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Kimberly-Clark Corporation (NYSE:KMB)

Q1 2010 Earnings Call Transcript

April 22, 2010 10:00 am ET

Executives

Paul Alexander – Head, IR

Mark Buthman – SVP and CFO

Tom Falk – Chairman and CEO

Analysts

Jason Gere – RBC

William Schmitz – Deutsche Bank

Ali Dibadj – Sanford Bernstein

Chris Ferrara – Banc of America

Gail Glazerman – UBS

Wendy Nicholson – Citi Investment Research

Alice Longley – Buckingham Research

Andrew Sawyer – Goldman Sachs

Linda Bolton Weiser – Caris & Co.

Karen Lamark – Federated Investors

John Faucher – JP Morgan

Lauren Lieberman – Barclays

Connie Maneaty – BMO

Operator

We now have your speakers and conference. Please be aware that each of your lines is in a listen-only mode. At the conclusion of the presentation, the floor will be open for your questions. Instructions for asking the questions will be given at that time.

I would now like to turn the conference over to Mr. Paul Alexander. Mr. Alexander, you may begin, sir.

Paul Alexander

Thanks, David and good morning, everyone. Welcome to our first quarter earnings conference call. With us today are Tom Falk, Chairman and CEO, Mark Buthman, Senior VP and CFO, and Mike Asbell, Vice President and Controller.

Here is the agenda for the call. Mark will begin with a review of our first quarter results, Tom will then provide his perspective on the results, and discuss our 2010 outlook and we’ll finish with Q&A. For those wishing to follow along, we have a presentation of today’s materials in the Investor section of our Web site, which is www.kimberly-clark.com.

Now, before we begin, let me remind you that we’ll be making forward-looking statements during the call. There can be no assurance that future events will occur as anticipated, or that our results will be as estimated.

Please refer to the Risk Factors section of our latest Annual Report on Form 10-K for a description of factors that could cause our future results to differ materially from those expressed in any forward-looking statements.

I’d also like to point out that that we will be referring to adjusted 2010 results and outlook, both of which exclude a one-time loss in the first quarter of 2010 for the remeasurement of the local currency balance sheet in Venezuela as a result of the move to highly inflationary accounting.

Management believes that reporting in this manner enables investors to better understand and analyze our ongoing results of operations. For information on these adjustments and reconciliations to comparable financial measures determined in accordance with GAAP, please see today’s news release and additional information on our Web site.

Now, I’ll turn it over to Mark.

Mark Buthman

Thanks, Paul, and good morning. I hope you had a chance to review our news release this morning with the details of our results. I’m going to briefly review the quarter and I’d like to start with a few headlines.

First, organic sales growth was 2%, including continued strong results for K-C International in our healthcare business. Second, adjusted growth and operating margins each improved about 200 basis points leading to a 16% increase in adjusted earnings per share. And third, we continue to be focused on managing those factors we control. Delivering strong cost savings, holding down working capital, and increasing investment behind our brands.

Now, let’s cover the details of the quarter starting with top-line. Overall, sales increased about 8% to $4.8 billion, including a five point benefit from currency and a one point growth from acquisitions. Organic sales rose 2% as higher net selling prices and improved sales volumes each contributed one point of growth.

Now, we turn to the top-line for each of our segments and for this purpose I am going to focus my comments on organic sales setting aside the impacts of currency and acquisitions which are included in our news release.

In Personal Care, organic sales increased approximately 3%. Sales volumes were up 3% and higher net selling prices contributed one point of growth, while product mix was off 1%. In North America, organic sales increased nearly 3%. Sales volumes were up about 2% and higher net selling prices driven by the timing of promotional activity, contributed an additional point of growth.

Feminine Care volumes increased double-digits due to the strong initial shipments of our U by Kotex innovation. In addition, baby wipes and child care volumes rose mid single-digit and adult care volumes advanced 3%. Huggies diaper volumes were down about 5% including the impact of a lower level of promotional activity compared to last year.

Now moving to Europe, personal care organic sales were down about 3%. Net selling prices fell approximately 2% while product mix and sales volumes were down slightly.

For K-C International, Personal Care organic sales rose about 6%. Sales volumes were up 7% while product mix lowered sales by about a percentage point. We delivered broad-based volume growth in these markets highlighted by strong performance in China, Turkey, South Asia, and Latin America.

Turning to consumer tissue, organic sales were down about 3%, driven by lower sales volumes. In North America, organic sales were down about 4%. Net selling prices increased more than 2%, mostly from the sheet count reductions we took on Cottonelle in the first quarter to improve net realized revenue, while volumes declined nearly 6%. Volumes were impacted by sheet count reductions, a mild cold and flu season for Kleenex and consumer trade down of paper towels.

Switching to Europe, consumer tissue organic sales were down more than 5% in a continued competitive environment. Net selling prices fell approximately 3% and sales volumes were down about 2%. For K-C International, consumer tissue organic sales increased 2%, driven by higher sales volumes.

Moving to K-C Professional and other, organic sales were up 4%. Net selling prices rose 2%, mostly in North America, Latin America and South Asia. And product mix improved 1% as our global KCP team continued to execute strategies to improve revenue realization. In addition, organic sales volumes were up one point in the quarter reflecting a mostly stable environment in KCP’s category.

Lastly, Health Care organic sales were up 8%, coming entirely from higher sales volumes. Health Care organic volumes were up in several product categories, including double-digit growth in medical devices and exam gloves. In addition, approximately four points of volume growth came from increased global demand for face masks as a result of the H1N1 flu virus.

Now, let’s shift to profit, margin, and cost savings. Our adjusted gross margin was 34.5%, that’s up 210 basis points compared to a year ago as the sixth consecutive quarter of year-on-year improvement. The benefits from top-line growth, cost savings, less production curtailment in the last year and lower pension expense allowed us to overcome about $70 million of input cost inflation in the quarter. First quarter adjusted operating profit rose 21% and adjusted margin increased to 180 basis points to 15.8%. This is achieved despite a $60 million increase in strategic marketing investment.

In addition, selling, research and administrative expenses were up in the first quarter, driven by increases to support future growth in K-C International and the I-Flow acquisition. Results also included a lower level of currency translation loss of transaction losses in other income and expense.

Now, turning to cost savings; we’re off to a great start for the year with total FORCE savings of approximately $80 million. We continue to deliver improvements in sourcing and supply chain activities. And our European business is doing a terrific job and they had a great quarter in terms of cost reduction.

Given first quarter performance and the need to reduce costs further as a result of the input costs environment we now expect to deliver savings of $200 million to $250 million for the year, that’s an increase of $50 million compared to our previous targets. We also realized benefits of about $35 million from the organization optimization initiative we completed last year.

Now, let’s take a quick look at first quarter segment operating margins. Personal Care margins remain very strong and just over 22%. Consumer tissue margins were back up into the double-digit range although down from last year mostly from cost inflation. KCP margins of nearly 15% improved nicely year-on-year, driven by higher selling prices and cost savings. Lastly, Health Care margins remain healthy in the mid-teens.

Now, switching to taxes. The adjusted effective tax rate in the first quarter was 34.4%, above our full year target range of 29% to 31%. That was driven by a one-time non-cash charge equivalent to $0.05 per share for the change in the Medicare Part D subsidy in conjunction with recent U.S. Health Care reform. As a result, our full year 2010 adjusted tax rate is now more likely to be in the upper half of our guidance range.

Now, moving to cash flow; cash provided by operations was $464 million compared to $692 million in the year ago period. The decline was driven by a lower level of improvement in working capital, higher pension plan contributions, partially offset by higher cash earnings. Our primary working capital position remains strong. Our cash conversion cycle is about 51 days in the first quarter, that’s down more than seven days compared to 2009’s full year average of 58 days.

Contributions to our defined benefit pension plans in the first quarter totaled about $175 million compared to $90 million last year. We continue to target full year contributions of about $240 million. Looking forward, I expect our cash generation to build as the year progresses.

Regarding share repurchases we bought 2.5 million shares of our stock in the quarter at a cost of about $150 million, that’s in line with our plan to repurchase $500 million to $600 million of stock this year.

So that wraps up the financial review. To recap the quarter, we achieved strong organic sales growth in K-C International and Health Care. We are off to a strong start with our cost savings, we invested to support our brands in innovation and we delivered strong improvements in adjusted margins and adjusted earnings per share.

Now, I’ll turn it over to Tom.

Tom Falk

Thanks, Mark and good morning, everyone. I will give you my perspective on our first quarter results and then I will review the outlook for the rest of the year. And then as usual we move on to get to a Q&A. So in short, we had a solid start to the year in the first quarter and we are maintaining the right focus on our long-term success.

So let me begin and cover our first quarter results. Looking at the headline numbers, our organic sales were up about 2%, volume growth was a little below our full year target, we still expect that performance to improve later in the year as our innovation and growth initiatives get further traction and the economic environment continues to slowly improve.

On the bottom line, we delivered a 16% increase in adjusted earnings per share and that was spurred by 210 basis point improvement in adjusted gross margin. As Mark just mentioned our focus on cost savings and the benefits from last year’s organization initiative, we’re important contributors to our improved bottom-line results.

We also made progress in a number of other important areas in the quarter. So we are off to a very good start with our plans to continue to strengthen our brands. We have won some great new innovation, including U by Kotex, Kleenex Hand Towels, some new Depend Undergarments and poise thin comfort liners and pads. And so it’s early for all of these. The launches are going well and we are encouraged by what we are seeing so far.

We also supported our brands in our product initiatives with a very healthy $60 million increase in strategic marketing spending. And that puts us right on track with our plan to raise strategic marketing spending at a faster than sales growth.

Secondly, we continue to deliver on our targeted growth initiatives. Our Health Care organic volume growth was very good and that included double-digit growth in medical devices. As many of you know that’s a very high margin, high growth space that our team continues to focus on expanding.

In addition, volumes increased 5% in Kimberly-Clark International and that’s our best volume growth performance in nearly two years. We also had excellent growth in key areas like Personal Care in China and in Latin America.

And then third, we continue to deploy our cash flow in shareholder friendly ways. In February, we raised our dividend by 10%, which helped us maintain our top tier payout, and we repurchased the meaningful amount of Kimberly-Clark’s stock in the first quarter. So all in all, we made progress in a number of fronts and we’re encouraged by our execution in the quarter.

So, now let me turn to the outlook for the year. Overall, although input costs are increasing we are committed to the long-term success of Kimberly-Clark and to delivering solid results in the short-term as well. And while some of our key planning assumptions for 2010 have changed in the last three months we are maintaining our previous guidance for adjusted earnings per share for the year.

As we said at our investor day last month we will continue to further strengthen our brands, pursue our targeted growth initiatives and reinvest for future growth. We have got a number of near-term innovations coming, including the Huggies jeans diapers, improved GoodNites Underwear, a new Wypall wiper and K-C Professional and several innovations in K-C International, including an upgrade to our Huggies diapers in China.

We will support our brands innovations and growth initiatives with strong marketing programs. And we continue to expect a strategic marketing spending will rise at a significantly faster rate than sales this year. We also invest to further improve our research and customer development capabilities, both of which are key to delivering sustainable growth.

Now, in terms of the external environment, given input costs changes in the first quarter our expectations for additional near term increases, particularly, with pulp, we are now expecting significantly higher cost inflation in 2010 that we previously estimated.

As we mentioned in this morning’s news release we are now planning for a cost inflation to be $600 million to $700 million this year. That’s about $300 million higher that our assumption that we made in January. So as a result we are aggressively looking for ways to improve our revenue realization.

Mark mentioned that we have already implemented sheet count reductions on our tissue business in North American consumer. K-C Professional will be initiating a price increase in the second quarter in North America and in the third quarter in Europe.

And then finally, we are raising prices in consumer tissue in most major geographies around the world. So all told, we now expect a higher net selling prices and improved mix will benefit sales by about 1% and operating profit by about $100 million.

In addition, as Mark shared with you, we raised our fourth cost savings target by 50 million for the year and we will continue to tightly control our discretionary spending. So these actions combined with a flexibility we built into our original 2010 plan will help offset the higher than expected input costs. So putting it altogether we continue to target adjusted earnings per share in 2010 in a range of $4.80 to $5.0 a share with what we know now is more likely that adjusted earnings per share will be toward the low end of that range. So all in all we are managing well those factors. We control them near-term while focusing on doing what’s right for the long-term.

So to summarize, we are off to a solid start to the year, we are continuing to invest for our future growth, we are confident that successful execution of our global business plan strategies will drive sustainable growth and shareholder value for many years to come.

That wraps up our prepared remarks. And we’ll be happy to begin to take your questions.

Question-and-Answer Session

Operator

(Operator instructions) Our first question comes from Jason Gere with RBC.

Jason Gere – RBC

Hi, good morning.

Tom Falk

Good morning, Jason.

Jason Gere – RBC

Can you talk a little bit about some of the pricing that you have taken a consumer tissues that around the world can you talk about what pertains to domestic markets right now? And then just the bigger context I guess is you guys are still talking about volume growth 2% to 3% for the year and in the past taking pricing or desheeting the focus on revenue realization are actually led some more volume decline so I guess maybe talk in context about the consumer with some of the new initiatives coming out now, and when do you see that kind of playing growth? Thanks.

Tom Falk

On the tissue front, I’d say broadly, everyone of our tissue business is both consumer and professional, are looking at different ways to improve revenue realizations. So whether it’s through changing promotional price points, whether it’s through list price changes in the KCP world, it’s contract price increases, so all of those levers are being looked at in each individual markets to determine how they get the best revenue realization. And so, list prices one option, but we’re looking at the full range of the pricing menu to decide what’s the most effective way to hit a strategic price point and minimize the volume loss that you have in that kind of a scenario.

And then on the volume going forward, I’d say in the first quarter we have a lot of innovation loss, there’s a lot more yet to come, much of it was launched late in the year, so things like Kleenex Hand Towels, really just started to be on shelf in March, U by Kotex shipped at the end of the quarter. And so I’d feel like we’re just kind of getting started and so far early days, that seems pretty good and we’d expect to see the momentum build-in on the volume front as we get into the year a little further.

Jason Gere – RBC

Okay. And then just talking about the emerging markets I think on your analyst day you were talking about exceeding the market growth 5% and I know there are some tough comps. I think they do continue as year progresses. So I was just wondering how should we look at that going forward, are you seeing acceleration of market share, improving category growth, market sentiment, etc., can you put some color around that?

Tom Falk

The volume growth in the first quarter of 5%, we say that’s at least as far as the markets growing. So we’d say we at least held share, maybe we even picked up a little bit of share in some markets, continuing to see pretty strong growth in China and Russia was a little slower this quarter as the competitive environment picked up a little bit, Latin America had another solid quarter for us, so markets like Brazil, the Indian region continue to do well. So I’d say broadly China and Latin America were real strong points for us this quarter.

Jason Gere – RBC

Okay. And then last question and I’ll jump off. Can you just talk about the consumer reactions to you by Kotex, obviously the selling was good. What’s going on in the competitive front as some of your competitors are looking to restage one of their brands? I was just wondering about the category, in particular, what you’re seeing?

Tom Falk

Yes, I was in some stores a couple of weeks ago and the products looks great on shelf, and so, we are getting the distribution, that we’re looking for and so, a lot of the marketing support just now is getting turned on, I will tell you though walking down the aisle I think everyone else in the category was running a buy one, get one free to try to make sure that they hang on to their loyal consumer, so we don’t expect that we’re going to walk in and just take huge chunks of share, but it’s great innovation, it’s great product and packaging and we’re going to do a fantastic job of marketing it. But again, this is a category that’s get very loyal consumers and we know we’re going to have to earn every share point that we get here.

Jason Gere – RBC

Okay, great. Good luck, guys.

Tom Falk

Thanks.

Operator

Our next question comes from William Schmitz with Deutsche Bank.

Tom Falk

Hi, Bill.

William Schmitz – Deutsche Bank

Hi, guys, good morning. Couple of things. The first is, are you on allocation on diapers because we’ve heard some rumblings that super absorbent polymers are pretty much unavailable now.

Tom Falk

We’re not on allocation. Super absorbent is tight. So we sent a letter to customers that have said super absorbent is tight, we expect to be able to support our business plan for the year, it’s really a acrylic acid, there is an explosion at an acrylic acid plant late last year and then unplanned outage at another supplier. So that’s the base monomer that goes into the production of super absorbent. It’s global and to be with us for most of the year. But at this point we’ve got what we need contract to be able to support our business plan for the year.

William Schmitz – Deutsche Bank

Have you quantified how much of the sort of softness in the U.S. Huggies businesses related to that, because I am imagining you’ve pulled the promotion because (inaudible) on the product so.

Tom Falk

No, really anything to do with super absorbent tissue in the first quarter. We’ve more to do with timing of innovation and launches. We have more stuff that happened in the first quarter last year and we got more with the jeans diaper, other things rolling. In second quarter we got more activity coming. And also, lines up a little bit better with where we expect competitive activity to be occurring.

William Schmitz – Deutsche Bank

Okay, great. And then just on Venezuela, are you translating at the parallel rate or the official rate now?

Tom Falk

We are translating at the parallel rate now.

William Schmitz – Deutsche Bank

Okay. And that was an option right. You could have done it at the official rate. Why did you choose the parallel rate?

Tom Falk

I think we look at where we think we’re actually processing transactions and there hasn’t been any exchange at the official rate for at least the quarter or two and so we think basically businesses being run at the parallel rate.

William Schmitz – Deutsche Bank

Okay, great. And then just one last if I could. How are you looking at sort of the difference between sort of working capital and maximizing capacity utilization because obviously the working capital a little bit worse than we thought this year? And I guess a lot of it had to do with kind of building up inventory to run the factory, so how does that going to play out as the year progresses?

Tom Falk

As we look versus our target for the year we are actually on track or even slightly ahead. We’ve done a better job on payables as we progress through the quarter. Receivables are basically in control. And inventories are just a touch higher but some of that related to the some inventory builds for some innovation launches and so, at this point I would say we’re broadly on track for our working capital plans. I don’t know Mark, if you want to give any additional color.

Mark Buthman

I’d agree with that. We’re off to a good start for the year on track for the balance.

William Schmitz – Deutsche Bank

Okay, thanks, guys

Tom Falk

Thanks, Bill.

Operator

Our next question comes from Ali Dibadj from Sanford Bernstein.

Ali Dibadj – Sanford Bernstein

Hey, guys.

Mark Buthman

Good morning, Ali.

Ali Dibadj – Sanford Bernstein

I want to push a little bit on pricing broadly if I could. And kind of a strategic decision you are making it sounds like on really prioritizing price realization versus maybe more volume growth and potentially some share growth. And I guess I am trying to get a sense of how you are thinking about when price realization is being pushed too hard, kind of beyond that, kind of that efficiency frontier or some sort of marginal return, given the operational leverage you get by getting more volume to the system kind of the balancing act?

Mark Buthman

Ali, when you think about pricing, we’re starting with the consumer to see how they buy the category, how they shop the category, what they are shopping, roll price, package price, do they do the sheet count math and looking at that by category across the spectrum, and then assessing what’s the right way to structure the category, to get the revenue that you’re looking for. And clearly, in the case of Cottenelle, with our ability to build bulk with our technology we got more flexibility to do things with desheeting and generate revenue that way and still hold the strategic price points in the category. That doesn’t mean that we won’t take list but it’s one that you really start with the consumer to see how they shop the category.

Ali Dibadj – Sanford Bernstein

So you say that shopping the category kind of across but I guess I’m trying to get a sense as well in that context of where you’re actually expecting deliver a lot of price realization because you mentioned consumer tissue a moment ago, you mentioned K-C Professional, but if you look at some of the U.S. consumer business suggest, you didn’t have Huggies promo and volumes were down 5%, and you mentioned there’s some innovation drag on the comparison to last quarter but it doesn’t feel like you will be able to take pricing in Huggies. Consumer tissue remains under pressure. I don’t know if you’re going to be able to take pricing lift, particularly, or reduce promotions, you may be able to desheet. So it feels like it’s a lot of non-U.S. perhaps, non-consumer and a lot of desheeting which is where you’re getting your pricing, I don’t know if that’s the right conclusion, but that’s where I’m ending up.

Tom Falk

I’m not sure that you’re in the wrong spot there. I’d say certainly where you get strong shares, you’re going to be more aggressive on price and can be more aggressive on price, markets like Mexico, for example, they’ve done a great job of driving revenue realization, markets like Korea where get strong market shares across the board, you could be a little bit more aggressive on price. And so I think tissue be the area where you will see more price because that’s where I’m quite frankly, most of the costs impact is occurring. From a Personal Care standpoint, even though the inflation is higher, it’s not probably yet to the point that you’d see industry wide price increases, you’d see it probably happening more, we’re trimming up promotional activity in some markets, so I’d say tissue is probably the place we’re going to look closest from a list price standpoint, really across both consumer and professional this year.

Ali Dibadj – Sanford Bernstein

And so does this assume that competitors follow and maybe in that context some update on competitive environment would be helpful?

Tom Falk

Yes, I’d say that you generally seen K-C Professional will be a good example. I think all of the major competitors in K-C Professional have led or followed price increases this year. And did the same thing last year. And so, it’s not clear who is leading, who is following, but it’s happening pretty broadly across the marketplace, there was a January price increase or February price increase, now there is one we’re going into effect in May in K-C Professional.

So the markets been pretty overly about as secondary fibers gone up, you’re seeing list price taken in the marketplace at the contract level, in addition to at the list level. And consumer tissue you’re seeing some desheeting that’s happened both on the premium brands and I think everybody is participated in that to pretty similar percentage extent. And there’s recent news in the marketplace of list price increase by one of the competitors and that’s obviously information that we’re analyzing and we’ll decide what our responses in the near-term.

Ali Dibadj – Sanford Bernstein

It doesn’t sound like Personal Care as the hot priority?

Tom Falk

Yes, we’ve not seen a lot of Personal Care price increases at this point. And I think, again, most of the costs paid is focused on the tissue side of the equation.

Ali Dibadj – Sanford Bernstein

Okay, thanks very much.

Tom Falk

Thanks, Ali

Operator

Our next question comes from Chris Ferrara with Banc of America.

Chris Ferrara – Banc of America

Hey, guys, just wanted to ask about the 60 million in increase strategic marketing and I guess a lot of the media probably hasn’t yet started that many of your innovations in, I guess if that’s right, where is the incremental 60 million going, especially, since Huggies seems like it had a pull back, so could you give a little more detail on that?

Tom Falk

About a third of it is in the international markets, which is roughly what our percent of sales. So it’s being spent kind of proportionately there. And then in the U.S you’d see more is being spent on personal care and part preparing for the U by Kotex as well as some of Depend employees activity. And tissue, we shifted the mix a little bit, a little bit more advertising and a little bit less couponing in the first quarter.

Chris Ferrara – Banc of America

So how does that play out as the year goes on, I mean, I guess the media end of it will probably pick up as your initiatives I guess as we get further into them and I guess do you think the run rate of how fast you are pushing strategic marketing relative to shelf, does that accelerate as we move further to these launches?

Tom Falk

If you compare the last year actually, our total media spend in the first quarter was pretty similar to what it was in the third and fourth quarters last year. So there was a step up that occurred that’s continuing. So I think for the year we will still invest in strategic A&P at a faster rate than sales but probably the rate of increase will be a little slower as the year progresses.

Chris Ferrara – Banc of America

Okay, that’s helpful. And I guess is the other one you guys cited higher selling research and admin to increase and support future growth in K-C International and I think you talked about the research and customer development and capabilities, can you give a little more detail there as far maybe what specific countries, regions, businesses, you guys are looking at where you’re making specific growth investments?

Tom Falk

In China, certainly the one, where we’re adding sales capabilities, we’re going to more cities, so, Russia would be the same kind of a thing. Another impact on our SG&A would be I-Flow acquisition as well; we brought in heavier SG&A load which we knew that, very high gross margins, but a very high selling expense effort that caused some of the comparisons to be a little different as well.

Chris Ferrara – Banc of America

Thanks a lot.

Tom Falk

Thanks.

Operator

Next question comes from Gail Glazerman with UBS.

Gail Glazerman – UBS

Hi, it’s Gail Glazerman.

Tom Falk

Hi, Gail.

Gail Glazerman – UBS

Can you talk a little bit about what you are seeing in terms of consumer behavior over the past few quarters you talked about things about buying big multi packs the beginning in the month and then smaller packs in later month, are you seeing any sort of normalization or has that trend continued?

Tom Falk

We look at consumer surveys every month and I’d say CEO mom is pretty stable at this point. She hasn’t gotten a lot more confidence, but it’s not getting worse. So if you compare to the first quarter last year people were a lot more worried about their jobs, they are a lot more worried about losing their house, so that got sequentially better as the year progressed. But I’d say it’s pretty stable at this point in time. So if you look at private label share, there’s a proxy, for example, there. They are flat to down from where they had been in most categories sequentially, but they are still higher versus a year ago. So again, we’re not seeing further shifting but we’re seeing the consumer is still pretty cautious out there.

Gail Glazerman – UBS

Okay. How does it translate into outlook for the paper towel market, I guess that’s been one area that’s been hit pretty hard.

Tom Falk

Yes, towels are probably the category where we’re seeing the biggest shift in private label, I think private label shares are up about 3.5 points year-over-year, and so, that’s one. Obviously, we got a focus on showing the value to the consumer and why buying a better paper towel will actually cause you to use less over time and so we’ve got some activity around that for both our Viva brand as well as our Scott towel brand.

Gail Glazerman – UBS

Okay. Can you talk a little bit about what your outlook is for birth rates? I guess you see maybe some changes given the recession and you see that playing out of the next few years?

Tom Falk

In the U.S. the birth rate has dipped a bit last year. We’re seeing some early signs that maybe improving a bit. So we’re always happy to celebrate new babies with our Huggies team and we hope that that’s a trend that continues.

Gail Glazerman – UBS

Okay. Looking at diapers the U by Kotex is looking at trying to kind of get in early and capture new users, is there anything that you could do or change in your behavior on marketing Huggies that that might help you get in earlier with some of the new mom?

Tom Falk

Actually, it’s a great point. We’re spending a lot more time and attention focusing on capturing mom, prenatally and really strengthening our new born program so we can capture that consumer right at the start and then hold her all the way through her child raising experience. So we’re doing a lot more work around the world that the point of market entry with Huggies to make sure we got a very good new born products that we’ve got good marketing programs and we’re able to get access to mom so that the nursery is stocked with Huggies right from the start.

Gail Glazerman – UBS

Okay and just one last question. Anything you can say about P&G's diaper roll-out and how much they might have played in the Huggies volumes in the quarter?

Tom Falk

They really get to start to shipping that until late in the quarter so I don’t know it had much of an impact. The impact was probably more promotional timing year-over-year and we’d expect that to normalize as the year progresses.

Gail Glazerman – UBS

Okay. (inaudible) in the second quarter?

Tom Falk

Pretty early days yet, so I’m confident Procter will execute it well and we’ll spend aggressively, we got a very good innovation plan out there as well, we feel good about our relative product performance. And I think the good news for moms is that you’ll have both major brands driving lots of innovation and that will make it tougher on the private label guys.

Gail Glazerman – UBS

Okay and I guess this is more of a question for them and you but the new product is much more depend non-SAPs and then Huggies at this point, correct?

Tom Falk

My guess is that it would be but you’re probably right that they would know more about what their suppliers are telling them than I would so.

Gail Glazerman – UBS

Okay, thank you very much.

Tom Falk

Thanks.

Operator

Our next question comes from Wendy Nicholson with Citi Investment Research.

Wendy Nicholson – Citi Investment Research

Hi.

Tom Falk

Hi, Wendy.

Wendy Nicholson – Citi Investment Research

My first question has to do with the quarterly flow of earnings this year. I guess I am a little worried that the second quarter could be particularly light given that you did a bunch of the pipeline sale in the first quarter on Kotex launch and I assume some of the pricings that you are doing isn’t going show up until a little bit later in the year. So is it right to think that the second quarter both from a top and bottom line perspective it’s probably going to be the weakest of the year?

Tom Falk

We’re not going to give quarterly guidance; we’re really just going to give annual guidance for that. I think you’re focusing on the right factors. So I’d say that you’re directionally headed in the right place.

Wendy Nicholson – Citi Investment Research

Okay, got it, thanks.

Mark Buthman

Wendy, this is Paul. The one thing I’d add there is remember we did have a $0.05 hit on the tax rate in the first quarter, we wouldn’t expect that to continue.

Wendy Nicholson – Citi Investment Research

Good point. Totally fair. That’s fine. That my second question has to do, looking at the tissue business, we talked a lot about this, but I guess the good news is the tissue business as a percentage of your operating profits has gone down a lot over the last few years and just by virtue of the fact that less of an emerging market business than personal care and you got all this good stuff on an health care I guess just by very nature of that will continue to decline as a percentage of your operating profits.

But given just how tough that category is and seems to be increasingly difficult from an innovation perspective and private label seems to sort of structurally changed its position in the U.S., I know you made the decision in the U.S. to sort of exit the lower end segment of paper towel a while back but would you think about doing anything bigger when it comes to the tissue business, i.e. looks like P&G made a good decision in getting out of western Europe. Do you think about that as a ghost tissue which just an increasingly difficult business to add value to and make money in, is that going too far or being too hopeful maybe?

Paul Alexander

I’d say in the near-term our challenge is to make sure our tissue business earns the cost of capital and that we’re driving innovation, that enhances the gross margins in that segment versus where we’re at today. I’d say broadly, we’re doing that, we’re shifting the mix of tissue to higher margins options. But it is a challenging category particularly with pulp at a $1,000 a ton, but it’s also one that there is a core for a lot of our business in other markets. So as we go into a customer in Brazil, the fact that we got a strong tissue business and a strong personal care business helps us in a lot of other ways from an efficiency standpoint. So at this point we’re comfortable with consumer tissue in the portfolio and we’re focused on how do we get even more value out of it than we’re getting today.

Wendy Nicholson – Citi Investment Research

But is it fair to say even the newer markets like China, correct me if I’m wrong, but China is basically exclusively a diaper and a fem care market that tissue is not something that you're going to promote there and that’s not as much of a priority for the truly emerging markets?

Tom Falk

That’s fair. If you look at tissue has got more of a local competitive structure where you got local players in them, China is a player like APP and Hang On [ph] that really are already there and have got strong positions, and so, we’re actually there with a profitable facial tissue business that actually provides some cash and margin to help fund growth in our personal care businesses. So it is playing a role in many of the markets where we’re there to provide cash and margin to support growth in some of our other categories.

Wendy Nicholson – Citi Investment Research

Got it, fair enough. Thank you very much.

Tom Falk

Thanks, Wendy.

Operator

Our next question comes from Alice Longley with Buckingham Research.

Tom Falk

Good morning, Alice.

Alice Longley – Buckingham Research

Hi, good morning. One of my questions is a follow-up to Wendy’s about the different quarters of the year and again I know you don’t give quarterly guidance much. Wouldn't the raw material cost pressure be worse in the second half than the first half including the second quarter?

Tom Falk

We are expecting pulp to peak in the second quarter and ease a little bit into the balance of the year. So I think that’s probably the biggest driver of the cost sequencing.

Alice Longley – Buckingham Research

And that’s true even for what you pay as opposed to what the spot prices are?

Tom Falk

That’s correct.

Alice Longley – Buckingham Research

Okay. So the costs are worse for the year in the second quarter? Okay. And then on volume expectations for the year are you still holding to 2% to 3%?

Tom Falk

Yes, I think that’s a very reasonable expectation. We’re seeing the uptick in K-C International in the 5% range in the quarter. We’d expect K-C Professional to get a little better as the economy improves a bit in later in the year. Health Care continues to be doing well. And obviously, diaper volumes were a little light in the first quarter. We’d expect that to turn around later in the year. So I think there’s a lot of factors that we’d see that would say achieving the 2% to 3% volume growth for the full year is a reasonable objective for us.

Alice Longley – Buckingham Research

Okay. So in health care, you don’t see any fall off in volume in the tough comp with concerns about swine flu left?

Tom Falk

I’d say we had some good volume growth last year from H1N1 that likely is not going to repeat but we are also seeing very solid growth in our medical devices business and we would expect that to continue. So certainly, won’t be probably as strong as the first quarter but I think some of the other positives will help offset that.

Alice Longley – Buckingham Research

Okay. And the Huggies down 5% here and 4% in Europe, so your idea is those numbers will look better for the year just like what Procter is doing?

Tom Falk

Yes.

Alice Longley – Buckingham Research

Okay. And the same for North American tissue down 6%, do you think that number will look better for the year?

Tom Falk

Yes, clearly, we had a bigger impact of desheeting in the first quarter. And so, some of that with the comparison will be with us for a year, but we have also got some innovation, launching and we’d expect to see some of those things kick in and help volumes improve a bit as the year progresses.

Alice Longley – Buckingham Research

Okay. And then my last question on K-C International where your volume overall was up 5%, what was your price mix for international overall in a quarter?

Tom Falk

Paul, you got that –?

Paul Alexander

The price was up about 1% and mix was flat.

Alice Longley – Buckingham Research

For international?

Paul Alexander

Yep.

Alice Longley – Buckingham Research

Okay, thanks.

Tom Falk

Thanks, Alice.

Operator

Your next question comes from Andrew Sawyer with Goldman Sachs.

Andrew Sawyer – Goldman Sachs

Hey, guys. I was wondering, Tom, you alluded to evaluating the mid-single-digit price increase that Georgia Pacific flowed out there midyear. Is the evaluation process geared more around getting more visibility around what pulp were doing in the second half or is that relate to what private label or Procter & Gamble does from a pricing perspective or how do you guys thinking about the various factors in evaluating that?

Tom Falk

First of all, try to give clarity as to what’s actually happening almost by code level and what’s going to happen to promoted price points in the category. And so part of that is really understanding what’s going on in the marketplace and then develop thing from that, what’s our strategy going to be, what do we have coming from innovation standpoint, what strategic price points do we look at from our consumer research and then taking all those factors and deciding what’s the right course of action to take it.

Andrew Sawyer – Goldman Sachs

And then on the pulp side, you guys were expecting a retreat across the second half of the year. What’s the kind of thinking in terms of where could be year end and heading into 2011?

Tom Falk

Our forecast is ending the year around $900 a ton, it peaks at a little lower 1,000 in the second quarter. Obviously, when pulp moves it often doesn’t move in small amounts, so there is a lots of reasons to believe if more capacity comes online and Chinese buying slows down and it could go down faster than that, but at this point, we take the outside forecast and look at three or four different external views of the pulp market and basically more or less average those in our thinking and try not to outsmart the market.

Andrew Sawyer – Goldman Sachs

Okay. that makes sense. And then just switching gears on the rest of world growth rates, kind of being in the mid single-digit organically, a bit of a slowdown from the double-digit I know you talk about China and certainly being stronger where their markets where things are bit weaker or is there something going on in Korea or Australia that impacted that number?

Tom Falk

I think the encouraging thing is that there’s a lot more volume and a lot less price. So I think that’s the big shift that’s been that we spent last year really driving a lot of price in those markets and seeing 5% volume growth I think is a pretty healthy sign. The one hot spot we said was probably Russia was a little softer than we’d seen, but there are some reasons for that and so we’re focused on getting those on track, but overall, I was pretty happy with the volume performance in the first quarter.

Andrew Sawyer – Goldman Sachs

It’s a more function just having relatively low in price elasticities?

Tom Falk

Yes.

Andrew Sawyer – Goldman Sachs

Well, thanks a lot for time, guys.

Tom Falk

Thanks.

Operator

Our next question comes from Linda Bolton Weiser with Caris & Co.

Linda Bolton Weiser – Caris & Co.

Hi, I was wondering if you could comment on the mix element in personal care and tissue. Personal care, it’s been negative slightly negative mix for about three quarters now and had been running pretty positive, is that just a high growth of international? And then also why would tissue have actually a little bit better mix performance than personal care?

Tom Falk

In some cases the mix can be shift to larger format packs, So as you see the shift to the math and club you’re going to see a mix drag which would be probably what you’re seeing showing up in the personal care numbers. And the tissue mix, it’s really more, we’re continuing to focus on driving some of our premium price variance but I think I don’t know Paul if you got any more color on that?

Paul Alexander

No, that’s right, especially in international, Linda, which I think is what you’re getting, and mix was up about 1% and tissue in the first quarter. I think if you look over the long-term it’s generally been running at least at a point positive, maybe even two points positive, so that’s the strategy.

Tom Falk

In markets like Latin America we’ve been trying to shift from one ply to two ply where you can charge a much higher premium and so you are seeing that drive a lot of our margin improvement in tissue international markets.

Linda Bolton Weiser – Caris & Co.

Great, that’s helpful. And then just on the desheeting, clearly, I mean the consumer isn’t fooled by this desheeting because your volume still gets pretty impacted when you do it. So why do you do it, because it’s more costly to desheet and to just take list price increases?

Tom Falk

Truly try to understand how the consumer buys the category. And actually consumers they do focus more on absolute cash outlay and less on price per sheet in many categories. And they are also buying on perception of volume as to how is the real field and how big is it. And so I think that’s the way the categories run for many, many years and it’s really no different today.

Linda Bolton Weiser – Caris & Co.

Okay. And then just on the corporate expense I guess excluding the Venezuela charge it was down about I don’t know 20 million, 30 million year-over-year, is that due to the lower pension expense or is there something else in there?

Paul Alexander

No that’s just general corporate items that happen to be lower than last year. Actually, we ran fairly heavy last year in corporate expense, but it’s not the pension piece.

Linda Bolton Weiser – Caris & Co.

Where would the pension piece show up?

Paul Alexander

Pension during the segments.

Linda Bolton Weiser – Caris & Co.

Okay, thanks very much.

Mark Buthman

70% cost of sales 30% G&A, Paul.

Linda Bolton Weiser – Caris & Co.

Okay, thanks a lot.

Tom Falk

Thanks.

Operator

Your next question comes from Karen Lamark with Federated Investors.

Karen Lamark – Federated Investors

Hi, I want to go back to strategic marketing and I think you said in response to Chris that you had shifted the marketing mix in the quarter, a little bit more advertising and less couponing. And just to start with why did you do that is there any way to sort of quantify the relative benefit of each?

Tom Falk

Yes, that was in the consumer tissue category, North America, there was more of a shift from couponing to two other advertising type vehicles. And each of our brand teams follows with, they would call integrated marketing approach, so they have a brand idea then they try to decide what the best way to communicate that to the consumer and is it through sampling, is it through television advertising, is it through internet-based activity.

And so they really kind of start out media agnostic and then look to see which are those channels going to drive the idea the fastest and so. You are seeing based on what they are trying to do. There might be more shifts in the future as they continue to drive that. And so I think in this quarter they were seeing more responsiveness in some of the advertising and sampling activity they were doing, and a little bit less to couponing and so they shifted the mix to that direction.

Karen Lamark – Federated Investors

Is it fair to say then that you’re flexible as we go through the rest of the year in the marketing mix, especially, in the consumer businesses in light of your expectations for still the continued volume increase, but heightened price action?

Tom Falk

Yes, we also think you shouldn’t expect them to see them using coupons to drive short-term volume pops, I mean, they are really trying to build strategic relationships with the consumers, you drop a coupon, it’s going to be to get trial and some innovation and that’s what you are trying to build your franchise over time.

Karen Lamark – Federated Investors

Okay, thank you.

Tom Falk

Thanks.

Operator

Your next question comes from John Faucher with JP Morgan.

John Faucher – JP Morgan

Yes, good morning. Quick question, so you are talking a lot about there’s obviously been a lot of discussion on the call about pricing and a little bit about mix would have you and sort of sequentially you’re taking up the price mix forecast I get that. And I understand your confidence in a volume rebound but I guess why no change in sort of the outlook from a volume standpoint given the elasticities that you’ve seen over the past couple of years. So I guess the question, what is sequential improvement and price mix with no change in the volume, why not be a little more cautious on the volume outlook?

Tom Falk

Yes, I think that we will see how it plays out, I mean overall we think these are relatively modest shifts so I think the consumers already kind of taken the economic adjustment into effect and we’re seeing that consumer confidence relatively stable. So I think given the range of price change that we’re talking about we’re not going to see big further shifts in category consumption rate and the fact that it’s happening broadly across most of the competitors in an industry, we don’t see a huge risk from a volume standpoint at this stage.

John Faucher – JP Morgan

Okay, so it’s basically just the order of magnitude of the changes on the price mix side?

Tom Falk

Yes.

Tom Falk

Is what you are saying?

John Faucher – JP Morgan

Okay, thank you.

Tom Falk

Thanks.

Operator

Your next question comes from Lauren Lieberman with Barclays

Lauren Lieberman – Barclays

Thanks. First I wanted to know is on Venezuela, there is going to be any further inventory charge in the second quarter or if we saw at all this quarter?

Tom Falk

Well, the way that works, Lauren, is that basically you mark your monetary assets to market at a parallel rate every month. So if there is further slings in the parallel rate there will be further charges that will flow through other income and expenses, as you re-measure your local currency cash, your local currency receivables and your local currency payables, net of that whatever the parallel rate is every month. So I think by far we’ve taken the big hit as you saw the parallel rate go from 2 to 6 in the first quarter and so we will just have to watch and see what happens, we will be transparent with you on what that impact is.

Lauren Lieberman – Barclays

Sorry, I mean specifically on the inventory, so non-monetary asset rate because this quarter there was a piece of flowing through inventory which is at a different value, where you can’t revalue the inventory, what I am trying to ask is if you have now works through the existing inventory in Venezuela that was their treaty valuation or not?

Tom Falk

Yes, we took a lower cost for market charge on the inventory in the first quarter and again, I think that we have got that at the right level and we shouldn’t see a big change going forward.

Paul Alexander

You said, maybe the way to think about it, Lauren, is we’re going to manage the business at the parallel rate and inventories is a part of that.

Lauren Lieberman – Barclays

Okay. Another question on sheet count reductions. So I was wondering I know the sheet count reduction shows up in the way you report numbers both as a reduction to volume and an increase in price mix. Does it tend to be sort of one for one, so if it was minus one on volume, it’s plus one on price, it’s sort of net neutral?

Tom Falk

Yes, I mean in theory, yes.

Paul Alexander

I think, yes, I would say, Lauren, for a while that’s probably a reasonable way to think about it and then eventually the consumer is at the end of the day buying sheets, but it takes a while for that to work through.

Lauren Lieberman – Barclays

And then the final thing which is I know there has been a number of questions already about sort of the outlook for volume, but wondering thing really specifically it didn’t have is it, in emerging markets I guess that there has been a bit of a shift between price back to volume, but the personal care numbers, there was a significant deceleration in organic growth, some sort of high teen to high single digit or mid to high single digit, and in healthcare while yes, 80% very strong, four points of it was still H1N1, so you got tougher comps coming up in healthcare even with the strength in medical devices continuing. If feels like in both of those businesses which were point of strength this quarter you need to be assuming a pretty significant acceleration in those businesses for them to continue to matter enough or is it a matter of they kind of slow from here and then it’s the innovation everywhere else picks up and that sort of takes over?

Tom Falk

I think it’s a latter case; we’re just getting to start with a lot of innovation and expect that to continue to flow through. Obviously, I still think personal care had a solid volume quarter broadly and even with relatively weak type of volumes in the US and Europe as that turns around. I think you see that continuing healthcare again had a great start to the year, we got a lot of good activity going, we are picking up additional business in that marketplace. And yes, the comps will get tougher, but I feel like our momentum is pretty good in that space. And then KCP actually had a weaker volume start and then you think it’s because last year’s first quarter was so weak but we’d expect that to pick up as the year progresses assuming the economy comes back a bit.

Lauren Lieberman – Barclays

And the final thing was just and this maybe a better conversation for another forum, but (inaudible) Wendy talk a sort of your long-term strategic view of the tissue business, but I mean should we start thinking about this from an organic growth standpoint thinking about it these volume rise kind of being a minus two to plus two business over time ideally with stable margins once they kind of a cover to whatever as you think the realistic run rate is?

Tom Falk

Yes, I think seeing tissue is a more sale part of the portfolio that’s probably not, the categories are more fully penetrated so you are going to see probably 0% to 2% category growth in most of the major markets and that consistently generates cash and earns the cost of capital is a good role to think about for that business.

Lauren Lieberman – Barclays

And then just on margins, do you think this business ends up being or can be a mid teen margin again or it’s sort of a 12, 13 more of a realistic long-term?

Tom Falk

I think mid teens long-term is certainly our aspiration. So obviously with a $1,000 ton pulp is going to be a challenge to get there this year, but we feel like that’s the right direction for us to head.

Lauren Lieberman – Barclays

Okay, great, thank you.

Tom Falk

Thanks.

Operator

Your next question comes from Connie Maneaty with BMO.

Connie Maneaty – BMO

Good morning. If we assume that add back stay where it is and plugging your assumptions for pulp, how should we view the gross margin going forward? I would like you to address not only the cost pressure as you see it, but also the impact on translation and transaction which are so hard to figure from the outside on the margin and should we expect the gross margin to be up or down for the next three quarters?

Tom Falk

As we have said ,our goal for the year, if you look back our global business plan is to see operating margins improve by 20 basis points to 40 basis points a year and gross margin to improve more than that to allow us to invest in strategic advertising and promotion. So obviously in the Q1 we are well ahead of that, being up a couple of hundred basis points in both those areas. So I would guess that the rate of margin improvement in the last three quarters will not be as great as it was in the Q1 and also our comparisons are going to get tougher as we saw margin improvement later in the years. So I think again our goal would be to continue to execute the plan and see some growth and operating margin improvement this year and that would allow us to invest in strategic A&P at a faster rate in sales.

Connie Maneaty – BMO

Even with the change in pulp, you think the gross margin; expansion will be higher than operating margins?

Tom Falk

That’s our plan.

Connie Maneaty – BMO

That’s the plan? Okay. Also with the increase in media cost, are you locked in for what you need for this year or as costs go up will your expense still be within budgeted cost go up this year?

Tom Falk

One thing we are really focusing on Tony Palmer and his team had a done great job of identifying cost cutting opportunities in that line of our P&L, just as we have in other line. So we have actually gotten quite a bit of efficiency out of our media buying that is offsetting the media inflation and giving us some real additional exposure and additional value there. So up to this point we are still seeing some leverage from that area that we’re taking advantage of.

Paul Alexander

I would say just to add more and more of our marketing mix is focused on sort of non-traditional network advertising so a bigger and bigger piece of our marketing mix is going to the internet. For example, if you think about the U by Kotex launch, it’s a great way to connect with the consumers. So we’re a little less influenced by media buying rates maybe than we would have been a few years ago.

Connie Maneaty – BMO

Okay, thank you very much.

Tom Falk

Thanks, Connie.

Operator

Your next question comes from Chris Ferrara with Banc of America

Chris Ferrara – Banc of America

Hi, thanks for taking a follow up. Just back to Huggies, I know obviously we saw a 5% pull back and a decline in spending, I know the jeans type are coming out, but it sounds like you are saying there’s more come out of back half and I know at Analyst Day and last quarter you were expressing, you were pretty comfortable with your plans, but Huggies this year, is there a bigger innovation than what we’ve seen right now coming in that business into back half of the year?

Tom Falk

Yes, we expect to see additional products improvement across both our premium and mainline Huggies variance. So jeans diaper is really a nice innovation, that it’s going to be fun and moms will enjoy it, but expect to see some meaningful product improvement in both the mainline and premium variance.

Chris Ferrara – Banc of America

But I guess what you just said about the fact that as you would normally expect in a normal year, does that mean that it’s no different than what we would expect in a normal year or am I misreading that comment?

Tom Falk

Well, I mean if you look back over time we’re making the diaper better every year and so we’ve got some exciting things coming and diapers really around the world. And we feel good about the product line that we’ve got relative to what’s happening in the competitive environment.

Chris Ferrara – Banc of America

Got it, thanks.

Tom Falk

Thanks.

Operator

At this time we have no further questions

Paul Alexander

All right, thanks David. We will turn it back to Tom for a quick closing comment

Tom Falk

Well, once again, we’ve had a solid start to the year and look forward to continue to execute our global business plan and doing the right things to create long-term shareholder value. Thank you again for your support of Kimberly-Clark

Paul Alexander

Thank you.

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Source: Kimberly-Clark Corporation Q1 2010 Earnings Call Transcript
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