competitors.

The shift in market conditions world wide has been so fundamental and so abrupt that we have of course, revisited our strategies to confirm that they are still appropriate in this new environment. More specifically, we have looked at our value over volume approach and have concluded that it is still valid.

With the permanent adjustments to our footprint and the temporary production curtailments we have already taken, we have demonstrated that we have substantially greater flexibility in our production capacity than we may have thought in the past. This gives us a competitive edge in making the right margin over our volume trade off decisions and we will continue to implement temporary shut downs when and where required to control inventory levels and protect liquidity.

With a healthier margin level to begin with, and a greater degree of flexibility in our cost structures, we expect that our improved pricing processes, marketing and innovation initiatives and increased productivity will allow us to defend our glass segment share while still investing in growing the business, even in a softer market.

The projected decline and the rate of inflation is expected to give our margin recovery efforts some additional buoyancy over the course of the coming year. You know from past conference calls, that two of our regions, namely Asia Pacific and North America are still governed by long term contracts with price adjustment formulas that are fairly descriptive. As a result, only a small percentage of total volume in those regions is being renegotiated at this time.

In Europe and Latin America about 70% or more of our business is renegotiated on an annual basis. In Latin America we have successfully implemented price increases but varies very significantly from country to country due to the various rates of inflation and currency devaluations.

In Europe our pricing teams have been very busy segmenting the market and customers. Our goal is to recover the inflationary impact already experienced and likely to occur in the coming year, and to develop price proposals that are specific to individual customers. In some cases, we modified already agreed upon conditions for the coming year because several of our competitors were trying to capture additional share in a slower market.

Many of our customers in Europe chose to delay their decisions about contractual commitments for 2009. Initially this was a function of the difficulties they were having in predicting their demand and therefore their ability to commit to contractual volume levels which of course, is a factor in determining price.

Later, towards the end of the year, it became more a matter of wait and see as to whether lower energy prices and the demand/supply picture would lead to better conditions for the buyers in negotiation. Because of the delays, we are experiencing in finalizing contracts in Europe, it is too early to give you a complete picture of the outcome.

Customer shipments continue of course in the interim and we're confident that at a minimum our approach will allow us to recover year over year cost inflation.

I've given you more details about the market situation than I typically do because I wanted to give you a flavor for the conditions that we're facing and how we are reacting to them. I recognize that what you really want to know is what 2009 looks like for us.

I'm afraid that I cannot give you a lot of specificity. I don't want to disappoint you but it is virtually impossible to be predictive about one's own business and we're not able to get indications from our customers about their own expectations for next month or next quarter.

These are not normal times and trying to project from such an uncertain date is just not feasible. In general though, volume will be impacted by the strong market contraction. By how much and for how long is the great unknown, but we're asking our sales and marketing organizations to be very vigilant in recognizing attempts by competitors to gain share.

We also believe that our flexibility in adjusting our output is a critical component in containing costs and maintaining our liquidity. We expect tough comparisons in the first half of 2009 and in particular in the first quarter. Year over year comparisons in the second half of 2009 are likely to be more favorable.

Although many of these issues began impacting O-I already in 2008, we had our best year ever in terms of earnings and productivity. We attribute our success to adherence to sound financial and business principals and to the amazing resilience and adaptability of the 23,000 people who make up this company.

While we will be facing significant challenges in 2009 from what appears to be a still weakening economy, we are in the best financial health ever to address those challenges; economically, financially and operationally.

Although we fully recognize that we will not be immune to these headwinds, we are confident of our continued to ability to grow, improve and lead the industry and helping it to create the future of glass. I will now open it up for your questions.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from Ghansham Panjambi – Wachovia.

Ghansham Panjambi – Wachovia

In terms of your sense of inventory alignment along the supply chain, meaning your customers, the distributors and at your industry's level, has enough inventory been taken out of the system to align itself with this new reality of a lower demand cycle that we're seeing?

Albert Strouken

I would expect that most probably by the middle of February or so the pipeline effect should have run its course and then we should see most probably a more underlying consumption pattern, at least from the timing aspect. By the middle of February I would lose my patience with the explanation of pipeline. I would be looking for more fundamental issues at that point.

Ghansham Panjambi – Wachovia

So does that suggest then that the extended down time you took in the fourth quarter is going to continue into the first quarter?

Albert Strouken

What we saw of course is that many of our customers extended their own shut downs from the last two to three weeks of last year into the first two weeks and in some cases three weeks of January as well. That of course has an impact also on the volumes that we are selling.

Operator

Your next question comes from Richard Skidmore – Goldman Sachs.

Richard Skidmore – Goldman Sachs

As you talked about the unpredictability in the market place, can you talk about what your flexibility is with regard to your cash and your plans you have to use cash i.e. CapEx to respond to the challenges you might face in 2009?

Albert Strouken

I'll pass it on to Ed for some additional details but overall it is quite obvious that given the financial position that we're in as well as the overall capability of the organization to generate cash, should give us a fairly high confidence level that we can do what we need to do in the coming year.

But as I said, since it's fairly unpredictable what might really happen in the course of the year, it is important for us to also realize that we have a fairly great level of flexibility in making decisions about when we're going to spend the capital and when we put the brakes on.

We have demonstrated in the past where we had driven down capacity expenditures to $270 million, $260 million, $280 million and I think should push come to shove and we really find a very difficult situation, we certainly wouldn't have that flexibility without having to give up position in the market place.

Edward White

I think the flexibility comes from the timing, and we are also getting the flow through benefit of some of the actions we took last year as Al said in his comments. We reduced our fixed cost by $100 million in '09 from the capacity reductions we took last year. So as we look at the footprint and the adjustments we can make going forward, we will also have timing on that as well as just the operating CapEx.

Richard Skidmore – Goldman Sachs

Can you help us with that manufacturing delivery line of $178 million in the fourth quarter year over year? How much of that was related to down time and did you operate at kind of 90% relative to the 10% decline in volume?

Albert Strouken

What we did is, we really hit the brakes fairly hard and that's why we in early September and October started to talk about this because we knew we were going to react differently this year and not just adjust outputs to what we were seeing in the overall demand because we had built up inventory in the course of the summer in expectation of a more successful summer.

So our production rates were cut back by about twice the rate that we saw in the sales volume drop.

Operator

Your next question comes from George Staphos - Bank of America.

George Staphos - Bank of America

I know that the outlook is unpredictable because of how demand is unpredictable, but I was hoping maybe we could think about it a little bit differently in terms of to use your phrase, the things that are controllable. From what you can see right now, I think I heard you say that you expect pricing should be able to offset inflation. We know that productivity will be you said in excess of $100 million in 2009 and taking some artistic license here, we know pension will be net $45 million and it seems like your foreign exchange comparison is going to be quite negative at this fourth quarter run rate for two to three quarters Holding currency flat with where it is right now.

So perhaps the net of those three would be a net wash as well. So would it be fair to say therefore, if you agree with that, that earnings growth or earnings declines will be driven truly by your global volume outlook. Would that be fair?

Albert Strouken

Absolutely.

George Staphos - Bank of America

In the past our understanding was that for the foreseeable future charges should be in the $100 million to $150 million range based on the filing and cost per disposition rates that you were seeing. You had the proactive strategy in fact two years ago which I would have thought would have taken the tail down. Okay fine, it's only $100 million more but I'm just trying to get a little bit more clarity in terms of why there's an incrementally large charge here this fourth quarter.

Edward White

It was basically, what did we estimate last year? What do we estimate this year? This year we get a new year out in our outlook. We estimated a faster decline, so while it's declining it didn't decline as fast as we thought. And if you say that our total liability reflects the next several years, for easy math if you divide it by three your would kind of say we see our spending moving down from that $175 million in '09, moving down from there each year.

I think what happened, being proactive has been successful. It's brought some things in and changed the landscape for us. So the basic fact that it hasn't changed, but we kind of had to true up to recover some of the over success we had last year.

George Staphos - Bank of America

Is it the inflation the cost per disposition or the number of clients that moved maybe more versus your forecast?

Edward White

I would say that what we had versus our forecast, we see more filings over the next three years than we thought we would see a year ago.

Operator

Your next question comes from Christopher Manuel – Keybanc Capital Markets.

Christopher Manuel – Keybanc Capital Markets

Congratulations on a record '08. Using that as a springboard into 2009 at least the half of the year is going to be quite challenging and then piggy backing on one of the comments that you made with respect to your margin repair scenario and the flexibility you've added it looks like coming through the end of '08 for example, European margin in an area where you had the best turn around has struggled the most. Would it be your anticipation that a, we start the year out in a similar sort of pace into '09 but as the year goes on, if you are able to achieve again using your words, a little better price probably than inflation, that for full year you should be back to full year '08 or even better sort of trajectory?

Albert Strouken

I think you have to look at a variety of aspects here. Number one, as we go into the new year we have a reset of our pricing which automatically would expand margins in the beginning of the year versus what you say in December because it's basically a price correction that couldn't update in the course of the previous year and so we had to absorb inflation in the course of the year. So that will certainly help as we go into the year.

Secondly, with regard to the level of price increases and the success of the price increases, in a fairly competitive environment in Europe, we still had price increases in some large areas and have had a margin recovery component still in them that were in the double digit range. Our price increases to customers that were at a much higher margin of course were somewhat lower.

But clearly the intent and the purpose behind all of this is to make sure that we are not losing to inflation that we have experienced or are likely to see.

The third point then is the question of the volume, and that really is as I said in my comments, the great unknown. Europe did not behave any differently than the U.S. in the first couple of weeks of January but having extended shut downs and I think in relation to the comments that I made earlier, I would say in the course of February we will see what the real underlying picture is going to be.

And I would assume that that is not going to be much different from what we have seen in other downturns in the economy in the past.

Christopher Manuel – Keybanc Capital Markets

All the flexibility you put into the business in previous years going through a scenario like this could have been quite disastrous but it appears as though you're going to weather this quite well. With that in mind, a lot of your competitors both in Europe and South America, many regions of the world aren't as well equipped to handle this as you. Is your mindset today, let's keep in mind also the financial flexibility you have, is it more full speed ahead, let's look at this as an opportunity to be aggressive in the market place, potentially look at acquisitions, that type of a mentality, or is it more of a defensive posture today, batten down the hatches, let's get through the storm. How do you think about that balance?

Albert Strouken

I agree with you that the candidate list and the availability of candidates is likely to increase in the coming months. We will be very cautious. Even if a particular acquisition might be strategically attractive, we have to ask ourselves whether it's financially the right time or is the availability prize/risk triangle ratio better at some time in the future.

And I would say that most probably it is particularly true for large opportunities. I would say in the small opportunities that may come up we would certainly have some greater flexibility.

Operator

Your next question comes from Timothy Thein – Citigroup.

Timothy Thein – Citigroup

First question is on the price/mix line. If you look in 2008 I think your price mix recovered 120% I believe of that manufacturing delivery line. Can I ask to just get numbers around what we're looking at in terms of a potential. I know it's early but a potential price increase percentage number for '09, kind of ball park what you're thinking about in terms of what that cost line looks like?

Albert Strouken

As I told you it varies really significantly. In Latin America, we're seeing double digit increases, then however, you have to take off inflation. You have to take out the currency exchange rates, over the course of the year. In Europe as I mentioned, we have some customers who are still recovering margins, double digit increases and others lower then. And in North America and then Asia Pacific, it's more formula driven.

You will recall that in 2007 when we came out of a high inflation year 2006 into a somewhat lower inflation year 2007, we saw margin expansion also in those regions that had just the price adjustment formula, and we would expect some of that to repeat.

But I would really like to wait with giving you a number as to what we think we have achieved after we've seen the first quarter and actually seen the numbers reflected in our income statement.

Timothy Thein – Citigroup

Switching gears to South America, another great year in terms of the margins. What does your crystal ball show in terms of here we're looking for lower GDP forecasts across South America. That combined with some tax increases, or tax changes that go into effect in Brazil on January 1, what's your outlook if GDP growth goes from mid single digits to 1% to 2% plus these excise taxes, what's your guess? Do you think you could still see volume growth across that region in '09 in that kind of environment?

Albert Strouken

We have a garage sale on crystal balls. They're not worth much at this point in time. With regard to Latin America, we have started already beginning of last year to aggressively develop new applications and new areas for glass to expand into because we saw that potentially the tax issues and the excise tax might have an impact on some of the beer consumption in the region and we already see that in the course of 2008 and that's likely to continue until the market adjusts to the higher rate of taxes which generally occurs always after a certain period of time which can be half a year to three-quarters of a year.

Much more important to us and what we're trying to watch and get a handle on is how willing customers are going to be to replenish their flows and renew their flows because that's a capital decision and I think that may be much more determinate that what's going to happen with the volumes and the actual sale of the beer.

Operator

Your next question comes from Claudia Hueston – J.P. Morgan.

Claudia Hueston – J.P. Morgan

I wanted to talk a little bit more about the investments that you're making within your asset base in 2009, and as we think of coming out of '09, where do you think you'll be in the modernization program and better utilization of the assets. Is there more CapEx to come or do you feel you've met your targets for '009?

Albert Strouken

I would say that certainly the majority of it would be behind us. There may still be one other opportunity that we see going forward. Our intent would be much more in future years to really use some of our normal capital spend for modernization and not just for replacement in kind like we've done in the past.

So I would certainly see a tempering of that overall need for capital, all the more so because we believe that by making the changes we will also get some additional productivity of our installed assets which will have a tempering affect on capital use at any rate.

On top of that, the third point to keep in mind is that by reducing our asset base as you know from the past, we always have a lot of replacement capital requirements so if you reduce your asset base, also that replacement capital requirement is going to be reduced over a certain period of time.

Claudia Hueston – J.P. Morgan

So as we think about the goals of the modernization program and some of it seems to be to recoup some of the capacity, but is it also just the flexibility issue so that when you do have to pare back capacity because of the markets temporarily, you can do that?

Albert Strouken

Absolutely, and it is also geared towards dealing with our supply chain, basically allowing plants to run shorter runs without having to give up through put and thereby having a considerable impact on our working capital by being more reactive and responsive to our customer needs without having to load up our inventories to be able to do that.

Claudia Hueston – J.P. Morgan

One quick question for Ed, if you have any guidance on the interest expense for 2009 given some other currency moves.

Edward White

We're going into the year with lower debt levels and lower interest rates and lower FX, so we're seeing that number ought to be $20 million to $30 million lower year over year at today's exchange rates.

Operator

Your next question comes from Joseph Naya – UBS.

Joseph Naya – UBS

I wanted to circle back with some of the comments earlier, you mentioned about down time continuing into the first part of this year. Do you have any sense of how that's playing out or are we kind of past it at this point? Are your customers starting to ramp back up or are we still in the middle of it?

Albert Strouken

As I said, we expect to see a return to a more normalized rate hopefully by the middle of February which would be my time line that I would be watching for that. But what you also have to keep in mind as I said earlier, in the fourth quarter we basically reduced our through put at twice the rate of the reduced sales. We're not doing that in the first quarter. In the first quarter our out put is constrained to keep pace with the sales.

Joseph Naya – UBS

A quick clarification question, in your press release where you talk about capital spending being $120 million higher on continuing operations, that then includes the $40 million in New Zealand and the $80 million, is that correct?

Edward White

That's exactly.

Operator

Your next question comes from [Peter Reischmeyer – Barclays Capital]

[Peter Rieschmeyer – Barclays Capital]

I had a question about one of your large customers who's requesting a significant change in terms on how quickly they pay which to me seems like a very unreasonable request. But I'm curious to the extent that you can comment on that and whether that can actually work to your benefit in terms of your smaller competitors not being able to comply.

Albert Strouken

I of course cannot talk about individual customers, but generally you all know that our business is generally governed especially in North American and in some other parts of the world by contractual agreements with our large customers. And those contractual agreements include many components; time span, payment terms, pricing, service level and so on, and none of the contractual partners can make unilateral changes to this.

I think we want to make sure that we are servicing our customers well, but of course, we also want to make sure we adhere to contractual obligations because many of you recall that we suffered quite significantly due to the contracts in the past years because we were not able to pass through the price increases and the cost increases that we were seeing.

We are fairly comfortable that we have very valid contracts that are in the interest of long term relations and we don't expect a significant change to them.

[Peter Reischmeyer – Barclays Capital]

Ed, you mentioned the plan assets and liabilities, do you have a figure for us in terms of the net underfunded balance?

Edward White

In the U.S. we're in that 80% to 120% band. So we're above 80% so that's why we don't see any contributions going into the U.S. based plans. As I said, international plans, I think it's just better to think we'll probably be putting in $70 million to $75 million compared with the $60 million we did last year.

[Peter Reischmeyer – Barclays Capital]

But in terms of planned assets versus liabilities it sounds like the liabilities were comparable and the planned assets were down about $1 billion, is that correct?

Edward White

Exactly.

[Peter Reischmeyer – Barclays Capital]

Is it possible to comment on, you mentioned that natural gas, obviously you have hedges, you have contracts, is it possible to share with us the average level of natural gas that you did pay in the fourth quarter and given the hedges and the contracts what you expect that to be in the first half of the year?

Edward White

We don't go into that level of detail but you can kind of pull out of our Q that we're about 50% hedged and those hedges were made either late in '07 or in the first half of '08 so it would get you a hedge rate that was about 850 or something like that. The hedges we've been laying in in '08 for '09, those hedges for that 50% is going to be probably $1.50 higher on average. That's about as far as we go on that.

Albert Strouken

Thank you everyone for joining us today. We hope you'll join us again on April 30, 2009 when we will hold our first quarter 2009 earnings conference call.

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