Owens-Illinois, Inc. - Analyst/Investor Day

| About: Owens-Illinois, Inc. (OI)

Owens Illinois Inc. (NYSE:OI)

February 14, 2013 8:30 am ET


David Johnson

Albert P. L. Stroucken - Executive Chairman, Chief Executive Officer, President and Member of Risk Oversight Committee

Andres Alberto Lopez - President of Latin America

Eric C. M. Bouts - Vice President and President of Europe Region

Stephen P. Bramlage - Chief Financial Officer


George L. Staphos - BofA Merrill Lynch, Research Division

Phil M. Gresh - JP Morgan Chase & Co, Research Division

Christopher D. Manuel - Wells Fargo Securities, LLC, Research Division

Ghansham Panjabi - Robert W. Baird & Co. Incorporated, Research Division

Chip A. Dillon - Vertical Research Partners, LLC

Philip Ng - Jefferies & Company, Inc., Research Division

Adam J. Josephson - KeyBanc Capital Markets Inc., Research Division

Scott Gaffner - Barclays Capital, Research Division

Alex Ovshey Ovshey - Goldman Sachs Group Inc., Research Division

Anthony Pettinari - Citigroup Inc, Research Division

David Johnson

Good morning, and welcome to O-I's Investor Day. My name is Dave Johnson and I lead the Investor Relations team. I want to thank you, here and those on the webcast today for taking out the time to learn more about O-I's path to higher earnings and cash flow. Clearly, from the video, you can sense the passion that we have for glass and why we are so bullish on our future. Before we dive into the program today, I'd like to just have you pause and review our Safe Harbor disclosure as well, and be mindful that our presentation materials can be found online through our website at o-i.com.

Moving on to the next slide. We launched a survey last November to gain more insight on your perceptions of O-I. This, coupled with our direct interaction with you all, we've been able to compile a short list of things in which you told us that you're interested, trends for the glass packaging industry. Is glass here to stay? How are our regions performing, both today and tomorrow? Details about the scope and impact of the European asset optimization. I know many of you are interested in our financial targets over the next several years. And given our higher cash flow generation, what are we going to do with it?

As we turn to the agenda on the next slide, you can see that your input has informed our agenda today. We'll going to start with Al, who will begin with a strategic update, and it will include a discussion of secular trends in rigid packaging, the clear drivers that we have to create shareholder value and to review an outlook at the regional level. Then Andres Lopez, our South American President, will show how we've successfully grown in the region and how we have set the stage for 20% plus margins going forward. Then Erik Bouts, our new President of Europe, will take the stage to talk in more detail about the European asset optimization in particular.

Steve will come up and give the financial targets a review and the targets as well, and then Al and Steve will finish off the morning with a question-and-answer period. We will of course leave in a break along the way, during which I would encourage you to talk with our commercial teams at the back of the room if you just want to learn more about glasses, product innovation and our go-to-market strategy.

With that, I'd like to hand it over to Al.

Albert P. L. Stroucken

Thank you, Dave, and I'm happy to see so many of you here today. We are really looking forward to sharing with you O-I's story. The company that we will present to you today is one with laser-like focus on reducing structural cost, one that is growing with customers, by capitalizing on consumer brands around health and sustainability, one that is challenging long-held paradigms about glassmaking with our investments in research and development, and one that is firmly committed to generating higher and more consistent earnings and cash flow.

Why O-I? Why invest in us? We are the global leader in glass packaging. Our global manufacturing footprint allows us to serve customers in more strategic ways than competitors who have only a local presence. We have strong relationships with customers around the world through which we keep a pulse on industry trends, and these relationships allow us to better anticipate customer needs, plan our capital investments and focus our innovation activities. The glass packaging market has been growing at a modest rate, and we are well-positioned to take advantage of that growth, particularly in emerging markets where socioeconomic expansion is bringing strong growth in all types of rigid packaging and especially in glass.

In mature economies, we see numerous pockets of growth opportunities, such as craft beer in North America and specialty juice and water in Europe. We recognize that we cannot pursue every opportunity. Rather, we are focusing on a core number of value drivers for our shareholders. We have already launched programs to significantly improve our cost competitiveness and our asset efficiency over the next several years. In addition, we are exploiting secular trends by promoting the benefits of glass, helping our customers grow their brands, and concentrating our R&D investment in areas that will enhance our manufacturing competitiveness while meeting increasing customer demands. And we are driving results to the bottom line. We believe that we can increase our earnings by at least 10% a year on average, and increase our free cash flow even more.

These goals are firmly grounded in business plans fully owned by our regional presidents. And lastly, our disciplined approach to capital allocation. We will continue to deleverage the -- in the near term, but as we approach the low-end of our leverage ratio target, we intend to shift to a more balanced distribution of the -- in the latter part and by the latter part of our 3-year planning period. And those plans include returning more cash to our shareholders.

Now moving to Slide 6. We are driving changes to our business model that preserve the best parts of a rich legacy, while adding new capabilities in the commercial and technology space. And let me take a moment to walk you through the journey that we've been on for the last 6 years. In 2007, we made the very important, and for us, strategic decision to focus our business only on glass. We divested our plastics division and used the proceeds to pay down a significant amount of debt. And this singular focus allows us to capitalize on trends that position glass as a healthier packaging choice for food and beverages, and it helps us unleash our creativity in those areas that help us enhancing the premium image that glass brings to our customers' brands.

And we also attacked our profitability profile in 2007 with a serious revamp of our pricing strategy. We undertook a value over volume approach that succeeded in raising our margins, but as anticipated, it also did cost us some volume. And we began our footprint realignment in the next phase of our journey, having grown by acquisitions over several decades, we were due for a comprehensive analysis of how well our assets matched our customers' end market needs. And North America was our first area of focus where we rationalized and reconfigured a portion of our manufacturing base.

In the next phase, we expanded our footprint in several emerging markets to take advantage of strong macroeconomic growth trends. In 2010, we made acquisitions in Argentina, in Northern Brazil, in China, Malaysia and Vietnam. The much slower-than-anticipated economic recovery in North America and Europe, which are our major cash generators, drove us, in 2011, to refocus our efforts on consolidating the assets that we have. So we turned to integrating the newly acquired plans into our existing footprint, and also began our Australian footprint optimization. During this period, we redoubled our efforts to enhance our financial flexibility through debt repayments.

In 2012, we launched a strong effort to reduce our cost structure, and to increase our profitability as a result, yet we continued to keep an eye on our long-term competitiveness by prudently investing in innovation and technology. None of this would have been possible had we not improved our financial flexibility first. And Steve will provide you more detail, but I do want to highlight a few aspects of our financial performance that clearly demonstrate that we are on the right track.

Turning to Slide 7. After investing heavily in restructuring and capital projects in 2010, we have been steadily ramping up our free cash flow generation. In 2012, our pricing strategy allowed us to recover not only inflation from the current year, but much of the prior year's unrecovered inflation. We also began to see further benefits from our footprint optimization efforts in North America and Asia-Pacific, with better profitability in both regions. South America continues to experience solid growth with high margins, and we launched a major asset optimization program in Europe. Also in 2012, we continued to use our cash to pay off debts, and the Board approved the share repurchase plan.

We've also seen a significant number of changes to our leadership team at the last 18 months. Steve Bramlage moved into his role as CFO in June of last year after serving as President of our Asia Pacific region. Sergio Galindo, who was formerly our General Manager in Columbia, succeeded Steve as the President of Asia Pacific. Ron White, who was formerly our lead in IT, joined the leadership team as the Chief Process Improvement Officer. Giancarlo Currarino as chief -- joined us as Chief Technology Officer after having served as our -- the leader of our engineering operations.

And we have also added 4 new leaders from outside our industry. Erik Bouts and Arnaud de Weert took on leadership positions in the regions. Both of them are here today. And during the break, I hope you will have a chance to meet Tony Gardner, who, as the leader of a commercial organization, is here to showcase our activities in that space. Tony hails from Accenture and Procter & Gamble. And the fourth leader from the outside, Paul Jarrell, is now our Chief Administrative Officer, bringing with him 25 years of experience. These new members complement other seasoned members of the team such as Andres Lopez and Jim Baehren, who bring a wealth of experience in the glass industry.

Now I'd like to talk a little about the size and scope of why and what advantage that provides. Although we were founded in the U.S. in 1903 and have our headquarters here, more than 75% of our sales come from outside the United States. Our footprint encompasses 79 plants around -- across 21 countries, and on a replacement basis, our assets are worth approximately $13 billion. Just as important, we have leading positions around the globe driven by our strong customer relations.

While O-I might not be on the tip of everyone's tongue, the brands that we are privileged to serve are widely recognized. We have long-standing relationships with virtually every major food and beverage maker in the world. We are deliberately investing in marketing and sales capabilities across the globe. Our commercial team is reinventing our path to market. Increasing the value we bring to our customers through greater alignment, common objectives and continuous innovation. We aim to become a strategic business partner to our customers, and we have begun to change the conversation with our customers around value creation. We are now often dealing with marketing and branding executives, as well as with procurement leaders.

As confirmed by numerous studies, consumers are increasingly demanding products in glass for the reasons that you see on Slide 12. Glass is the healthiest packaging option. It preserves taste, provides transparency, safety and versatility, and is the most sustainable packaging option available. And recall the Glass Is Life video that we saw at the beginning of our session, this video captures the enthusiasm and passion for glass that we are seeing in our employees, our customers and end-use consumers. Glass is more relevant than ever.

We first launched Glass is Life as a global marketing initiative to promote the widespread benefits of glass in key markets around the globe. It has now grown into a powerful movement, elevating conversations around glass packaging and grabbing the attention of customers and prospects around the world. Glass is Life has evolved into our O-I brand. It is endorsed by glass advocates, ranging from key O-I customers, such as the CEOs of San Pellegrino and [indiscernible] Fruits, to prominent figures such as Celine Cousteau, renowned ocean activist and granddaughter of undersea explorer Jacques Cousteau. We think our timing to promote glass as the ideal packaging option is perfectly aligned with consumer trends that we're seeing in the marketplace.

Now let's move to Slide 11 and touch on 1 of the key areas of interest that you identified in our surveys. Secular trends of the glass industry. Industry data suggests that global glass container consumption has been growing at about 2% every year, and is expected to continue growing at a similar rate for the near future. As one would expect, most growth will be in emerging markets characterized by growing populations and a rising middle class. Growth in the developed regions has been impacted by economic uncertainty recently. While demand has been volatile, there clearly is growth, and we expect continued modest growth in several product lines, such as wine and spirits, and more significant growth in niche markets in the mature economies of North America and Europe.

As you can see on Slide 12, glass' share of rigid packaging by consumer transactions ranges from more than 10% in North America, to more than 30% in South America. When we see industry data on glass' share of the rigid packaging market by dollars of sales, we typically see glass has a 10% share more or less. But what is not obvious from those numbers is the fact that glass containers are actually a far larger percentage of all containers in use, because in many countries, refillable containers are common place, and the United states is an exception. Whereas a returnable glass container can be reused anywhere from 15x to 30x, it is counted only once when one looks at the replenishment rate of supply into the marketplace.

For instance, where we see data that says 9% of the rigid packaging market in Brazil is glass, you miss the fact that glass commands 30% of the overall share, when you factor in the returnables. Neither PET nor aluminum have a greater share. And this means that in most markets, glass is the package that more consumers see, touch, buy and have come to prefer over the alternatives available. And when you look at certain categories such as beer and nonalcoholic beverages, the percentages of glass are even higher. In Brazil and many European countries, and Asian countries as well, more than 50%, 5-0 percent of all the transactions in the beer market are in returnable glass.

Glass container consumption is growing in emerging markets, largely due to the widespread acceptance and availability of returnable glass containers. Refillable bottles provide economic benefits, as well as environmental ones. Because a returnable bottle can be used up to 30 times, it is only a fraction of the cost of a new one way bottle per transaction. And to be very conservative, we assumed a reuse rate of only 12x to 15x for the slide that you are seeing here.

Affordability is a key competitive advantage for returnable glass containers in any market, but especially in emerging markets with growing low and middle income classes. A glass bottle, and particularly a returnable glass bottle, also has the smallest carbon footprint of all containers. Anybody, anybody who is truly serious about economics and sustainability of packaging has to consider glass as their best option. And glass has been the preferred container for the last 3,000 years. And with that unparalleled track record, when I am asked about secular growth, I respond like the old Romans, in saecula saeculorum, forever and ever.

On Slide 13, you can see several of the niche markets that are providing plenty of opportunity in the more mature economies. In Europe, for instance, there is growth in specialty juices and water. In North America, we are well-positioned to capitalize on growth in a number of spirits and wine categories, as well as craft beer. In both regions, we are seeing a trend of putting more foods in glass containers, particularly premium or organic foods. A glass jar allows the end consumer to see the product and encourages our customers to position the product as a higher value item.

Why would anybody go through the very involved process of securing organic food or beverages, spend a lot of money on marketing the benefits of these products, and then present them to the customer in a 100% synthetic polyethylene terephthalate? Yummy. Note that food is the largest category for rigid packaging in the world. And yet it has had few innovations over the years. And this presents a huge opportunity for glass packaging, particularly in premium products. The craft beer story in North America has been interesting. And I expect that anyone who even occasionally drinks a beer has noticed the proliferation of brands and choices of craft beers.

Let's move to Slide 14, and I will share some data on this market and how successful we've been in partnering with the craft brewers. While it is true that volumes of mainstream beer in North America have been relatively flat, the craft beer market is booming. The craft beer segment represents 6% of the total beer category in North America, with an annual growth rate of 11% since 2009. Craft beer is one of the few categories in North America where we have customers who package almost exclusively in glass. And we supply 70%, 7-0 percent, of that market. This strong dedication to glass makes craft brewers great partners in promoting glass as the packaging of choice.

So I've summarized the glass market opportunities and provided you a thumbnail sketch of O-I. Now let me turn to our business model, to the strategy and the decision-making that ensures that we are maximizing our assets and fully capitalizing on market opportunities around the world.

On the next slide, you see how we have recently summarized our goals to our employees through an ambition statement. We chose to think about our objectives in terms of our 3 most important stakeholder groups: Our customers, our employees, and you, our investors. It is our ambition to be the world's leading makers of brand-building glass containers, delivering unmatched quality, innovation and service to our customers, generating superior financial results for our investors and providing a safe, motivating and engaging work environment for our employees.

We are becoming far more customer-centric than we have been in the past. In addition to providing high-quality packaging and excellent service, we are in the unique position of being able to help our customers build their brands through our technology, innovation and creative design. Employees are naturally another key driver. Without our glass making expertise and the skills and capabilities of all our employees, from the bottle makers, to the R&D scientist, to our support functions, we would not be able to differentiate ourselves. We are extremely proud of the passion our people have for glass. Making glass, using glass and promoting glass. So investing in our people, developing them and providing a safe, motivating and engaging work environment is essential.

Our third key stakeholder audience is, of course, you, our investors and our owners. O-I's business objectives must generate appropriate financial returns. And we hope that when you leave today, you will have strong confidence in our ability to meet your financial objective.

Moving to Slide 16. We have a clear plan as to how we will accomplish our objective to be the world's leading producer of brand-building glass containers. Our strategy is built to enhance our competitive advantage. Reducing structural cost is our primary value driver. Industry leaders must constantly focus on taking cost out to remain competitive in the marketplace. Second, we need to selectively grow the top line, using our global footprint to take advantage of market and socioeconomic trends in our diverse markets.

Next, innovation is key to securing our competitive advantage. We must deliver brand-building product innovation to our customers in ways that help them build, develop and expand their brands. And as they succeed, we succeed. Lastly, though just as critical, we will continue to invest in technology. We have significantly expanded our capabilities in research and development, particularly our expertise in glass science. Today, our R&D focus is on lowering our energy usage and improving our efficiencies. We are raising the profile of execution and clearly defining our priorities in the short- and long-term. We've mapped out our specific targets for each of our goals, and we'll measure our progress against them and align our financial incentives to them.

Now let's review each of those priorities in more detail to better understand why they are the key areas we are focusing on over the next 3 years. First, driving structural cost reductions. While we can wish for better economic times, we can only influence the things that are directly under our control. And we have tasked the entire company, every region and every corporate function, to take out cost, not temporary cost, but fundamental or base cost in a controlled way that supports our sustainable business model. Over the last 2 years, we made a number of organizational changes to streamline our operations and gain better visibility into the entire supply chain.

For instance, we've created a new senior position in our company, which we call the RIOL, which is Regional Integrated Operations Leader, and these functions in each region oversee the entire production process, from purchasing raw materials to shipping the products to the customers. Our RIOLs facilitate leveraging best practices from 1 plant to another, as well as between regions. By optimizing our asset base, we can significantly impact cost, boost profitability and increase returns on our invested capital. Our results in North America and Australia in 2012 clearly demonstrate the benefits of footprint rationalization. In terms of accountability, our regional presidents fully own the cost-reduction programs. The President and their leadership teams will be rewarded on their success in achieving our cost-reduction goals and the resulting financial performance of the regions.

Now let's move to Slide 18 and look a bit closer at our cost-reduction objectives. Our cost of goods sold represent about 90% of our operating costs. After that, SG&A is the secondary opportunity area for cost reductions, and each region does own specific cost-reduction targets and every function will also contribute. We have already compiled a list of hundreds of projects with detailed plans and accountability steps at the plant level, and these projects will begin to capture benefits in 2013 and we are already focusing today on the opportunities for 2014 and 2015.

Now let me give you an example of how we have already taken structural cost out of our North American operations. We saw that our labor costs were significantly higher than in the other regions. We analyzed the manning in our North American plants, applied our learnings from other regions and from other industries, and were able to achieve immediate efficiencies that have significantly contributed to the profitability profile of our North American operations in 2012 and going forward. For our structural cost reduction program, we expect to generate, on an ongoing annual basis, savings of about $75 million by 2015.

Now let's move to Slide 19, and review our next priority, selective growth. While our strategy focuses intensely on our primary value driver, cost-reduction, we also recognize that we must continue to grow profitably. And as the purchasing power in the emerging economies, expanding populations growth, there is increased consumption, which leads to growth in food and beverage industry. This provides a great opportunity for glass packaging, and especially, for returnables.

We are well-positioned to harness the growth of these emerging markets and we are firmly established in South America and are already operating our highest margin business there. The opportunities in Southeast Asia and China are many and complex. We have successful joint ventures operating in Malaysia and Vietnam, from which we sell broadly into the region.

Now we have our own plants in Indonesia. Our joint ventures in the region are generating about $150 million in revenue per year with solid growth projects -- prospects. In China, 10 million consumers enter the market each year, and apparently, a lot of them are drinking beer. In fact, the beer market in China is the largest in the world, twice the size of the U.S. market. Our opportunity in China is in the premium market and serving as the partner of multinational food and beverage makers, who are also tapping into the Chinese market. While we continue to believe that O-I must have a presence in this market, we have been challenged to consistently meet our profitability expectations in China. While some of our plants are profitable, not all are. And after a strategic review of our Chinese operations, we have decided to pause any further significant expansion in that country, unless we receive firm demand commitments, particularly from our multinational customers.

Now let's move to Slide 20 and talk a bit about our commercial strategy. We envision helping our customers address 3 pressing issues: Brand differentiation, growth of market share, and counterfeiting. We are developing 3 branded platforms, 2 of which are already in the global market. The Versa platform targets the growing premium food category and addresses known consumer irritants, like food residue on the package rim, spillage when you pour, and food waste.

Now we've partnered with an upscale broker in Ohio and regional partners in South America and in Europe, to successfully launch small quantities of 3 products from this platform in the last year. We didn't only provide the containers, we worked with them on every step of the process. Choosing the product, designing the labels and caps, managing the filling and assisting with marketing. And we're leveraging our learnings as we approach other customers and large retailers. Vortex is a brand that you may already know, as it was launched in 2010 with the Miller Lite bottle. It is also differentiating 2 other beer brands in Australia and New Zealand.

Vortex clearly helps customer brands stand out on the shelf. This platform will develop beyond aesthetics, and further increase the enjoyment of our customers' products through flow, taste enhancements through aeration, and other consumer oriented solutions. A third platform that we call Vera [ph], will address the very serious problem of counterfeiting faced by many of our customers and consumers, as well as global taxing agencies. This is a global problem threatening brand integrity, human health and safety, business, as well as tax revenue. And you can learn more about our innovation in this space by talking with our commercial team during the break. Our brand platforms are connected closely to our Glass Is Life movement and are based on glass technology and functionality. While these platforms are still in development, we are confident that they will bring financial value to O-I in 2013 and beyond.

On the next slide, you will see that we're also offering brand development services to our customers to help them develop, position and market their brands. We have a new team that looks at our customers' challenges and provides comprehensive solutions to their brands. This may mean new bottle design, new labeling, new promotional angles or marketing techniques. The team works closely with our production teams to ensure that the bottle that they design can actually be made and filled effectively. That is not always a given, but an outside agency designs a bottle, which is typically the way it's done with most customers. This work, which just begun last year, has evoked tremendously positive responses from our customers, and here's what one of our largest customers have to say about our work in this area. Our customers are clearly seeing us as a strategic partner who can help them develop and grow their brands. It is a very exciting evolution for O-I and certainly for our customers as well.

Turning to Slide 22. In addition to expanding our innovation capabilities for our customers, we are investing in our research and development capabilities by bringing on scientists with advanced degrees in a wide range of disciplines, from physics to chemistry to electrical engineering, and glass furnace and forming. We are designing a team that can look comprehensively at ways to address our glass manufacturing challenges. They are focusing their efforts on a limited number of projects, aimed at reducing the amount of energy that we use in our production process, as well as on glass strength, which is an important step in lightweighting. And their work will ultimately contribute to a more competitive cost structure and reduce our overall environmental impact.

Early this year, we broke ground on a new R&D innovation center at our Perrysburg headquarters, and this center will allow our scientists to take their process, or product innovations, and test them in a manufacturing environment, without disrupting an actual plant. For instance, when a new lightweight bottle is designed for the wine industry, it can be tested on our wine within the R&D innovation center to ensure that we understand the process fully before handing it to our manufacturers. R&D is a critical component of our long-term success, and in an increasingly competitive world, we need to challenge paradigms and look at novel ways to make glass. Through this kind of innovative thinking, we'll be able to differentiate ourselves from our competitors.

Now let me turn to a brief overview of each region, an outlook of our business conditions and the contribution that each makes through the growing of our top and bottom lines of the company. And I'll start with our largest region, Europe. As you can see on the pie chart, our European business is well balanced, with sizable portions and positions of our business across all end-use markets, especially in the important wine and beer categories.

Now as we all know, uncertain macroeconomic conditions in this region over the past several years have been a real headache. In general, we have seen fairly flat domestic consumption, while exports have shown some resilience. And as a result of the economic environment, the euro has also been quite volatile in recent years. On this slide, we have shown our net sales in euros to eliminate the impact of currency movement. And you can see that overall sales in euros have not really fluctuated that significantly in recent years. Generally, higher prices have offset inflation, but volumes have declined as a result of the weak macroeconomy and some share shift as well.

On balance though, we've experienced fairly flat net sales and segment margins since 2009. We face interesting challenges in Europe, where about 1/3 of the market is comprised of many small competitors with divergent, strategic and financial objectives. And this makes pricing difficult, as small operators have different value drivers and will often accept lower margins than the rest of the industry. The European region, however, is a rich, very rich marketplace for the glass industry and we really place great value in this market. But it's clear that we need to strengthen our financial performance there to a more acceptable level.

And turning to the next slide, you will see that we have a fairly tempered outlook for Europe. Given the lack of a catalyst for growth, we see macroeconomic conditions improving very modestly over the next few years with continued volatility. Fortunately, we believe the industry will continue to be able to pass on price increases to cover inflation. As for us, you'll hear that we are squarely focused on our asset optimization program to achieve cost and market leadership in Europe, and Erik will have more to say about that before the break.

Furthermore, we anticipate gaining back some of the business that we have lost. This is reflected in our expected financial results with volume growth of about 1% per year through 2015. As the benefit of our asset optimization programs take hold, coupled with modest growth, we expect that our segment operating margins in Europe will improve to approximately 14% over the time period.

Now let's move to our second largest market, North America, starting on Slide 26. Clearly, the beer market comprises the majority of our business in North America, and most of our customers in this region are large, multinational food and beverage companies. Over the past couple of years, we have seen much more stable macroeconomic conditions in North America than in many other parts of the world. Our pricing generally keeps pace with inflation and with the benefits of the previous footprint activities, you can see the boost to our segment margin performance in 2012. And let me take 1 minute to point out that Arnaud de Weert, President of our North American operations is here today, and we chose to focus today's breakouts on Europe and South America because we received most of our -- of your inquiries from the investment community on those 2 regions. Although we're not highlighting North America, Arnaud is of course happy to address any questions that you may have on this region.

Now moving to Slide 27 and the North American outlook. We see stability in the overall glass segment of the packaging industry, and -- but with pockets of strength in the craft beer markets and continuing higher demand for spirits and wines. We will focus on reducing our cost of goods sold, especially through operational efficiencies such as automation. And we will continue to work to optimize our assets, press forward with automation when economically beneficial and capture logistical synergies. For the top line, we expect to see approximately 1% of annual volume growth in North America through 2015. As we continue to drive productivity and cost improvements, we expect that our North American segment operating margins should reach a sustainable level of approximately 50% before the end of our target period in 2015.

Now let's move to Asia-Pacific. The region comprises the mature markets of Australia and New Zealand, and the emerging markets of China and Southeast Asia. We have already taken many steps to improve our profitability in this region, and Sergio Galindo leads our Asia Pacific operations. Although he's not here today, there will be other opportunities for you to meet him in the future. It is worth noting that the wine and beer category markets contain about 75% of our sales in this region. And our segment margins were unfavorably impacted by the slower beer demand due to competitive pressures from imported beer brands, and the offshore bottling trends in the Australian wine industry, especially in 2011.

We have now mostly completed a restructuring program in Australia, and have seen our margins begin to recover, as supply now better matches demand. The outlook for Asia-Pacific shows that we expect annual volume growth through 2015 to be less than 1% for the region, with stronger growth in Southeast Asia and China, offset by the market conditions in Australia and New Zealand, which still represent the majority of our business. Be mindful that our topline outlook does not include the impact of sales by the unconsolidated joint ventures. The economy in Southeast Asia is growing at rates above 6%, with a significant shift of households moving into the middle class. The number of people in the middle-class is expected in that region to grow from 95 million in 2010, to 145 million in 2015.

Glass, as a packaging material, is growing in Southeast Asia at a compounded annual rate of about 4%, and in certain segments, it's growing much faster. For instance, in the beer industry, the growth rate is about 7%. And in food, it's more than 5%.

In Southeast Asia, we are looking for a broader market penetration, and we'll use our successful go-to-market strategy, called glass smart, to take advantage of our targeted growth opportunities.

Our business in Malaysia, Vietnam and Indonesia are well positioned to meet the higher growth trends in this part of the region. As I mentioned before, we face a challenging margin environment in China, so our focus there will be on integrating existing assets to meet that challenge.

And to improve our competitive position, we will continue to drive cost and productivity improvements throughout the entire region, but especially in the mature Australian and New Zealand markets.

Given volume stabilization and further cost reductions, our segment operating margin for the region will likely range between 13% and 14% by 2015.

Now to South America on Slide 30. Similar to Europe, we have a well-balanced portfolio of end-market categories that we serve in this important region, especially in the beer, food and nonalcoholic end markets. We see continued growth, driven by the strong demographic trends of the region, and this will include returnable glass packaging, which I've already talked about this morning.

Despite some short-term impacts to margins, we will continue to deploy our successful buffer strategy, which supplies the Brazilian market demand with products imported from other operations in the region. And Andres will share more details on this strategy with you.

Moving to Slide 31. Our outlook for South America is quite positive overall, with very favorable glass consumption trends in all end users. Beer customers, in particular, are investing heavily in glass-filling lines, and that bodes well for our future. In addition to the benefit from growth in the region, we will continue to optimize our cost base and use the buffer strategy for expansion.

We project an annual top line growth rate of approximately 3% through 2015 in South America, and segment operating margins should return to a more sustainable 20% to 22% by 2015.

I hope that I have successfully conveyed to you the market opportunities that we see around the world, and the confidence that we have in our company to capitalize from those opportunities.

Now as we move into the regional spotlight, you will hear from Andres about our profitable growth strategy in South America. And part of our success there relates to our assets optimization work, which has provided low-cost incremental capacity. And this will be a good segue then for Eric later to discuss our European asset optimization program, which will drive higher and more consistent margins.


Andres Alberto Lopez

Thank you, Al, and good morning, everyone. I'm pleased to have the opportunity to talk to you today about the great work our team in South America are doing to drive profitable growth.

Let me start with Slide 33. As you know, the South American region has experienced double-digit growth in the past several years. 3 things have contributed to this growth: first, favorable socioeconomic trends. Throughout South America, the region is experiencing broad-based growth in the emerging middle class, which is benefiting all packaging types, and glass is certainly gaining its share of that growth.

Second, devise a strategy to take advantage of favorable underlying conditions in the region to leverage our strength. A great example of this is glass smart, which is a successful go-to-market approach that we developed in South America several years ago.

In addition, to keep up with the high rate of growth throughout the region, we have been importing glass from operations in other countries to meet a specific market need. This is called our buffer strategy, and it has allowed us to serve growing local demand, especially in Brazil, before committing to additional investment in that country.

Also, we have driven significant asset optimization projects through the region over the past 3 years to push production level from our current install base.

Finally, we have acquired several businesses in the region, most significantly in northern Brazil, to ensure we can fully participate of the broad-based growth with that we are seeing throughout the region.

Let's now move to Slide 34 and talk a little bit more about the growth drivers. Most South American markets in which we operate follows similar socioeconomic dynamics, with Brazil being deported along in that evolution.

A young population with significant number of people entering the labor market, and enjoying higher levels of disposable income, has created a rapidly growing middle class. That, along with continuously expanding access to personal credit, has been driving up consumption. The region is home for more than 600 million highly urbanized consumers, and it boasts one of the world's highest urbanization rate at 80% and rising.

Our customers use returnable glass to access the burgeoning middle class. As Al just mentioned, returnable glass containers provide the most affordable packaging solution for transactions. They allow our customers to provide their products at affordable prices to the new consumers entering this middle class. As the disposal income of the middle class increases, they allocate more money towards their growing aspirational needs, which includes consumption of new, higher-end brands.

From our customers' perspective, that creates the perfect opportunity to trade up in the category. This is very, very good for glass, a package which supports trending and premium products very, very well.

As you can see in the graph on the slide, from 2003 to 2014, the middle and upper income classes will have increased by more than 80%, 8-0, while those in poverty continue to decline. This trend is very favorable to the food and beverage industries, and drives more demand of glass packaging.

Let's now turn to Slide 35 to review our go-to-market approach. Glass smart is a structured process that leverages a strong understanding of the value chain from the end consumers to our customers to O-I to decide business opportunities for our customers.

The product in the far left side of the slide is a 300-ml returnable container. This product was introduced in Brazil back in 2011 and is the most affordable single-serve transaction in this market. Since its introduction, more than 500 million of this particular bottle has been put into the market, which resulted in more than 5 billion individual transactions in a single year of this bottle alone.

To give you an idea of magnitude, the can industry in Brazil produces 23 billion containers per year, but cans, of course, are used only 1 time. In order terms, the glass industry put in the market in 1 year close to 25% of the transactions per year that the can industry took 2 decades to develop.

To make it even more convenient for consumers, our customers are implementing more and more container returns and exchange locations in the parking lots of heavily crowded supermarkets. Consumers can access these centers directly in their cars without causing any disruption to the interior of those supermarkets. This has created a very favorable momentum for glass and for the use of returnable containers.

The container in the second position of the chart illustrates the impact of glass smart in strengthening a customer's brand by moving the product from an industry-standard container to a proprietary design. This resulted in a significant increase in sales on the order of 50%, 5-0.

Premium beer products are a vibrant and rapidly growing category. In fact, in Brazil, 3 out of 4 premium beers are packaged in glasses. These are examples of branding our organization in existing food and spirits, 2 very important growing categories as you see here in the last 2 examples on the slide.

In all, we see our growth fueled by the strong use of end customers' demand for glass, as well as our customers' recognition of the value of glass packaging for both returnables and premium glass containers and premium products, both of them having significant positive impact on our customers' profitability and bottom line growth.

To capture that opportunity, O-I has leveraged its regional footprint to serve local growing demands. Let's continue to review our growth strategies on Slide 36. O-I has been meeting higher demand for glass packaging in Brazil by importing our products from Peru, Colombia, Brazil and Argentina. This lowers the risk of investing ahead of demand, especially in a higher investment-cost country like Brazil.

Once higher demand levels are proven to be sustainable in Brazil, we have to have the best way to meet that need locally with low-cost incremental capacity, by expanding existing lines, adding lines to the existing assets or building new furnaces.

Our financial analysis on sales returns, operational and financial risk, manufacturing flexibility, as well as current and future market dynamics. An example of this strategy in action was the construction of a new furnace at our facility in Rio de Janeiro. We just started it up in the fourth quarter of last year, and it was immediately fully utilized.

The capital intensity of building a furnace in an existing facility, it's much lower than a greenfield construction.

As you can see on the chart on the right, this new furnace will result in fewer imports into Brazil in 2013. Substantially lower logistics cost will benefit our bottom line by at least $15 million when compared to 2012 costs. And despite fewer exports into Brazil, our regional capacity will remain essentially full, driven by continuous growth in Brazil, as well as very high rates in the remainder of the region.

Turning to Slide 37. Even while continuing to grow, we also leverage our know-how to optimize our existing infrastructure. Since 2008, we have eliminated 3 uncompetitive furnaces and relocated 16 machines to improve productivity and customer service. Said another way, we have repositioned nearly 25% of our machines in South America, and have increased our production leverage.

Our productivity rates have improved as we are clearly doing more with less in this region. We have also constructed 3 very efficient brownfield furnaces in existing plants in the region, 1 each in Peru, Argentina and the latest in southern Brazil.

Altogether, asset optimization and brownfield expansion have resulted in an effective capacity increase of nearly 50% since 2009. This excludes the 30% capacity increase from our positions in Argentina and northern Brazil.

More importantly, most of this incremental capacity has manufacturing costs that are approximately 20% lower than the average cost per tonne, which increases our competitive position in the region.

Looking forward, I see even more runway to improve our cost structure in South America. Similar to other regions, South America is focused on reducing energy consumption, capturing further productivity gains and driving even more savings through procurement strategies.

In summary, I'm pleased with how effectively our South American business has leveraged O-I's strength to manage all the growth opportunities in this very dynamic and evolving region. Our strategies have proven to be effective, and their impact to lower costs will be even more evident and fully realized as we head into a 3-year period. We should see segment margins return back to the historic low 20s on a sustainable basis.

Our road map to higher margins in South America is shown on Slide 38. In 2013, our buffer strategy will yield tangible benefits as we enjoy lower logistics costs and the absence of start-ups from our new furnace -- start-up costs from our new furnace in Brazil.

For the past year or so, South America has had an intense period of very large furnace repairs. This will abate during the forecast period, providing another source of cost improvement. And higher operational leverage from top line growth and further productivity gains provide us even more confidence that we will restore our margins into the low 20s.

And as our sales continues to grow, we will likely have additional opportunities to add more capacity toward the end of our 3-year planning period, with further positive impact on cost. That's providing a virtuous cycle of profitable growth in this region.

I'd now like to turn the stage over to Eric, who will highlight how some of the productivity work in South America can be applied to the European assets optimization program.

Eric C. M. Bouts

Thank you, Andres, and good morning. Since I started at O-I in January, I've been investing a lot time meeting employees, customers, suppliers. And now I'm truly, truly excited to be here today and having the opportunity to also meet with you.

Europe is O-I's largest region, accounting for more than 40% of its sales, and we employ over 8,000 people in 36 plants in Europe. Today, we will talk about our strategy to improve business performance and market leadership position.

A key component of this strategy is our European asset optimization. This is a multiyear investment program that will enable us to produce equivalent tonnes at lower costs, while significantly improving service, quality, sustainability and innovation performance for our customers.

So let me show you how we envision doing that, beginning on Slide 40. The asset optimization, it is the latest stage in our journey towards market leadership in Europe. And this journey started in 1996, with the acquisition of AVIR, followed by the BSN Glasspack acquisition in 2004. Those 2 acquisitions gave O-I the largest footprint in the industry and allowed us to be close to our customers.

And immediately, as at any other acquisition, O-I started to rationalize capacity by streamlining the most obvious overlaps in our footprint and by exiting unprofitable business. These efforts, in which we took out roughly 12% of our capacity, improved Europe's profitability significantly.

In 2008, our segment margin approached 14%. But then, in 2010, when the macroeconomic turbulence hit Europe, we have seen a widespread slowdown of the European economy and a continuing tone of uncertainty.

Under these business conditions, we have been focusing on margin recovery through a price over volume strategy to fully offset significant input cost inflation, and this has been successful. We have fully recovered inflation in 2012 and partially recaptured and recovered inflation of 2011. However, as Al mentioned, this came with some volume loss. And as such, we curtailed production to meet the reality of lower demand.

The next phase of strategy development for Europe is to leverage learnings from the other regions and to introduce the asset optimization program in our region to drive both market leadership and cost leadership. Let's move to Slide 41.

The asset optimization program, I think, clearly demonstrates O-I's deep commitment to Europe. We will invest upwards of $250 million through 2015, with a blend of restructuring and CapEx spending. And it means we're going almost to double our level of investment in this region.

This program, the asset optimization, is built around 2 work streams. On the 1 hand, we will reduce our cost structure by eliminating underperforming assets and reducing idle capacity. On the other hand, our plans include investment in lower cost, incremental capacity and enhancing asset performance through improved quality, through speed and flexibility. And we will also benefit by locating new capacity closer to our customer.

We will invest in a sequential delivery fashion, leveraging our existing furnace rebuild schedule and facing key actions to ensure smooth execution. This avoids disruption for our customers. It ensures that we do not rebuild assets that we won't need in the future, and it will allow us to adapt to the changing volatile economic condition in the region. We should begin seeing an impact from current activities in the second half of this year.

By 2015, we expect the program to yield at least $80 million in annual cost savings.

Let's move to Slide 42. We are using a rigorous data-driven planning process, combined with the project management organization that has all the tools and skills needed to properly execute. Let me take you through the key elements of this planning process.

The first step was to perform a detailed market analysis to get a complete picture of demand trends, by region, by category and by customers.

Next, we rank our current assets against the market opportunities, and define the strength and weaknesses in our asset portfolio. And here, we consider things like cost competitiveness, capability to deliver on customer needs and furnace utilization.

Also, we undertook robust scenario analysis, to help us net out the most effective implementation plans.

Let's turn to a matrix on Slide 43. This analysis process results in grouping our assets into 4 clusters, with each having a distinct strategic direction. We either grow, maintain, turn around or exit, or restructure our assets, providing us with a game plan on how we will address individual facilities to maximize the performance of the entire region.

This will be a 0-sum capacity cliff. For every asset that will be removed from our portfolio, additional lines, cavities and/or machines will be added back in but in better and lower-cost locations. And better meaning here, closer to our customers or in a manufacturing plant with better capability. And let me be very, very clear with you. We're not going to lose any capacity, zip.

Let's move to the next slide. We have a strong focus on execution, which is one of my top management priorities anyway. We have implemented a robust product management organization. We have selected the right people with the right expertise, and we will build corrective action plans forever than yield. And of course, we're leveraging European knowledge with all the good learning from our regions.

Well, in these times of uncertainty, we also have to make risk management a priority. To ensure uninterrupted supply in customer service and to bolster confidence that our investments will deliver expected shareholder value, we will execute our program over several years. This phased approach will allow us to remain flexible in responding to changing market conditions in a very agile way.

Let me turn to the actions to date on Slide 45. Here, you can see all our plant locations. We started improving our asset base in 2012, and we will continue these efforts over the next 3 years.

Now you can see which plans are part of the asset optimization for this year. The red dots show the locations impacted by restructuring, whereas the green dots show the locations where we will make improvements in capacity or capabilities.

At the end of this year, 1/3 of the European asset base will be impacted by our asset optimization program. All projects for 2013 are on track. Negotiations with labor councils have been successfully completed, and it means we're able to fully implement our plans.

Let's turn to Slide 46. And let me conclude my presentation by showing you our EBIT margin developments. Assuming that macroeconomic conditions do not further weaken over the next 3 years, we do believe that a combined effect of asset optimization, structural cost reductions and moderate growth from recovering volume we lost last year will result in an increase of margins from 11% in 2012 to about 14% in 2015.

Now when we return from our break, we'll hear Steve discuss our financial objectives for the next several years. But please stop by the glass slide showcase here at the back of this room to see some of our latest innovations, and we will reconvene in 15 minutes from now. Thank you so much.


Stephen P. Bramlage


Great. Well, welcome back, and good morning. For those of you that I have not had the chance to meet yet, my name is Steve Bramlage, and I'm O-I's Chief Financial Officer, and as Al mentioned, I've been in the role since the middle of last year. I'd like to add my personal thank you and welcome to everyone who's attending both here in the room and on the webcast. We are quite glad and appreciative of the fact you've made the time to join with us today.

I hope that the morning ultimately proves to be an effective way for us to more deeply engage our shareholders, current and future, and let you understand more fully our plans over the next couple of years. I'm going to try to pull together the strategies that Al, Andres and Eric have outlined earlier this morning for you and provide a summarized outlook of what we think our financial performance should be over the next few years.

So with that, I'm going to move to Slide 49. And I want to spend a moment at the beginning, talking about how we will assess various opportunities over the next several years. I think it's important for the investment community to understand our internal thought processes and our logic that we will use to assess the various business strategies -- oh, I'm sorry, to assess the opportunities that we have and assure that we maintain an ability to meet our financial commitments while we're pursuing our business strategies.

O-I will, first and foremost, work to ensure that we maintain adequate financial flexibility, in our plan and on our balance sheet, to ensure that we can deliver on our financial commitments. You will hear me say financial flexibility multiple times because it's important to me.

I hope that the financial expectation that we're creating today clearly reflects our cognizance of the need to drive consistent and improving financial return. We will rigorously assess the returns around potential investment in light of their ability to generate positive NPV, acceptable returns on invested capital and cash flow and earnings-enhancing returns.

As Al mentioned earlier, we do understand the critical need to live within our means. We will, in order to deliver our results, make deliberate trade-offs on known scarce resources. We have and will maintain a disciplined capital allocation process. We need to ensure the business receives the necessary funds to reinvest and maintain our asset base, of course. But after this, we will balance the need to deleverage, the need to return value to shareholders and the need to manage our legacy liabilities in a way that is both clearly communicated and predictable.

Finally, we certainly have the opportunity to improve on the consistency of our financial performance by making different decisions operationally. We will not eliminate the seasonability of our business, of course, but we can flatten the tops and the bottoms of our historical curves and, frankly, do a better job at mitigating downside surprises.

So let's now review these priorities in turn and look at how they're going to lead to the financial outlook over the next few years.

On Slide 50, I'm going to provide a little more detail around financial flexibility. The bar charts that you see show the general decline in our gross debt balance from 2006 through our forecast period ending in 2015. As some of you may recall, our debt level dropped significantly in 2007 as a result of the sale of our remaining plastics business and our use of those proceeds to pay down a significant portion of our debt balances.

Then in 2010, we consciously took on additional debt to fund the acquisitions in the various emerging markets that Al referred to earlier. Since 2010, we've been deleveraging. You should expect this to continue until we approach the lower end of our target range of 2x net debt to EBITDA, which we expect to happen before the end of this planning period. This is approximately an additional debt reduction of about USD 0.5 billion from the current levels.

At the same time, the company's credit rating has improved from a BB- since 2006 to our current BB+ stable, given the reduction in our debt levels. It's helped us lower our cost of debt and increase our financial flexibility. We are largely content with our current rating, believing that it provides us the right balance of both strategic financial flexibility, as well as optimizing our cost of capital.

So let me move to Slide 51 and talk about our debt maturities. Favorable credit markets over the past couple of years have presented O-I, and almost everyone else, an ideal opportunity to refinance debt and achieve lower interest rates. And in our case, our annual interest rate on our debt is now lower than 5%.

We have also deliberately expanded our -- extended our debt maturities since 2010 while also repaying some of the more expensive debt that we have. Furthermore, we have consciously positioned the debt into currencies and geographies where we have operation. This provides a natural hedge for our reported earnings and helps us to mitigate the volatility.

During 2012, we prepaid essentially all of our 2013 and a large majority of our 2014 long-term debt maturities as indicated by the circles that have come up on the chart. You should expect us to continue this practice of prepaying near-term debt maturities.

Also, we're going to start opportunistically focusing on refinancing maturities in subsequent years and, overall, extending our duration. We expect that these actions will continue to not only lower our interest expense but also reduce the near-term requirements on cash and, again, further enhance our financial flexibility.

Continuing on that theme of enhanced financial flexibility, on the next couple of slides, we've outlined 2 significant legacy items that impact our free cash flow: asbestos and pension payment.

I want to start with asbestos on Slide 52. As we have said many times, asbestos is a limited and declining liability for the company. The average age of our claimants is now approximately 80, 8-0, years old. Also, tort reform in many states has helped to reduce the number of non-meritorious claims that are filed against us each year. We are experiencing declines not only in the number of cases filed against us, but also in the number of open cases pending as we continue to work through the open case overhang.

As you can see, it's clear that we've have a steady decline in the annual asbestos payments over the last few years. Nevertheless, the payments themselves continue to be a significant obligation for the company. In 2012, we paid $155 million in asbestos payments, and we expect payments in 2013 to decline to approximately $155 million. Through the 2015 target period, our expectation is that we will continue to see a gradual, but a consistent decline of approximately $5 million to $10 million annually over this period of time in our asbestos payments.

I want to move to the pension liability on Slide 53. Like many other companies, low discount rates have significantly increased our underfunded pension liability over the last several years. On the slide, you can see that our actual pension contributions have also been rising since 2010. Specifically, the required contributions that we have made are shown as the fully shaded orange portion of the bars, whereas discretionary contributions we've made have a diagonal pattern in them.

Given our excellent cash flow generation at the end of 2012, we did elect to make approximately $125 million in discretionary pension contributions at the end of 2012 in order to reduce the underfunded liability position. I think these contributions are a very good example for everyone of how we will always be looking to augment our financial flexibility. They were not only accretive to earnings, but they also completely eliminated the requirement for us to contribute money into our U.S. pensions, which are our largest set of plans, through 2015.

The remaining expected contributions that you see relate exclusively to our international plans. In the years 2013 to 2015, we anticipate these global plans will result in approximately $75 million per year in cash contribution.

Let's now shift away from financial flexibility for a moment to a very important additional priority, which is about driving improved financial returns. So I'm going to move to Slide 54.

The bar charts show comparison of O-I's 2009 and 2012 adjusted earnings per share. As you can see, the bars are essentially the same. On first pass, this comparison suggests that we really haven't made very much progress in improving the ability of O-I's operations to generate better results. And clearly, during this period of time, we faced macroeconomic headwinds.

However, I want to return to the subject of pension once again to highlight the impact that noncash pension expense has had on our adjusted earnings over the last several years. So let me remove the noncash pension expense from the earnings in these 2 years for a moment. As you can see, the 2009 adjusted earnings would have increased by approximately $0.16 a share. However, by the time we hit 2012, the historically low discount rates have led to pension expense tripling to nearly $0.50 a share.

In fact, if we actually went back 1 more year to 2008, which is not on the slide, pension expense was actually a credit to our bottom line of about $0.17 a share. Ergo, we have seen an unfavorable impact of nearly $0.70, 7-0 cents, per share since 2008, purely as a result of higher noncash pension expense. This has, as you know, no relationship whatsoever to the performance of our operations.

As we look forward, we will clearly be aggressively focused on mitigating both the expense and the economic liability associated with our pension plans, and we will work very hard to ensure that the required pension contributions remain manageable and predictable. We will continue to provide increased transparency around pension expense and the contributions so that you have a better idea of how the underlying operations are performing.

Let me now start to segue to our 3-year targets, and I'm going to start with a summary of the assumptions for this planning period on Slide 55. We are assuming that we will continue to see very similar trends in the various regional economies as to what we have today. That means general stability in the developed markets, yet growth in the emerging markets. Overall, our base case scenario does not envision a sharp downturn from current macroeconomic conditions, but it doesn't anticipate a sharp recovery in developed markets either.

We believe that we have the ability to manage a modestly weaker-than-planned macroeconomic scenario within these numbers. And of course, any uptick in activity clearly will provide additional upside benefit for us.

As for currency levels, we're using the euro in the low EUR 1.30s, the Brazilian real of approximately BRL 2 and Australian dollars that's essentially at parity.

While I'll touch upon the O-I specific volume assumptions on the next slide, I want to touch on a few other items first. Initially, we do envision price continuing to cover cost inflation over this period of time, though, very importantly, we do not anticipate a marked margin expansion from price over inflation, which we have experienced in the last several years.

As we continue to execute on our asset optimization and cost reduction initiatives, as you've already heard about from Al, Andres and Eric, obviously, we expect the benefit to flow through to the bottom line from those programs. We will keep annual corporate costs fairly stable with our 2013 run rate. We've already mentioned higher investments in R&D and innovation a little bit earlier, and these investments will effectively be funded with reductions in SG&A also.

In line with the deleveraging efforts, we do expect commensurate declines in interest expense, and as for the rate, we're simply extrapolating for -- or extrapolating future rates based on forward curves today. And due to the earnings mix over this time, we think the effective tax rate will likely rise very modestly higher than the 25% that we have guided for in 2013. Okay?

I'm gonna turn to Slide 56 and try to pull together the plans around the top line growth. So you can see on the bar chart, our net sales have averaged around $7 billion per year since 2008. And as most of you know, favorable prices over that period of time have been incremental to sales in each one of those past 5 years, so volumes have been mixed.

Given the fact that approximately 75% of O-I's revenue starts in a currency other than the U.S. dollar, foreign currency can have a significant impact on our reported revenue and sales numbers. We've seen years where O-I's top line has been impacted by several hundred million dollars, positive and negative, purely due to currency movements alone, and 2012 was one of those years.

As we take into account the annual volume growth for each of the regions that Al had reviewed in a little more detail, it worked out to about a 1% to 2% annual growth from volume. And then in addition, as I mentioned, price will continue to cover inflation. So on a consolidated basis, the company's net sales in this baseline scenario approached $7.5 billion by 2015.

Importantly, we believe that the current asset base should be able to achieve enough productivity gain during the period of time to meet most of the organic volume growth requirements to service the higher sales.

On Slide 57, I want to shift to the expectations around segment operating profit margins. Since 2008, segment margins have averaged around 13.5% a year, and the range has been roughly up or down 100 basis points over that period of time. We believe the strategies that we've outlined for you today will allow us to continue to build on the more than 13% operating margin that we achieved during 2012.

On the left-hand side of the slide, we've summarized our expectations for each region's segment operating margin for that 2015 targeted period. Overall, the goal is that we grow total segment operating margin to approximately 15% by 2015 by focusing on the respective highest value drivers that Al laid out for you a little bit earlier. And while you've already heard from Andres and Erik, I can assure you that Arnaud and Sergio, the respective presidents of our North American and Asia Pacific region, are equally committed to driving higher margin.

I want to summarize the primary initiatives, which we are counting on to drive this incremental value over the next several years. 1 is the asset optimization program in Europe; 2, the targeted cost of goods sold, cost reduction programs that are global in nature; and 3 is executing on solid return enhancing growth opportunities in Latin America.

As you can see on Slide 58, we expect adjusted earnings of more than $3.50 per share by 2015. And as Al mentioned, that's approximately a 10% CAGR rate from 2012. Keep in mind that the benefits from our value drivers will be more evident in the second half of the planning period than in the first, and this is largely due to the phasing of the projects in the European asset optimization program. The roadmap to improving the earnings to the level of $3.50 is demonstrated in the [indiscernible] chart here on the slide. The arrows are roughly proportional in magnitude and in direction to their respective contribution to earnings growth during this planning period. Clearly, our asset optimization activities, especially in Europe, as well as the broader based cost reduction plans in all of the regions, should generate the majority of the value to increasing earnings during the next 3 years. But we do also expect organic growth, whether it be by region or the selected end markets that Al referenced earlier, to yield modestly higher sales and commensurate earnings benefit during the same period.

And as I have mentioned earlier, R&D spending will increase during this period of time, but we believe these investments will drive sustainable value for O-I in the long term, and as I said, the spending associated with them will largely be offset by cost reduction elsewhere. In addition to the operational improvements in the business, we will see benefits from lower nonoperational costs over the next several years. Obviously, as debt levels continue to come down, interest expense will decline. A question came up during the break, which I think is important to mention around the expectation for pension expense in this period of time. We are assuming pension expense is flat with 2013 levels. We have guided 2013 pension expense to be a little over $100 million for the year so that the assumption is that pension expense stays flat. The last thing I want to point out, please keep in mind, EPS growth, for those of you who are not aware, comprises 50% of the long-term management incentive compensation structural targets.

Moving to cash flow on Slide 59. We are confident that, that contribution of top line growth, improving segment margin and rigorous balance sheet management over the next 3 years should combine to deliver us more than $400 million of free cash flow by 2015. This reflects an approximate 12% annual growth rate from the $290 million that we generated in 2012. Beyond the rising earnings, which we've already talked about, the other key assumptions included within this free cash flow outlook are as follows: modest uses of cash from working capital increases due to an increasing sales number; the steady declines in asbestos payments of $5 million to $10 million a year that I referenced earlier; stable pension contributions at $75 million a year; and as it relates to capital spending and restructuring, we've modeled in an aggregate spending of somewhere in the range of $425 million to $450 million per year for the sum total of both restructuring and capital spending. Overall, we are confident that our plans will result in sustainable and higher levels of free cash flow. And I do believe that we can generate more free cash flow than we generated in the company's historical record years of 2007 to 2009 and do it on a sustainable, consistent platform.

I want to move to return on invested capital on Slide 60. This is another critical enterprise-wide metric for us that we are working to improve every day. As some of you may know, this is the other 50% of the long-term management incentive compensation structure, along with the EPS growth. Having said that, our efforts are focused on improving both the ROIC numerator via higher earnings, as well as the denominator via a streamlined and a more productive asset base. For example, the asset optimization programs in Europe and in Australia are focused on removing higher costs, operations and shifting that business to more productive facilities. These end up benefiting both the top and the bottom line of the ROIC calculation. Overall, our plan calls to the achievement of approximately 14% return on invested capital by the end of this time period.

I want to turn to Slide 61 and change topics for a moment. It's important to me that we improve the transparency and the general understanding of some of the significant drivers that impact our business. So this slide is meant to provide a frame of reference for the investment community in the future because we recognize that, unfortunately, macroeconomic volatility is unlikely to go away. So this is a sensitivity analysis that's related to earnings per share, and it tries to capture the impact of volume changes on an annual basis globally to EPS. As you know, we are a highly leveraged, operational business model. So when sales volumes significantly change and we therefore change production schedules to manage inventories accordingly, the impact on profitability is quite significant. In fact, in many cases, actually, the impact to our earnings from production changes is more significant than the impact of volume drop-through. We hope that these factors again will serve as a useful frame of reference in the future when you're trying to evaluate and predict earnings performance as various macroeconomic events unfold over the next several years. 1 thing to note, these are global averages, so to the extent you are trying to extrapolate them to a given region, those impacts will vary based on the region's level of profitability and profits.

So let's move to Slide 62 and review capital allocation over the next 3 years. I want to start with 2013, and this is the easy one. There is no change to the story in 2013. As we have said many times, we plan to allocate approximately 90%, 9-0 percent, of our expected $300 million of free cash flow for debt reduction. The remaining 10% of free cash flow will be allocated toward share repurchase, and that will essentially offset the dilution from management incentive compensation-associated programs. And I think it's important to take a moment to mention, on the M&A front, we have no planned material transactions during 2013. Small strategic bolt-ons, 1 factory, 1 furnace or 2 are always a possibility, but nothing that would materially change any of the numbers that we're talking about today. We expect that our leverage ratio should approach the lower end of our target range by the end of 2014. At that point in time, we will be more opportunistic and shift our allocation away from primarily one of debt repayment. We will be more balanced in our approach. We will deliberately analyze the options available to us. We will go back to considering financial flexibility, as I've mentioned before, the financial return and the execution risk of the various means to which we can put our capital. In general, cash allocation simply will move towards more share repurchases and less debt reductions than will have been the case in 2012 and 2013. We will, however, preserve our ability to actively manage our legacy liabilities and to fund strategic capital investments for organic growth and specific high-return, low-risk projects. As an example of that, you should expect that we may very well invest in additional capacity in South America to support growth -- profitable growth with our key customers, or in the right circumstances, we would consider closely partnering with strategic customers in other regions to baseload new capacity under acceptable long-term contracts. This is similar to 2010 when we purchased a plan in France and became the exclusive global supplier for Nestlé Waters, Perrier and San Pellegrino brands. For the most part though, as I mentioned earlier, asset optimization improvement initiatives will provide the largest source by far of our incremental low-cost capacity.

In closing, the last financial priority that I want to spend a little bit of time on today is around our efforts to improve the consistency of our results and mitigate the volatility. That goal starts with the team managing the seasonality of the business more effectively than we've done in the past. As I said earlier, we're not going to eliminate seasonality, certainly not as it relates to sales, but we can improve on reducing the volatility of the inter-quarter swing caused by significant production changes. We've already started to make a much more concerted effort to smooth out production plans internally, as well as capital spending projects, which often drive those production schedules.

In addition, as you know, and as I have mentioned already, the global footprint can lead to volatility in the reported financial result clearly due to translation, given the large amount of the earnings and the revenue that comes from offshore. In order to mitigate this variability, we will be hedging a portion of our euro translation exposure in the future. This is a change from past practice. Future strategic projects such as our European asset optimization program, we will execute these in phases, and we will do that to ensure the benefits of the program funds the costs of the next phase. We call this the pay as you go approach. I know from personal experience, this is very effective in Australia as we have rolled this out. It will help reduce the volatility of our financial results and help to mitigate the operational risk issues that are inherent any time you're going to make a significant change in your production capacity.

Clearly, leadership accountability and well-aligned management incentive plans are important to drive the results that we're talking about. Therefore, I'm going to turn it back to Al for a moment, who's going to discuss this important topic, as well as provide some concluding remarks. I'll then rejoin Al for our Q&A session. Thank you. Al?

Albert P. L. Stroucken

Thank you, Steve. And I'd like to wrap up with a few additional comments before we move to the Q&A session. On Slide 65, you see some of the leaders who are fully accountable for the execution of the plans that we have presented today and for the delivery of the financial results. Our broader organization, regional and corporate, business and functional is focused on executing our strategic plan. We have structured our reward system to ensure that the compensation of those leaders who drive company-wide performance is completely aligned with the objectives of the company and the shareholders. The board has tied our short-term financial incentives to a free cash flow generation, EBIT margin and top line targets. Among these targets, free cash flow is the most heavily [indiscernible]. Our long-term incentives are tied to earnings per share growth and return on invested capital. Importantly, our long-term incentives are really concentrated on the top leaders of the organization that can drive the results and to make sure that we cement alignments between the objectives that we have and the people that can influence us. And all of the compensation is equity-based. So I hope that we have been successful in explaining our strategy to you.

It's an exciting time to be at the helm of this business. And together with the global leadership team, we are transforming this company from a commodity bottle provider to a strategic partner to food and beverage companies around the world. We have strengthened our balance sheet and improved our financial viability. We are actively participating in the growing economies in South America and Asia, and strengthening our position in Europe and in North America. We are increasing our competitive advantage by taking costs out of our structure and investing in research and development and technology. We will continue to lead the way in innovation, quality and customer service. All of this together will drive shareholder value through higher free cash flow and financial returns for our investors.

And now we would like to hear from you. Dave?

Question-and-Answer Session

David Johnson

Thanks, Al. I see all the hands already popping up. Let me go through just 1 rule or 2, if I may. We have a couple of handheld microphones that will be distributed. For the benefit of those here and then also on the webcast, if you'll do me a favor and please state your name and the firm for whom you work and we'll get going. 1 question, please, and a follow-up, just feels a lot like the earnings process. Please.

George L. Staphos - BofA Merrill Lynch, Research Division

George Staphos, BofA Merrill. 2 questions to start on, on Europe, for my turn. First of all, as you're investing in your most competitive facilities, how do you prevent against unanticipated capacity creep? Because you'll typically see the productivity improve in those facilities more quickly than other facilities, and yet you said that you won't be adding capacity when you go through this process. So #1, how will you check against that? The second question related would be the following: as you are becoming more productive and more competitive even relative to where you are right now within Europe and you're also regaining market share, why do your forecasts assume that pricing merely keeps up within inflation? Is there some risk perhaps that pricing maybe is down over the next number of years, which would be an understandable outcome? How do you prevent against that? Why shouldn't we assume prices will decline a bit in Europe?

Albert P. L. Stroucken

Well, your question really addresses one of the big uncertainties going forward, and that's why we want to be careful in our predictions as to what we can achieve and what we can drive. We, of course, do not know what is going to happen in the marketplace 2 years from now, 3 years from now with regard to pricing, specifically. But what we have seen over the last 5 or 6 years gives us confidence that there is going to be a clear need by all the players in the marketplace to at least recover inflation. And that's what we have used as the base bottom line for our projections going forward. Now with regard to the capacity and capacity creep, 1 of the things that we're doing differently today is we're not necessarily increasing the asset base of our operations. What we're driving towards is getting speed increases through our operations. What we're looking at is putting more forming capabilities behind installed furnaces, because we believe there is much more capacity because both are on the furnaces. So the capacity that we will gain will give us the cushion that we need without becoming eventually a burden with asset costs that we have to invest to put that additional capacity in place. So it's really a different approach than we have seen in the past where to get additional capacity, you have to build an $80 million on a $100 million plan. We're trying to get the additional capacity as you saw in Andres' case with small modifications to an existing infrastructure, which are much more efficient, and then give you more flexibility in your capacity.

Phil M. Gresh - JP Morgan Chase & Co, Research Division

Phil Gresh, JPMorgan. A couple of quick questions. 1, if I can follow up on what George was asking. With respect to your CapEx and restructuring budget that you have, obviously, there's some discrete elements here over a 3-year period. I'm curious how you think about -- you talked about the potential for lower CapEx moving forward as a result of these projects. So how do you think about that $425 million to $450 million budget? How much of that is truly discrete with respect to the $200 million to $250 million you're spending in Europe versus kind of an ongoing restructuring that you see throughout the organization over time? And just how should we think about that?

Albert P. L. Stroucken

Okay. I think I'll ask Steve to give you some more details, but typically, in the past, we have looked at about 80% of our D&A is approximately our maintenance capital that's required to keep our asset base running. So as you look at that as a base, then you see where the flexibility is.

Stephen P. Bramlage

Yes, I think that I will just add. To be clear, the European spending, that $200 million to $250 million, is fully incorporated within the $425 million to $450 million annually over those next 3 years. And we look at it as, what is the investment required in the business to maintain what we have and to increase the productivity? So as those plans roll out in any given year, the investment may be more highly weighted to maintaining existing infrastructure in a certain year or it may be more highly weighted to restructuring. In the case of Europe, as we've said, we're going to spend approximately $100 million in 2013. And a large part of that, if you go back to Erik's presentation on a couple of those red dots, to start that process, we typically close some facilities. So that will require a significant use of cash to get that rolling. And that also then buys us time to start the engineering for the projects. So in 2013, it's a little more restructuring, a little less capital because of the timing, and it will change over the course of the next couple of years.

Phil M. Gresh - JP Morgan Chase & Co, Research Division

Okay. And then the follow-up question is just on your EPS guidance. Earlier on in the slide, you talked about $75 million of productivity annually. So if you look at that cumulatively over the 3-year period, it would seem to imply close to $1 a share from productivity, which would more than get you towards that EPS guidance. So are there offsets from a productivity standpoint that, that's a gross number? And are there offsetting negatives that we should be thinking about as we look at the company?

Stephen P. Bramlage

I don't think -- I hope there are not offsetting productivity items going the other way. That would certainly not be what we were trying to accomplish. I think our overall approach on the guidance, I hope it's balanced. I mean, there are certainly scenarios that exist where more effective in the implementation, it goes faster than we think, the macroeconomic environment works out a lot better than we thought, which will provide upside to what we've shown. But I'm also firmly convinced that, fortunately, we're not pressured. So I don't know what's going to happen in the next 2 or 3 years. And there will certainly be things that happen that we are not anticipating today, that we're going to have to figure out how to offset and how to recover. And so we feel like the guidance that we're providing today is very, very balanced. Yes, it could be better, but it also provides us a level of comfort that we can manage the unknown unknowns that we're likely to face.

Christopher D. Manuel - Wells Fargo Securities, LLC, Research Division

It's very refreshing to see a very balanced approach. It's Chris Manuel from Wells Fargo, by the way. A couple of questions for you. First, looking through some of your assumptions and underlying elements by the regions, 1 that jumps out at me in particular is South America. Over the last decade or so, you have achieved organic growth in that region. It's been upper single digits, low double digits, yet for the look-forward it's closer to 3%. So my first question is, with respect to South America, is there something potentially fundamentally changing or different within the region that you're suggesting a slowing? 1, and then 2, when you look at how that culminates into a margin, that's, in fact, still a chunk below where you have been historically. So is there something structurally or strategically different as we look forward in South America than where we have been?

Albert P. L. Stroucken

Okay, let me start out and then I'll pass it on to Andres. I think one of the discussions Andres and I have all the time is that a emerging market and a fast-growing market also has much greater volatility than a staid market like Europe and North America. So if we have a downturn in Europe and North America, it's a downturn of 1% in consumption or 1.5% consumption. If you're in one of these markets in Latin America it can swing significantly. And if there is 1 swing within the period, then, of course, your entire average for a 3-year period goes out the window. I think the other part that we've got to keep in mind as well, as we look into the region and look at the predictions for the future, is, of course, that we have seen significant currency swings over the last couple of years as well. And that's clearly something as well that we have to take into account when we look at what we should commit to from this region as we go forward. Andres, do you want to say something?

Andres Alberto Lopez

I think you put it very well. I think it's a balanced approach to a region that tends to vary pretty significantly over a short period of time. And you also asked a question about the margins. As we explained during the presentation, we've had some specific events that are driving or are affecting the margins. When we look at the bell curve, which is a very key enabler of growth, it has an implication in the logistics costs. Now as we explained, when we put furnaces like the furnace in our Rio de Janeiro operation, then we eliminate that cost. We also had a very significant level of furnace repairs and very large ones, and as we explained, that will elevate over the period of the plan that we're putting in front of you. So we have some things that have been playing and affecting those margins along the way.

Albert P. L. Stroucken

And then 1 other factor that plays a role. In 1 of the countries in the Latin America or 1 of the brewers in the country or 1 of the soft drink providers, decides to have a float renewal for a particular brand, that automatically then bumps your margins up quite significantly. So it's very uncertain to predict when that is going to happen because that's very often governed by capital markets and capital management by those companies.

Ghansham Panjabi - Robert W. Baird & Co. Incorporated, Research Division

Ghansham Panjabi at Baird. Obviously, a very defensive strategy, right? So one, based on productivity, cash flow extraction, return of cash to shareholders. How are you balancing that versus any bigger opportunities on the M&A side that might pop up between now and '15? I guess the reason I'm asking is you have a very ambitious competitor out of Europe, they're going to have a public tourniquet at some point that completes it for us. And they certainly have ambitions to keep growing. So how are you trying to balance it to a defensive focus versus something more acquisitive?

Albert P. L. Stroucken

All right. So when we look at our business, of course, we also look at our relative competitive positions and market positions around the world. It's clearly still, at this point in time, we're still around the world clearly the largest. There is no question about that. But that may vary sometimes from region-to-region. And we have to see really what does that mean with regard to market dynamics, because the market dynamics are ultimately what should drive for us what the right approach -- strategic approach is going to be. We are certainly, constantly talking with the board about what are several of the options that we should contemplate that we should consider? But it really -- if you look around the world, there are perhaps 2 large acquisitions still potentially left in the global. And certainly, when those opportunities arise, we will have to come to a conclusion with the board as to what is the right approach for our company as we go forward? Plans for that, of course, have to be prepared and have to be at the ready, but that is not something that we can discuss because there is no idea at this point in time that anything is going to happen. Now important though for us is to get to those objectives that we have done for this period and shown you here to have the financial flexibility, and be prepared in case such an event occurs.

Ghansham Panjabi - Robert W. Baird & Co. Incorporated, Research Division

Okay. And then maybe a question for Steve. Your progression seems very logical in terms of cash flow through '15. Why wouldn't you start to accelerate the share buyback and pulling it now versus starting next year when conceivably the stock could be worth more than it would open as?

Stephen P. Bramlage

It took that long to get that question? No. I think it's -- let's not get ahead of ourselves is my honest answer. It is unrealistic to expect by the time we get to 2015 that we're going to be in a situation where we're giving 100% of our free cash flow back in the form of share repurchase. I think that's quite unrealistic. Now what is the right balance? It's also not going to be 90-10 debt to share repurchase. Is it 75-25? Is it 50-50? I don't know at this point. As Al mentioned, a lot will change in the macroeconomics, a lot will change in the competitive environment, and we'll assess all of that once we get to that point in time. It's clear we recognize the need to continue to increase the returns that we give to shareholders in the form of cash. And for us, that will be in the form of a share repurchase. It will not be in a dividend over this period of time. But it will be a good situation, a good problem for us to have when we deliver on these commitments. And we're looking at that question.

Chip A. Dillon - Vertical Research Partners, LLC

Chip Dillon from Vertical Research Partners. 1 element of the income statement that can swing, of course, is the minority interest. And with the recovery of margins in the South America segment, should we expect that to pick back up, say $50 million? Or can you give us a feel for where that will go in 2015?

Stephen P. Bramlage

Yes. For us, minority interest, historically, the largest component of our minority interest has been 2 joint ventures we had, both in South America, 1 was in Colombia and 1 was in Brazil. We purchased the minority partner in Brazil several years ago. So the major component for us is the Colombian operation, where our partner owns 40-or-so percent of that business. Now in 2012, we also had an impact on minority interest from China where we sold the land of a facility that was a joint venture. We reported a large gain, the partner got their proportional share of that gain. But that was a little bit unique in terms of what's happened. So most of our minority interest numbers will be specifically associated with a business in South America going forward.

Chip A. Dillon - Vertical Research Partners, LLC

Okay. So obviously, it will really go up because of the China situation. And then you mentioned the pension, Steven. There's $0.70 per share swing, and some of us actually remember when you have -- you get a 5% yield on a 10-year note like 3 years ago. But anyway, let's just say that the interest rate environment, if the world actually gets a little bit better, and we see something like a 5% 10-year in, say, 2016 or '17, could we possibly see that expense swing back, especially given that you put so much into the plan? Or is there something structural that would not allow for that much of a swing?

Stephen P. Bramlage

We clearly will benefit. From a pure pension expense standpoint, we will benefit from any increase in interest rates. And just for some perspective, the weighted average duration of our global liability is about 10 years. So you can see the size of the liability, the size of the number that we have and do the math. So we will absolutely benefit from any increase in the rates, but we obviously are not in a position to predict that. And you can read the headlines as well as I do. We're certainly not counting on the Federal Reserve to do anything to help savers or pension plans in this country any time soon.

Philip Ng - Jefferies & Company, Inc., Research Division

Philip Ng from Jefferies. If I heard Erik correctly in the presentation, he flagged that the optimization program in Europe, you guys weren't taking any capacity out. And if I look at these long-term growth targets, you're talking about 1% volume growth, that would assume some lay in capacity. Are you using that capacity for different regions?

Albert P. L. Stroucken

Well, I can -- I'll let Erik answer, but we already have taken out capacity last year with regard to some of the facilities that we shut down. So there is no further capacity reduction required to adjust our available capacity with the demand that we're projecting as we go forward, but we need to become more competitive with that capacity.

Philip Ng - Jefferies & Company, Inc., Research Division

Because your volumes were down double digits this year, so if you're assuming 1% growth, that would still have some room for a reduction, I would assume?

Albert P. L. Stroucken

Well, as I said, we already did take some steps last year to take capacity out. We closed 3 furnaces last year. That's the capacity reduction that has already taken place. There is no capacity reduction going forward.

Philip Ng - Jefferies & Company, Inc., Research Division

Okay. And then switching gears a little bit. Southeast Asia was a market you guys flagged in the presentation. It seems like there's good growth. Can you talk a little bit more about that market from a margin standpoint? And what's your strategy for growing that business going forward?

Albert P. L. Stroucken


Stephen P. Bramlage

Yes, I will talk there. We have always -- just for some perspective, we have always tried to position in Indonesia. That's a wholly owned entity for us. And then in 2010, we entered into a 50-50 joint venture with a company called Berli Jucker, which is based in Thailand. They are a long-standing licensee of OI's, their subsidiary is called Thai Glass. So we own 50%, in the business. At the time we purchased the plants in Thailand, China, and the mainland were in Malaysia and in Vietnam. We relocated the Vietnamese site to a new greenfield facility last year. We are the largest -- that joint venture outside of Thailand is the largest supplier of glass containers across all of Southeast Asia. And then with our Indonesian position, we are the largest player in Southeast Asia, and we're really the only -- as this group would think of it, the only multinational glass container supplier there. So Verallia's not there, Arenault's [ph] not there it tends to be smaller or at least regional players. It is a very good opportunity for us going forward. We get the advantage of the local partner with the ties, and we feel like that provides us, in this particular case, a significant benefit. They know that part of the world very well, Cherone [ph] corporation, which has a large group of interests well beyond glass, that helps us from a connection and customer standpoint. So we are, as Al mentioned, quite bullish on that business. The challenge for us is to communicate it in this kind of a forum because it's not consolidated, so you don't see the revenues and it's difficult sometimes to see the EBIT coming through relative to the size of Australia and New Zealand. But our investments there continue. Again, we've increased the size of the Vietnamese business in the last couple of years. We are increasing our capacity in Malaysia and increasing our capacity by 10% to 15% in Indonesia as well.

Unknown Analyst

Yes. Al, you talked quite a bit today about moves trying to play a little more offense with glass as a packaging material and really try to go after markets instead of just depending what you've got right now. It's something we've heard from you 3 years ago when you introduced the Vortex bottles. I wonder, is there anything you kind of learned in the kind of 3 years since then that leads you to take a little different tack today in how you play offense or where you put your energy?

Albert P. L. Stroucken

Yes. I would say the evolution has been as follows: we were convinced that we had a very good model with glass smart, and that it was going to work very efficiently, but it would require in our larger markets to fundamentally change the structure or organization and the profile and capability profile of our people. So what we saw was that Latin America took this and fully implemented it and fully implemented -- I think it was 2.5 years ago on that new, going out. And I think we've changed 60% or 70% of our sales force at that point in time. We brought in people with consumer experience. We brought in people with channel through market experience. We brought in people with customer relationships that have worked with some of our customers that knew the thinking and the approach. And so we were able to go to them not with what we want us to do tomorrow, but we would go to them and say, "If you change this bottle and you place this bottle in this price range and go in this category, this is what you will gain as potential market share, as pricing for it and so on." And that worked extremely well. The evolution of this in the rest of the organization has been slower than we wanted, because that, as I said, required changing structure and required changing sometimes personnel in those regions. But I would say today, throughout all 4 of our regions, it's fully embraced. People understand the value, see the value because Latin America has demonstrated palpable results and attest in the relationship with our customers, as well as in the profitability that we can generate.

Unknown Analyst

Okay. And now just as a follow-on. I'm curious, you mentioned R&D and innovation spending. You said you're going to do it by taking costs out. Is it possible to see for you to the size of what you're going to spend in those 2 areas? And also to talk a little bit about where specifically it's going to go, what type of things you're focusing on?

Stephen P. Bramlage

Yes. We generally disclose research development and engineering, and we combine those together. And I believe it's rubbed in generally $25 million or so per year over the last couple of years. Now that's not purely R&, D because there is an engineering component within there. So from a relatively small base in terms of the total spending in corporation, that will increase single digit, high single digit type of a percentage off of that base, and then we'll obviously have to fund it with the commensurate reduction somewhere else.

Albert P. L. Stroucken

And it really depends on how you define R&D because, clearly, in our business, it really very quickly then connects again with operation because it does not really make a lot of sense by -- for us to tell them something totally new that requires a totally new asset base. Because how are we going to replace $13 billion worth of assets even if the technology is compelling? So the intent is really to get to technology improvements, whether it's energy efficiencies or whether it's glass composition, which will help us with light weighting and strength of glass, to make sure that most of that can be applied to our existing infrastructure as well. So I think, again, it's making sure that the balance exists between what ideally is possible and what realistically is feasible.

David Johnson

Jason. And if I may ask, for those that have, are going to have questions, if you could just limit it to 1, kind of tracking the time. I know there's several people that also want to ask questions. Thanks.

Adam J. Josephson - KeyBanc Capital Markets Inc., Research Division

Adam Josephson, KeyBanc. Just on -- Steve, you talked about increasing share repurchases next year. What's the criteria for those share repurchases? Is it the stock price, the availability of acquisitions or anything for that matter?

Stephen P. Bramlage

For 2013?

Adam J. Josephson - KeyBanc Capital Markets Inc., Research Division

For '14, increasing share buyback for next year.

Stephen P. Bramlage

The number -- the logic for the criteria for '14 won't be radically different than '13. I mean, we have a couple of points to remember is we generally will not do a significant share repurchase in the first half of any year. That's just based on a seasonal cash flow, cash flow tends to be negative in the first quarter and breakeven in the second. Frankly, at current share price level, I don't have any concern about should I be repurchasing these shares or not. So we don't spend a significant amount of time looking at that. We will -- it will be driven by the number of shares that we are issuing from a compensation program, and we'd schedule it out in a way that makes sense. Generally second half of the year weighted.

Scott Gaffner - Barclays Capital, Research Division

Scott Gaffner from Barclays. Just hoping we could talk about the restructuring efforts you're taking on. You've obviously done a significant restructuring in North America a few years ago. You completed Asia Pacific now or close. Now we're going to be spending $200 million, $250 million in Europe. Is there a way as we move forward, when we get done with Europe, that you can move to more ongoing restructuring so that we're not in a situation where we're doing larger restructurings every couple of years? Maybe some of the -- maybe you could give us some examples of what you're doing in North America currently to improve the footprint incrementally as we move forward, rather than larger structuring programs on it?

Albert P. L. Stroucken

I know you want to perhaps talk to that with regard to the ongoing productivity improvements in North America rather than those in restructuring to get through the efficiencies.

Stephen P. Bramlage

So what has happened is there's a lot of paradigms which we've attacked in North America, whether it's about speed, it's about throughput, it's about product mix, it's about proximity to customer and innovation. So what we have is a very detailed program leveraging all the levers of costs and product mix in -- across our factories. And it's really developing new skill sets, which weren't really there before. They were in pockets of the business, but not really there as a complete system. For example, we have a global audit, which every factory goes through with 1,244 operational questions. How do you do that? And then we've developed 50 trainings modules in the past year that we put everybody through to get consistent operational performance. So it's really moving the dial on operational effectiveness, and more an OEE type of mentality going forward as opposed to balancing supply and demand and then seeing where you can cut from in a more residual fashion.

Albert P. L. Stroucken

I think the issue is that we have to replace our asset base virtually every 12 years or 13 years. So there is an ongoing capital requirement maintaining our existing business, and therefore, we have to balance at certain points in time when is the right time to do the restructuring? And that generally happens when we are a bit softer on retails and other areas, that gives us a little bit more capital, and then we go after them at that point in time. Because, again, the intent is not to have these wild swings in the cash layouts that we go through.

Alex Ovshey Ovshey - Goldman Sachs Group Inc., Research Division

Alex Ovshey from Goldman Sachs. As we look at your margin targets outside of South America, they're in that 30% to 50% range, and in South America they're much higher than that. And I realized that, historically, that's been the case. But for investors that are new with this story, can you talk to the structural reasons that the margins in South America are much better than outside of that region and why you believe that is sustainable?

Albert P. L. Stroucken

Yes. I think 1 of the fundamental reasons is the competitiveness and cost competitiveness of glass packaging on a per transaction basis, because it's very difficult for an aluminum can or for a plastic container to compete effectively with a returnable glass container on a per transaction cost basis. And even if we get a somewhat higher margin than we would typically see in the rest of the world, the difference is not sufficient to really break through that barrier of competitiveness that returnable glass containers provide. That's why we feel that on a broad basis, returnables really are a very economic alternative to our customer base and also provide us with the opportunity for additional margins. And the high share that we have in Latin America on returnables certainly helps to get to that higher percentage. In North America, for instance, we only have Canada where we have a returnable concept that's still alive, and we see similar benefit of such a situation in Canada as well.

David Johnson

1 more question?

Anthony Pettinari - Citigroup Inc, Research Division

Anthony Pettinari from Citi. You referenced the benefits of your $75 million cost reduction program would be kind of back-end-loaded in the 3-year period. In 2013, should we assume that the benefits of cost reduction are basically de minimis? Or is there any way that you can kind of quantify the ramp? And then from an organizational perspective, people, technology, are there any kind of major changes you need to undertake in order to sort of enable the cost reduction? Or how should we think about risks around that?

Stephen P. Bramlage

Around phasing in 2013 of the cost of the sold reduction difference in the European, the $80 million or so we're expecting in Europe. It will be not radically different from what we've seen in Europe in terms of the phasing will be more second half-loaded. I mean, the formulation of the plants, the labor negotiations that are sometimes required, a portion of them relate to labor. In the U.S., we obviously have much less friction associated with making changes that, as it impacts the workforce as we do in other regions. So it will be actually similar in phasing to the European phasings we expect in '13, which is generally it's gonna be more back-end-loaded than front end

David Johnson

Great. Thank you. Well, this concludes our Q&A session. We'll have our executives, leadership, others, will be still around for quite some time. So please have more questions and engage with them. The next time that you're faced with that question about looking at food and looking at a beverage in a package, I just encourage you to think about the honest, pure, iconic choice, and that's glass. Thank you very much. Have a good day.

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