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Executives

Ed White - SVP and CFO

Al Stroucken - President, Chairman & CEO.

John Haudrich - VP, IR

Analysts

Richard Skidmore - Goldman Sachs

Tim Thein - CitiGroup

Ghansham Panjabi - Robert W. Baird

George Staphos - Bank of America/Merrill Lynch

Chris Manuel - KeyBanc

Joseph Naya - UBS

Peter Ruschmeier - Barclays Capital

Al Kabili - Macquarie

Claudia Hueston - JPMorgan

Mark Wilde - Deutsche Bank

Alton Stump - Longbow Research

Owens-Illinois, Inc. (OI) Q4 2009 Earnings Call January 28, 2010 8:30 AM ET

Operator

Good morning. My name is Janice and I will be your conference operator today. At this time I'd like to welcome everyone to the OI first quarter 2009 earnings conference call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks there will be a question-and-answer session. (Operator Instructions). I would now like to turn the call over to Mr. Ed White, Senior Vice President and Chief Financial Officer. Mr. White, you may begin.

Ed White

Thank you, Janice. Good morning and welcome everyone to Obi's fourth quarter and full year 2009 Earnings Conference Call. I'm joined today by Al Stroucken, our Chairman and CEO, John Haudrich, Vice President for Investor Relations and several other members of our senior management team. Today we will discuss key business developments in the quarter and the year, review our financial results and discuss the trends affecting our business in 2010.

Following our prepared remarks, we'll host a question-and-answer session. Presentation materials for this earnings call are also being simulcast on the company's website at o-i.com. Please review the safe harbor comments and disclosure of our use of non-GAAP financial measures included in those materials. Unless otherwise noted, the financial results we are presenting today relate to adjusted net earnings include certain items that management considers not representative of ongoing operations. A reconciliation of GAAP to non-GAAP earnings can be found in our earnings press release and in the appendix to the presentation. I'll now turn the capital to Al who will start on chart two.

Al Stroucken

Thank you Ed and good morning. Our business performed very well in 2009. Despite the global recession, we reported adjusted earnings of $2.93 per share, one of our best results since O-I returned as a public company in 1991. We generated $372 million of free cash flow for the year, which rivals our record cash generation in 2008. At the same time, we invested over $400 million of capital, including projects to streamline and improve the productivity of our asset base. Unprecedented market conditions throughout the year led to a 10% reduction in shipments from 2008. Faced with this challenge, we remain steadfast in our strategy to temporarily curtail production to match supply with lower demand.

In fact, we reduced our inventories by 11% from the prior year as we focused on maintaining a lean working capital structure during uncertain times. This strong working capital management was the key driver of our free cash flow generation. Although the year presented many challenges, we successfully advanced our strategic priorities, improved price and mix significantly, thereby exceeding the modest cost inflation. In 2009, we achieved more than $120 million in savings from our strategic footprint initiative and we improved our already strong financial position by reducing net debt and extending bond maturity. I am proud of how O-I faced the most difficult market we have seen in generations and the strong results we achieved despite these challenges.

Likewise, we ended the year on a positive note as our fourth quarter 2009 results of $0.49 per share exceeded prior year earnings. Strong operating performance offset higher non-operational costs. As with the full year, we benefitted from improved price and mix and savings from our footprint initiative. The gradual year-over-year improvements in volume, comparisons we've noted throughout the year continued in the fourth quarter as shipments were down only modestly from 2008 levels. While temporary production curtailments continued due to lower demand, we also reduced inventories significantly from third quarter levels.

As expected, non-operational costs increased from the prior year, driven by higher year-over-year pension expense, a higher effect of tax rate during the quarter and continued currency charges in Venezuela. Given our strong cash flow generation in 2009, we applied cash to reduce debt and accelerated 2010 non-U.S. pension contributions. As is customary for O-I, the fourth quarter was the peak capital spending period for the year.

Looking to 2010, we expect that price and mix should more than offset continued modest cost inflation. Given the fixed and variable cost bases of our operations, we have significant operating leverage due to changes in production levels. As the market recovers and stronger volumes drive higher utilization of our operations, this leverage will benefit future earnings. While non-operational costs will increase primarily due to higher pension expense, future earnings will continue to benefit from footprint initiative savings. Overall, we believe O-I is well-positioned to drive profitable growth and advance our strategic priorities in 2010.

Now I will review our performance by region on chart three. We have provided segment operating profit for each of our four regions. Full year profits are shown on the left and fourth quarter results are on the right. I will share a few high level comments about annual regional trends, but concentrate on the fourth quarter to provide more timely market color. In 2009 we successfully maintained profit margin percentages in the mid-teens even with net sales and profits declining by more than 10%. Europe bore the brunt of temporary production curtailments to balance supply with lower demand, which accounted for most of the difference between 2009 and 2008 segment profits.

At the same time, the region generated more than half of our working capital improvements in 2009 and significant footprint savings. North America's operating profits improved more than 50% compared to 2008. The region successfully passed through significant prior year cost inflation, resulting in strong price improvements in 2009. Of our four regions, North America achieved the greatest benefit from the strategic footprint initiative during the year. South America faced the highest cost inflation environment and met this challenge with strong price actions.

While contending with the largest year-over-year volume decline in all of our regions, South America's margins still exceeded 20%, which is the highest in our portfolio. Asia-Pacific made the strongest come back during the second half of 2009 after its results during the first half were impacted by economic issues and higher costs. Overall, conditions improved throughout the year. Year-over-year volume comparisons improved each quarter and our earnings during the second half of 2009 exceeded the same period in 2008.

Now turning to the fourth quarter, our European operating profits clearly rebounded from the prior year. As you may recall, fourth quarter 2008 profits were under significant pressure due to the global recession. Since then, our European results have benefitted from improved price and mix and footprint savings. Foreign exchange translation was also a tail wind in the fourth quarter. European shipments were down from the prior year and now generally reflect underlying consumer consumption patterns.

In North America, our performance was consistent throughout the year. Profits benefitted from improved price and mix, as well as our footprint initiative. Profits increased despite shipments being down modestly from the prior year. During the quarter, we successfully renegotiated many North American customer contracts which took effect in 2010. As a result, we have significantly repaired our margins on those businesses. We will also see greater margin stability due to the more rapid pass through of volatile cost components like energy.

Furthermore, we maintained relationships with all our customers throughout this process. However, shipment levels will likely decline in order to achieve our objectives. In response to this lower volume, yesterday we announced the permanent closure of two of our highest cost plans in North America, plus one additional firm. As it will take several months to complete these closures, we will incur additional temporary production curtailments in the first half of 2010. Once these changes are complete, operating profits will improve, starting in the second half of 2010. These are difficult decisions to make, especially since these operations and our employees there have been part of the O-I family for so many years. As is our practice, we are offering assistance programs to impacted employees at the closed plants.

In the fourth quarter, South American profits were 10% higher than the third quarter, but modestly down from 2008. The region continued to benefit from significant year-over-year price improvements, which more than offset high cost inflation in South America. Earlier this year, shipments were down sharply due to customers temporarily extending the useful life of returnable and refillable bottles, a common recessionary trend. Demand in all end use categories has improved over the past few months, prompting higher returnable bottle sales.

Overall, our fourth quarter shipments were essentially flat with the prior year and this reflects quite an improvement from earlier in 2009. We made solid progress as we extended our footprint initiative to South America where we shut down two furnaces and relocated multiple machine lines. We continued to remit cash from Venezuela to avoid additional exposure to the bolivars which impacted regional profit-margins by nearly 4 percentage points. Ed will discuss currency developments in Venezuela in a few minutes.

In Asia-Pacific, results benefitted from improved price and mix, while input costs remained stable. Export wine sales from both Australia and New Zealand were quite strong. We continued to see sales recovery in China, albeit at lower margins compared to the regional average. Finally, a stronger Australian dollar also provided considerable benefits to regional results. Overall we are very pleased with the progress each of our regions made in this challenging marketplace and we are confident that our strategies will continue to drive improved financial performance over the long-term. I will now turn the call back over to Ed.

Ed White

Thanks, Al. Let us begin with our reconciliation or segment sales operating profit and EPS. First, we will start with our fourth quarter year-over-year sales reconciliation on chart number four. Segment sales increased approximately $1.7 billion in the fourth quarter of 2008 to almost $1.9 billion. Sales benefitted $76 million or more than 4% from the improved price and mix that Al just discussed. Glass shipments in tons were down 5%, impacting revenues by $102 million. This volume decline was the smallest for the year, reflecting the improving trend in year-over-year volume comparisons.

Finally, sales benefitted from the weaker U.S. dollar. This was the first quarter in 2009 when currency translation was favorable on our top line. Moving over to segment operating profit, fourth quarter profit was $196 million, up from $157 million in the fourth quarter of 2008. As we expected, operating profits benefitted from improved price and mix, favorable currency translation, and lower operating expenses while lower shipments, additional temporary production curtailments and greater maintenance expense resulted in higher manufacturing and delivery costs.

On an EPS basis, our adjusted net income was $0.49 per share in the quarter, up from $0.45 in the prior year. The benefit of the operating items just discussed was $0.22 but they were partially offset by non-operational items that impacted earnings by $0.18. The two most significant items were the higher year-over-year tax rate that reduced quarterly EPS by $0.8 and remittance of cash from Venezuelan at the parallel rate which cost another $0.6 which is included in the other line.

Chart five illustrates the full year reconciliation for segment sales operating profit and adjusted earnings. Sales declined in 2009, primarily due to lower shipments, as a result of weaker market conditions, customer destocking in the first half of the year, and our price over volume strategy. Although the U.S dollar was weaker compared to other currencies in the fourth quarter, it was much stronger earlier in the year and overall, for the full year, currency translation was unfavorable compared to 2008. Finally, improved price and mix benefitted both revenue and operating profits.

Moving over to segment operating profit, though down from the prior year, we still achieved a segment operating profit of nearly $1 billion in 2009. We have very pleased with this achievement, given that year-over-year profits were reduced by more than half a billion dollars due to lower sales and significant temporary production curtailments. But these dramatic head wins were mostly offset by our pricing, cost management, and footprint initiatives. On an EPS basis, our adjusted earnings were $2.93 per share for full year 2009, down from a record $3.80 in 2008.

In addition to the EPS impact from the operating factors just discussed, non-operating costs were higher and reduced year-over-year EPS by $0.25. These costs were driven by higher pension expense, a higher effective tax rate and a $0.12 charge for exchange losses on our Venezuelan cash remittances. As Al said earlier, our operations performed well in 2009 and we finished the year with fourth quarter earnings exceeding prior year results.

Now chart six illustrates our year-over-year free cash flow reconciliation. We generated $372 million of free cash flow in 2009, compared to $396 million in the prior year. As discussed, 2009 operating profits were down from the year before. Depreciation expense declined as our footprint initiative reduced our asset-base and as a result of foreign currency translation. Working capital was a major source of cash and represented a year-over-year swing of $302 million. This favorable result came from inventory and trade receivable management which was a constant focus throughout the year.

Asbestos spending was down $20 million from 2008 and I will review asbestos in more detail shortly. CapEx was approximately $66 million higher than 2008. Payments for restructuring and severance were also higher by $19 million. We have used our strong balance sheet and cash flow to make these necessary investments to streamline and optimize our operations for the benefit of the company's long-term profitability. Other operating cash flow items are outlined in the footnote at the bottom of the chart.

Let's move to chart number seven for more detail on our balance sheet and free cash flow. Total debt on December 31, was $3.6 billion and cash was $812 million. During 2009, net debt came down more than $150 million. We also maintained a strong debt to EBITDA ratio at 2.2 to 1. This was at year-end. Our global revolving credit facility remained undrawn, giving us additional capacity of approximately $760 million. Capital investments totaled $428 million in 2009. As usual, the fourth quarter was our peak capital spending period for the year. We concentrated on a number of maintenance projects that we had deferred earlier in 2009 until our cash flow outlook was more certain. Likewise, the majority of our restructuring payments were made in the fourth quarter and primarily related to several furnace closures announced earlier in the year.

Now as Al mentioned, we've put some of our available cash to work in the fourth quarter. We repaid $63 million of debt, primarily a portion of our Australian term notes, due in 2011. We also accelerated our 2010 expected pension contribution which helped reduce our unfunded, non-U.S. pension liability. Keep in mind, our strategic cash priorities remain unchanged which include organic growth opportunity such as footprint optimization, along with strategic acquisitions. However, we will continue to be opportunistic in our approach and we may put cash to work for other uses like debt reduction, as we did in the fourth quarter.

I will now review the situation in Venezuela. In mid-2009, we recognized that economic conditions were negatively impacting the official Venezuelan currency exchange process. To mitigate further exposure to the bolivars, we began remitting cash generated in Venezuela through the parallel currency exchange market. As a result, we incurred an exchange loss of $0.12 in the second half of 2009. As you read in our press release we translated our year end Venezuelan balance sheet at the parallel exchange rate of 6 bolivars to the dollar from the official fixed rate of 2.15. This revaluation resulted in a $179 million reduction of total shareholder equity.

Just three weeks ago, the Venezuelan government devalued the Bolivar, establishing an official three-tiered exchange rate system which now includes the parallel market rate. Furthermore Venezuela is now officially deemed a highly inflationary economy for accounting purposes. Therefore, going forward, we will translate Venezuelan Bolivar denominated financial results at the parallel rate instead of the historic official rate. With this change, we no longer expect to incur further exchange losses on Venezuelan cash remittances.

Having remitted cash at the parallel rate in the second half of 2009, the incremental head win of devaluation will impact 2010 earnings by $0.10 to $0.15 per share, principally recognized in the first half of the year, assuming no further change in exchange rates. O-I has successfully operated in Venezuela for more than 50 years and this is not the first time we faced strong inflation and currency issue. We are committed to our Venezuelan operation and we remain optimistic about our business opportunities in that country.

On chart eight we've provided an asbestos update. First, nothing has changed in the basic fact pattern. We exited the business in 1958. That was 52 years ago. As you can see on the left, we had 6,000 new cases filed in 2009 and the total number of pending cases dropped to 7,000 which is the lowest number of pendings since 1980. On the right you see our cash payment history and our total recorded asbestos liability. Our 2009 payments were $190 million, a 10% drop compared to 2008 payments.

During the fourth quarter, we conducted our annual review of our asbestos activity to adjust our future liability. As a result, the company recorded a noncash charge of $180 million in the fourth quarter of 2009. This charge compares to $250 million in 2008. The lower 2009 asbestos charge reflected in part, the significantly lower level of pending asbestos related lawsuits at this year-end, at the year just ended. Overall, asbestos remains a limited and declining risk for the company.

On chart nine, we present our business outlook for both the first quarter and the full year 2010. We've provided the usual directional guidance on the key business drivers for earnings and cash flow. Plus, we expanded information for the full year 2010 to include earnings sensitivity for price, volume, and temporary production curtailments and estimated ranges for cost inflation, footprint savings and non-operational costs. And finally, our thoughts on several other items impacting free cash flow. Of course, as with any estimates, they are subject to change throughout the year.

Starting with our key business factors, price and mix, we expect margins will benefit from improved price and mix, both in the first quarter and for full year 2010, led by our North American region. However, total company 2010 price realization will be more modest than what we achieved in 2009 as last year benefitted from the recovery of significant 2008 cost inflation.

Sales volume. Shipments in North America are expected to be down in the first quarter, compared to 2009. However, rest of the world shipments should improve modestly without the repeat of 2009 destocking. Looking at the full year, even with lower North American volumes following contract negotiations, we expect total global shipments should improve in 2010 on a year-over-year basis as the global market continues to recover.

Temporary curtailments. Given our new business mix, additional down time will be required in North America during the first half of 2010 until we complete the permanent capacity closure. By the second half of 2010, down time should be significantly reduced as market recovers and as our North American restructuring will be mostly complete.

Cost inflation. We expect inflation will remain modest throughout 2010 and approximate $50 million to $80 million.

Footprint savings. These initiatives will generate continued savings ranging between $50 million and $80 million in 2010.

Non-operational costs. Two factors will drive higher costs in 2010. First, corporate and retained costs will retain approximately $50 million from 2009, mostly due to additional pension expense which should be incurred evenly throughout the year. Also, net interest expense is expected to increase by $20 million to $40 million due to higher debt levels and expected higher interest rates. Finally we expect our effective tax rate will remain the same at approximately 27%.

While the effects have been integrated into the outlook I have provided, I want to highlight the earnings impact of the North American contract renegotiation and developments in Venezuela. For the full year 2010, we expect to maintain our North American operating profits achieved in 2009. While long-term profits will start to improve in the second half of 2010, once capacity has been realigned. As I previously mentioned, the developments in Venezuela could negatively impact 2010 earnings by an incremental $0.10 to $0.15 per share and this impact will principally be felt in the first half of the year.

Regarding other 2010 items, capital expenditures should be approximately $475 million. Keep in mind that maintenance level capital is typically around $350 million. The additional investments, primarily relate to the completion of our new furnace in New Zealand and to the North American realignment activity. Further, we expect restructuring payments of approximately $100 million, mostly related to the realignment of our North American asset base.

2010 pension payment should only approximate $15 million since we prefunded required international pension contribution at the end of 2009. Finally, as market conditions recover, higher sales will require a greater investment in working capital. Overall, we are very encouraged by our prospects in this new year, especially after how we managed so well through a difficult 2009. The company has been doing all the right things to create long-term value and we look forward to building on this progress. Now I will return the call back to Al.

Al Stroucken

Thanks, Ed. That's right. Heading into 2009 we all assumed the worst given the dire state of the economy. But, O-I weathered the storm very well. In fact, 2009, as I said before was one of the best years in our company's history in terms of earnings and cash flow. I believe this underscores the resiliency of this organization and the dedication of the whole O-I team to succeed in spite of many challenges. There's no question; we are a stronger company today than at the onset of the global recession. Shipment trends have gradually improved. Our selling prices are up while inflation has moderated and our financial position has improved. We have reduced our net debt, extended debt maturities and cash exceeds $800 million, all of which support our future strategic priorities.

O-I is well-positioned to take advantage of market opportunities that emerge as the economy continues to recover. We are becoming a leaner and more agile company. While we have made significant progress over the past few years, we continue to drive further productivity improvements. We are investing in our people and our plans as well as in innovation and technology. As we strengthen our marketing capabilities, partner with our customers and develop new packaging solutions, we will also be promoting the health and sustainability benefits of glass, which you will be hearing about more in the near future. I'm confident that O-I will continue to prosper and that we'll continue to increase shareholder value.

Now I will ask the operator to open the line for your questions. Thank you.

Question-and-Answer Session

Operator

(Operator Instructions). Your first question comes from the line of Richard Skidmore of Goldman Sachs.

Richard Skidmore - Goldman Sachs

Just wanted to follow-up on the mills that you're shutting in North America. Can you help us, in terms of quantifying how much of those two mills represent of your North American capacity?

Al Stroucken

Well I think if you look at it, our North American, total number of plants is about 21. So those are two facilities. If you put it in that perspective it gives you an idea.

Richard Skidmore - Goldman Sachs

And Al, what changed relative to prior expectations that's resulting in the closure of those two facilities? Is it a result ultimately of the pricing negotiations with some of your customers?

Al Stroucken

Well part of it is. We had been looking at our footprint in North America for quite a while a year-ago or so we were very active in Canada, making the adjustments. One of the real issues that we're trying to accomplish as we restructure is also reallocate volumes to existing capacity that perhaps is underutilized. So that generally requires a little bit more planning of the supply chain. But certainly also contract negotiations played a role in our decision with regards to the overall volume that was going to be needed and I believe what really we've seen in the second half of last year is that some of our customers became fairly reluctant to be optimistic with regard to what the future of that was going to be and of course that ultimately led to some of the discussions, the decisions that we had to make with regards to the planned closures as well. It's really projected demand. That also had quite an influence on our decision.

Operator

Your next question comes from the line of Tim Thein of CitiGroup.

Tim Thein - CitiGroup

First question is on the temporary production curtailments. Can you give a sense in terms of the outlook for 2010? Does the bulk of that reflect these North American outages that you just spoke and if not, can you give a break down in terms of just broadly where you have furnaces down now. I'm especially interested in terms of where you are operating in South America?

Al Stroucken

Well we're basically making our adjustments on a monthly basis. That's why they're temporary curtailments and they're really driven by what the demand picture shows and I think I mentioned in my prepared comments that certainly in Latin America to come to the last part of your question, we have seen a significant improvement in volume and so automatically then the temporary curtailments diminish considerably. In Asia-Pacific, we also had a fairly flat year-over-year volume comparison. So also there, the impact of curtailments was significantly less than perhaps in Europe or North America where we are still seeing the greatest impact of the economic downturn.

Tim Thein - CitiGroup

Okay, and then on the cost inflation. What are you assuming there for oil and energy versus raw materials? Specifically what kind of rough number are you assuming on oil and how that translates into natural gas in continental Europe?

Ed White

Tim, it's Ed. We see our energy cost, right now we're just assuming it kind of stays at the levels where they've been for the last month. Raw materials, there has been, pluses and minuses, but pretty flat year-over-year. The biggest inflation driver that we have embedded there would be the unionized workforce that will be getting increases year-over-year.

Operator

Your next question comes from Ghansham Panjabi of Robert W. Baird

Ghansham Panjabi - Robert W. Baird

Hey, just as a follow-up to the announced plant closures, so is it fair to assume that you've completed negotiating all of your major contracts in North America or are there still some pending to be finalized?

Al Stroucken

I think we're basically done.

Ghansham Panjabi - Robert W. Baird

Okay, and Al, I think on the last quarterly call you commented that your volumes were pretty much tracking what end market fundamentals are doing. Curious on whether that trend held in the fourth quarter or did customers (inaudible) destock to boost their own free cash flow for the calendar year? Thanks.

Al Stroucken

I think the last quarter is always very difficult to really tie directly to it because there are many other drivers that impact that and so we feel that particularly in Europe, we saw a significant drive for cash and thereby reduced purchases, not necessarily reflective of market demand. In North America, I think that was crude to a lesser extent. We saw a little bit of it. In Latin America and Asia-Pacific we really didn't see that.

Ghansham Panjabi - Robert W. Baird

Okay, great.

Operator

Your next question comes from the George Staphos of Bank of America/Merrill Lynch.

George Staphos - Bank of America/Merrill Lynch

First question. If we look at past recoveries guys, for example looking at your [P&L] volumes historically we saw a modest volume increase I want to say a couple percent, looking at the trade data. South America is obviously very, very hard to predict but when it ultimately came back from the late 90's downturn it came back very sharply. Based on history and based on your assessment from customers, what would you have us think about in terms of what volume recovery is possible over the next couple of years? Do you think it would be stronger than past or more moderate than past?

Al Stroucken

Well George here of course addressed a fundamental question here that we've been trying to get answers to ourselves because logic, looking back at history would dictate that as you come out of a recovery you see solid improvements in overall volumes. However, what we're hearing from our customers at this point in time really doesn't lead us to believe that they are convinced that that is going to happen which is a little bit contradictory if you really look at the long-term trends and at the long-term history and you may have seen in our article, I think it was in yesterday's Wall Street Journal about the bull whip effect about caterpillars. And of course in the back of our minds, we need to be ready if that happens. But I want to first of all hear the first crack of the whip before I make a forecast on that.

George Staphos - Bank of America/Merrill Lynch

Understood, understood. Switching gears and related to the guidance on non-operational costs, we appreciate the detail. Ed, I just want to understand, what are the key drivers in terms of why debt levels will be higher next year? Should we extrapolate and forgive me if I'm missing something, that free cash flow in '10 will be less or negative because of some of the investment spending and curtailment related spending?

Ed White

Yeah, it looks like it will be slightly less. Certainly don't see a negative.

George Staphos - Bank of America/Merrill Lynch

Okay.

Ed White

I think it is just early in the year. We always start out saying you need to understand what's going to be happening in terms of cash from operations.

George Staphos - Bank of America/Merrill Lynch

Okay, so then why would debt levels be heading higher?

Ed White

Well... we had the bonds that we issued last year. So we have higher average debt in 2010 than we would in 2009 just because of the bonds.

George Staphos - Bank of America/Merrill Lynch

Oh, okay, I understand.

Operator

Your next question comes from Chris Manuel of KeyBanc

Chris Manuel - KeyBanc

I wanted to follow up a little bit on a couple of questions George asked first. When you're looking at the volume improvement in 2010, it sounds like it's going to be more back end loaded. But if you look at the last couple years, I think you were off. You said 10% this year and I believe 7% or so last year. Is it unreasonable that as we look across some of the geographies that do have some pretty strong coil in the spring that, let's call it a low single-digit to potentially mid single-digit improvement in 2010 is realistic. Can you maybe give us a little more color onto what, when you say up volumes 2010, a little more color of the expectation there?

Al Stroucken

Chris, of course you're watching and you're observing other industries and you've looked at what has happened in the past. So I think your basic assumption of course has a lot of validity to it. What really is the uncertainty at this point in time is when it will start. What is the timing? When will it really then start driving volume. I don't think there is any question that there is going to be a recovery. The question really is when is that recovery going to start and at this point in time we want to be cautious with regard to when we believe that timing is going to be and that's why you see our comments standing more in the second half of the year than in the first half.

Chris Manuel - KeyBanc

Okay and if you could help remind us with respect to South America. I think you indicated that in 4Q volumes turned flat down there. The comps should get a little wheezier. I believe, was it mid-year in 2009 when those comps turned? They were negative double digit. Can you give us a little more color there?

Al Stroucken

I think they were negative double-digits in the first and second quarter and then it started. It was still double-digit I think in the third quarter but clearly an improvement over the first and second quarter. So I think what we were seeing in Latin America was perhaps more severe than what we saw in other regions but the trend line was very similar. The deepest quarter was the first quarter and then we saw gradual improvement.

Chris Manuel - KeyBanc

Okay. And then the last question I had was, CapEx I saw moving up again. This will be a couple years in a row it's moving up. Could you maybe give us a little more detail around what type of productivity or capacity or other type of realignment, what is the higher CapEx for?

Al Stroucken

Well, you typically see that we have about $350 million or so of maintenance capital investments which is basically to just keep the wheels on the car and keep the car running.

Chris Manuel - KeyBanc

Yep.

Al Stroucken

The other thing that we have been doing and that's a change from what perhaps you saw in the past years, is with the alignments that we're making in our capacity, it's not just that we just have to lock down or shut down facilities. But we have to create capabilities then in other facilities to more economically assume those volumes and that requires additional capital. So that's a direct tie to what we have done to take cost out of the system, also had required some investments to get to that possibility and to that point. The third issue is that we are still going to grow in markets where we have very strong underlying growth patterns and a strong position and we have been making investments in Peru and New Zealand for new facilities. And then, another aspect that we are spending some capital on is we are creating greater flexibility in our operations and bringing new technology into our operations to basically be able to serve a variety of industries and markets from one facility rather than have a facility dedicated only to one use like beer or one facility dedicated to wine, which creates in the supply chain then a lot of freight cost and other transactional costs that we want to avoid. So the flexibility of our facilities will require some capital that going to give us better profitability down the line.

Chris Manuel - KeyBanc

That's helpful.

Operator

Your next question comes from the line of Chip Dillon of Credit Suisse.

Chip Dillon - Credit Suisse

Yes, just wanted to clarify first of all that you mentioned the free cash flow being $372 million and yet the net debt only went down $150 million and I know you put $50 million extra in the pension plans overseas. Is the other difference basically the payments for asbestos?

Ed White

No, not at all Chip. That number you have, that’s (inaudible) pushed that up about $150 million to $170 million.

Chip Dillon - Credit Suisse

Got you. And then that’s debt that's basically denominated in euros?

Ed White

Euros or Aussie dollars or Canadian dollars.

Chip Dillon - Credit Suisse

Got you. And then on the plant closures, I think I saw where one of them was in Charlotte, North Carolina. Where was the other one?

Al Stroucken

It's in Clarion, Pennsylvania.

Ed White

And its actually Charlotte Michigan, not Charlotte Carolina.

Chip Dillon - Credit Suisse

Okay. Sorry, Michigan, got you. Okay.

Al Stroucken

Michigan, not North Carolina.

Chip Dillon - Credit Suisse

Sorry, I'm from North Carolina, I thought that was the only Charlotte there was. And then lastly on the expectation, let me ask you this on Asia-Pacific. Obviously you had a great turn around last year and I see back in 08 you made $163 million there, but yet you had almost your best quarter ever in the fourth quarter. I guess what I'm asking is based on the visibility there, is it reasonable to see that you might get back up to a level of income in Asia in 2010 like you saw in '08 or maybe even '07?

Al Stroucken

I think if you look at what happened in the course of this year, that basically the big drop-off we saw in the second quarter, and that was due to some plant closures that we had and freight that we had to absorb to keep serving our customers from another facility that was much further located. But I had said already at that point in time that we expect Australia to rebound or Asia-Pacific to rebound to the previous profitability level and I expect that to be true for this coming year as well.

Chip Dillon - Credit Suisse

Got you. And real fast. I know that you had planned a, like $20 million upgrade in the plant that you've taken down temporarily near Williamsburg. Are you still, during this down time are you going to continue to work on that plant? I think there was like a $20 million capital program that you had planned for this year and next year.

Al Stroucken

We're continuing to invest the money because this plan is part of our plan to relocate capacity and facilities from the facilities we have closed.

Operator

The next question comes from Joseph Naya of UBS

Joseph Naya - UBS

I was just wondering if you could give us any kind of an update in terms of what your thoughts are on the acquisition front at this time.

Al Stroucken

Yeah, we'd like to do some, the basic response. I would say overall the number of candidates available has clearly improved. There is no question about that. I think there is still some time that is needed for some of the price ideas that some of the potential sellers have. It's a little bit adjusted because of course nobody wants to look at 2009 as the basis for the valuation but we are certainly very actively pursuing opportunities and especially in those regions that we have declared to be our priority regions for acquisitions which is Latin America as well as Asia-Pacific.

Joseph Naya - UBS

Okay, and just a quick question on the capital spending. As we stand here today, obviously this can change, but do you expect it to take more of a normal pattern are or you thinking you're still going to have kind of a similar situation where you have quite a bit pushed out to the end of the year as we had in 2009?

Al Stroucken

Well I hope that we would be able to spend more ratably in the course of next year because part of the concentration in the last quarter was a decision that we took earlier in the year to push some of our capital spending to the later year because there was so much uncertainty at the beginning of the year that we didn't want to spend the cash and potentially find out we might not have it at the end of the year. So I think going into this coming year, you will see a more ratable spend throughout the quarters.

Operator

Your next question comes from Peter Ruschmeier of Barclays Capital

Peter Ruschmeier - Barclays Capital

I was curious if you could elaborate on the mechanics of the cost pass troughs that you've renegotiated and the significance of them in your eyes. How broad input costs group do we follow here? Is it just gas and soda ash? How many products are we talking about? And maybe elaborate on the frequency and the importance of this contract renegotiation.

Al Stroucken

Well, as we have said in the past, we will concentrate on the more volatile cost components to make sure they get passed through in a timely fashion and that clearly is energy, predominantly because in many of the other things, even though there is volatility in those contracts as well, we generally have a longer term or a one-year agreement. But in energy, of course we're really depending on market conditions. So that's been our focus to make sure that we have very fast pass throughs, provisions of a month or maximum quarter. And I think if I'm looking at what I'm seeing in the United States, for instance in the effect that we have the positions that we will have to cover with regards that are un-hatched have dropped off dramatically. I think they're less than 15% or so.

Peter Ruschmeier - Barclays Capital

And does this reduce your need to hedge because you're just going to pass through or will you continue to hedge going forward?

Al Stroucken

Pete, we're really looking at not needing to renew our hedging policy going forward. So we will probably walk out of our hedges here through the first half of 2010. We'll keep looking at that and we'll update you on the next call.

Peter Ruschmeier - Barclays Capital

Okay, and just quickly, Ed would it be possible to comment on the period end balance of the underfunded pension?

Ed White

I really don't crack that number, although (inaudible) looking that, its more the cash requirements in our difference in our pension this year because the assets improved. We have a smaller pension liability than we had last year.

Peter Ruschmeier - Barclays Capital

Okay, so directionally it's gone down.

Ed White

Yeah.

Peter Ruschmeier - Barclays Capital

Super.

Operator

Your next question is from Al Kabili of Macquarie

Al Kabili - Macquarie

Just on the sensitivity on EPS to price and volumes, I notice you didn't highlight production curtailments there and if you could give us a sense of when and kind of what magnitude those would start to be positive variances for you?

Al Stroucken

Well if you look at the overall number that I think has been widely commented and reported on, it's about at a 10% volume reduction that we saw last year. That's had about a $500 million impact. So you could very logically expect that if we pick up volume, eventually you see that in the same ratio coming back to the bottom line.

Ed White

And Al, that's sort of looking at the volume impact on the sales line and the volume impact on absorbed fixed cost for reduction

Al Stroucken

I combination.

Ed White

In combination. Adding those two together you get that $500 million.

Al Kabili - Macquarie

Okay, and I think you guys indicated that it was globally flat 2010 but could we expect that it would be a positive contribution for Europe and South America, Asia-Pacific?

Al Stroucken

I think for 2010 overall, we are expecting volume to be slightly positive. So not necessarily flat. It depends of course on your definition of flat.

Ed White

If you're looking at our aero chart, which was chart nine and we said temporary production curtailments for the year was that blue line going across, because as we've mentioned, North America is going to be taking these curtailments in the first half to be kind of flat for the year, meaning it will be favorable in the back half.

Al Kabili - Macquarie

Okay and then, follow-up on just price cost and clearly North America is going to be favorable. Can you talk about the other regions, what the spread might look like there and if you can just give a sense in terms of overall global pricing?

Al Stroucken

Al, we're driving our business basically with the same principles in all the regions. So I expect all the regions to stay ahead of inflation and make sure that we have some large expansion. Now that may perhaps, even within a region vary a little from country to country. But overall I'd say we expect the regions just like North America to stay ahead of inflation with their pricing strategy.

Operator

Your next question comes from Claudia Hueston of JPMorgan

Claudia Hueston - JPMorgan

Just a couple of questions. In the slide presentation you talked about $50 million to $80 million in incremental cost savings from the footprint alignment. I just wondered, is that account for sort of everything that’s announced or do you assume there'll be more efforts over the course of the year in terms of closures or…

Al Stroucken

It's all in, Claudia.

Claudia Hueston - JPMorgan

Okay.

Al Stroucken

We lapped a lot of our cost savings and now we'll be picking up the new ones coming from principally the U.S but also some from South America and some from Europe.

Claudia Hueston - JPMorgan

Okay, and the timing of that is probably more sort back end, second half of the year?

Al Stroucken

Oh, as we had said, the North America the permanent closures aren't going to take effect until about the middle of the year. So we would only see the benefit in the second half.

Claudia Hueston - JPMorgan

Okay, and then just how much cash was left in Venezuela at this point?

Al Stroucken

I think it's about $40 million to $50 million.

Claudia Hueston - JPMorgan

Okay. Perfect. That's it.

Operator

Your next question is from Mark Wilde of Deutsche Bank

Mark Wilde - Deutsche Bank

Ed, I wonder if you can help us a little bit with, you said that North American operating profit would be kind of flattish for the full year. But, we're clearly going to be down in the first couple of quarters. Can you help us just get an order of magnitude about how that's going to flow through?

Ed White

I'd rather not. I think that's getting a little too much disclosure and a lot people are listening to this phone call.

Mark Wilde - Deutsche Bank

Okay, all right. And then the second question I have is for Al. And I'm just curious, there have been a lot more interest in this BPA issue over the last few months and I wonder if you're seeing any customers that may be thinking about coming back to glass because it's inert, it doesn't have a lining.

Al Stroucken

I think based on the conversations that we've had with customers that are showing some renewed interest in glass, there are a variety of factors. I believe that of course, the heightened level of discussion and visibility concerning BPA is certainly raising people's attention and perhaps influencing some of their decisions. But we see other factors as well. Other factors are for instance sustainability issues with regards to carbon footprint.

There are issues with regard to refillable containers obviously in a time of economic stress, offering a cheaper alternative than one way packaging and I think companies are also looking at glass again as differentiation. If everything is being sold as plastic then eventually glass again becomes a differentiator. So there are a variety of aspects to deal with this, but I would say overall, to give you a flavor, we certainly have seen a heightened level of discussion and willingness of customers to consider glass or to have more serious discussions about glass as an alternative packaging.

Mark Wilde - Deutsche Bank

Okay, good luck in the first quarter.

John Haudrich

Janice, we have time for one more question.

Operator

Okay and that question comes from Alton Stump of Longbow Research.

Alton Stump - Longbow Research

Just a quick question on your plant production shutdowns. Could you just maybe give us a ballpark number on what you think the savings could be from that once it kicks in, in the back half of the year and then moving to next year?

Al Stroucken

It's basically what we said. We expect to have about $60 million to $80 million in the course of this year.

Alton Stump - Longbow Research

Okay, so that's factored in back half so mostly? Okay. And then I was wondering if you could maybe give us some color on what the volume performances were in the fourth quarter and in Europe versus the U.S.?

Al Stroucken

Well, Europe was weaker as I said at the beginning because in Europe we saw a much stronger emphasis on cash flow.

Alton Stump - Longbow Research

Okay, any pace or any more detail that maybe you could give us with the mid-high single-digit decline or double-digits?

Al Stroucken

Off the top of my head I can't answer that.

Alton Stump - Longbow Research

Okay.

John Haudrich

Well, that concludes our fourth quarter earnings call. We'd like to invite you to our investor day scheduled for Thursday March 18th starting at 8:30 a.m. Eastern Time at the New York Stock Exchange. Further details will be posted on our website. Also, please note that our first quarter conference call is scheduled for Thursday April 29th at 8:30 a.m. Eastern Time. We appreciate your interest in O-I and thank you, have a good day.

Operator

This concludes today's conference. You may now disconnect.

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Source: Owens-Illinois, Inc. Q4 2009 Earnings Call Transcript
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