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Checkpoint Systems, Inc. (NYSE:CKP)

Q3 2010 Earnings Call Transcript

November 2, 2010 10:00 am ET

Executives

Bob Powers – VP, IR

Rob van der Merwe – Chairman, President and CEO

Ray Andrews – SVP and CFO

Analysts

Reik Read – Robert W. Baird

Bob Labick – CJS Securities

Ajit Pai – Stifel Nicolaus

Jerome Lande – MMI Investments

Michael Kim – Imperial Capital

Chris McGinnis – Sidoti & Company

Operator

Greetings and welcome to the Checkpoint Systems third quarter 2010 conference call. At this time, all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. (Operator instructions) As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host, Vice President of Investor Relations for Checkpoint Systems. Thank you. Mr. Powers, you may begin.

Bob Powers

Thank you, Christine. Good morning and welcome to Checkpoint Systems Third Quarter 2010 Results Conference Call. On the call from the company are Rob van der Merwe, Chairman, President and Chief Executive Officer; and Ray Andrews, Senior Vice President and Chief Financial Officer.

If you have not yet received the copy of this morning's third quarter 2010 results release, it's available on the company's website; click on the Investors tab. Additionally, an archived version of this conference call will be available on our website.

Before we begin, I would like to remind you that statements made on this conference call reflecting our future plans and strategies are forward-looking statements that are based on current expectations and assumptions. These expectations and assumptions are subject to risks and uncertainty, which could affect our future plans.

Checkpoint's actual results and the timing and occurrence of expected events could differ materially from our plans and expectations due to a number of factors, such as changes in the global economy and changes in the legal environment, as well as those factors disclosed in the earnings release and in our filings with the Securities and Exchange Commission.

Please be aware that all information disclosed and discussed in this conference call is as of November 2nd, 2010. Checkpoint undertakes no duty to update any forward-looking statements to conform the statements to actual results or changes in the company's expectations.

At this time, I would like to turn the call over to Rob van der Merwe. Rob?

Rob van der Merwe

Thanks, Bob and good morning, everyone. Thank you for joining us today. I will briefly discuss our third quarter results, after which Ray will share more financial details with you. At the conclusion of Ray's comments, I will provide some closing remarks and then we will be available to take your questions.

So today, I would like to stress three points. First, while we reported positive revenue momentum overall, it was a mixed result. July and August, which is typically slow for us given the customary summer vacations in Europe, started off the third quarter even slower than anticipated. However, we did follow with our usual very strong September, but not sufficient enough to recover the previous month's revenue shortfall and as a result, did not meet our expectations for the quarter.

Some of our businesses posted excellent results this quarter, while others continued to be affected by the ongoing retailer caution and hesitation to spend. Our major geographic regions all continued to realize organic revenue growth. The Alpha business continued to deliver strong results for the quarter across all product lines and in all geographic regions, which is the trend that has continued since the beginning of the year.

Second, gross margins suffered primarily as a result of our Apparel Labeling Solutions business and the impact of revenue mix changes, including the higher percentage of revenues from our Brilliant Label base of business. Our overall product mix was skewed to lower-margin business, resulting from the revenue declines previously mentioned.

Now, our Apparel Labeling business, particularly in China, experienced an unexpected and significant increase in labor costs earlier this year when the Chinese government unilaterally raised compensation for local workers by almost 20%. Cost recover plans at Brilliant are advanced and include productivity improvements, as well as price increases that should frankly fully work through by year-end or at least early next year.

Also, the month of July and August are a particularly slow period for apparel suppliers and that resulted in factory overhead underabsorption at Brilliant concurrently. On a positive note, the revenue synergies we expected from Brilliant are growing, as new customers have either approved us as a supplier or, in many cases, closed on orders going into next year.

So in conclusion, we believe the margin mix situation is likely, if we look at it conservatively, going to be expended into the fourth quarter, but is temporary.

Third, the first phase of the SG&A restructuring plan that we announced late last year has moved forward. The full plan we announced today provides for a program that is expected to reduce SG&A costs by $20 million to $25 million with roughly $15 million to $17 million of the restructuring savings expected to be realized in 2011 with the full benefit in 2012.

We will provide more specific details of this plan at a later date, but in general, it is a broad program that is aligned with our strategy and includes the streamlining of certain operations, movement to a shared services platform in a number of countries, and an overall improvement in productivity.

Ray will now guide you through our third quarter results and the outlook for the balance of the year.

Ray Andrews

Thanks, Rob. First, I'd like to note that we are filing our 10-Q today that will provide additional details beyond the comments that I make this morning.

Revenue for the third quarter of 2010 was $203.3 million compared to $194.1 million in the third quarter of last year, an increase of 4.8% year-over-year. Revenue included organic growth of 5.6%, driven by strong performance of our Alpha and CheckView businesses. Revenue was negatively impacted by 3.2% due to year-over-year differences in foreign currency exchange rates.

August 2009 acquisition of Brilliant Label contributed 2.4% to revenue growth for the non-comparable portion of the quarter. Gross profit margins in the quarter were 40.3% compared to 43.6% in the third quarter of 2009. I'll provide more detail as I review results for the segments.

Our Shrink Management Solutions segment reported revenue of $147.3 million in the third quarter of 2010 or 73% of total company revenue. This represents a year-over-year increase of 6.9% on a constant dollar basis. The revenue increase in Shrink Management Solutions was primarily the result of strong growth in our Alpha business in all geographies and strong growth in our CheckView business, particularly in North America, continuing the positive momentum we experienced last quarter.

These positive results were partially offset by decline in our EAS systems business, which continues to be impacted by constraints in retail capital spending and new store openings, as well as a decline in our EAS consumables business, primarily in the U.S. due to a decline in orders from several large retailers.

For the fourth quarter, we anticipate a difficult comparison to last year in our EAS consumables business due to the conclusion of a notable Hard Tag at Source program in Europe. We anticipate that we will be able to enroll additional customers in this innovative program in early 2011.

Some of our new consumables solutions involve filling a retailer shrink management program with large roll-out of consumables products in a very compressed time period, which can create variability in period-to-period revenue comparisons, similar to what we've periodically experienced in our EAS systems business.

The gross profit margin for the Shrink Management Solutions segment was 41.8% compared to 44.7% in the same quarter in 2009. Lower gross profit margins in our EAS consumables business were the principal reason for the decline. EAS consumables margins decreased primarily due to an unfavorable product mix as previously mentioned.

Our Apparel Labeling Solutions segment reported revenue of $39 million in the third quarter of 2010 or 19% of total company revenue, including $8 million from Brilliant Label, which was acquired in August 2009. On a constant dollar basis, the year-over-year increase in organic revenue was 1.9%. This growth resulted from higher demand in Europe, which was partially offset by a modest decline in the U.S.

We continue efforts to broaden our customer base and leverage the expansion to our product line that resulted from the Brilliant Label acquisition, which is expected to contribute more significantly to Apparel Labeling Solutions' revenue growth in 2011 and beyond.

The gross profit margin for the Apparel Labeling Solutions segment was 30.8% compared to 37.4% in the third quarter of 2009. Gross margins in this segment declined primarily due to the changes in our product mix, including the impact of lower-margin products from Brilliant Label. Increased manufacturing costs due to lower volumes and absorption in our Brilliant Label operations also contributed to the decline, as Rob previously mentioned.

Our Retail Merchandising Solutions segment reported revenue of $17 million in the third quarter of 2010 or 8% of total company revenue. This represents a year-over-year increase in revenue of 1.9% on a constant dollar basis. The gross profit margin for the Retail Merchandising Solutions segment was 48.4% for the third quarter of 2010 compared to 47.5% in the same quarter in 2009.

Selling, general and administrative expenses for the third quarter of 2010 were $62.8 million or 31% of revenue compared to $66.7 million or 34% of revenue in the third quarter of 2009. Foreign exchange effects reduced SG&A expenses by approximately $2.3 million and the Brilliant Label acquisition added approximately $1.4 million of non-comparable expense.

On a constant dollar basis, the remaining decline of $2.5 million is primarily due to a third quarter 2010 year-to-date adjustment to decrease performance incentive accruals, which is partially offset by expenditures to support our investment in a common ERP platform, as well as the year-over-year impact of last year's temporary global payroll reduction and furlough program.

Research and development expenses for the third quarter were $4.9 million or 2.4% of revenue compared to $4.9 million or 2.5% of revenue in the third quarter of 2009. Restructuring expenses for the third quarter of 2010 were $1.2 million and are attributable to the previously announced manufacturing, restructuring, and selling, general and administrative restructuring plan.

As Rob noted earlier, today announced broad metrics of an SG&A restructuring plan that we first announced late last year. Plan is targeted at streamlining operations in alignment with our global strategy and includes realization of efficiencies expected to result from our implementation of standard global business processes and a common ERP platform, beginning in North America in early 2011 and in Europe later in the year, as well as other targeted actions to improve our global operating performance.

The full SG&A restructuring program is expected to reduce costs by $20 million to $25 million when the full benefit is realized in 2012. We expect to realize $15 million to $17 million of the savings in 2011 and expect to incur restructuring expenses of $20 million to $25 million for the full SG&A program with $4 million of those expenses incurred to date.

Interest expense for the third quarter of 2010 totaled $1.7 million and was partially offset by interest income of $842,000. Income taxes for the third quarter of 2010 were $5.1 million or 41.9% of earnings before income taxes. Taxes for the third quarter were impacted by the recognition of a $4.3 million full valuation allowance against U.S. state deferred tax assets and a $700,000 out-of-period provision to return adjustments to increase tax expenses originally recorded in the fourth quarter of 2009.

Partially offsetting these expenses was a $4.1 million benefit for tax reserve releases. Our income tax rate each quarter is impacted by the mix of taxable income among the 31 countries in which we operate whose tax rates vary significantly. The income tax is also impacted by the timing of reserve releases as we've seen in the third quarter.

The unrestricted cash balance at the end of the third quarter of 2010 was $164.3 million and working capital was $30.3 million. Current and long-term debt totaled $143 million. Unrestricted cash net of debt is $21.3 million. Cash flow used in operations during the third quarter of 2010 was $17.1 million compared to cash flow provided by operations of $22.5 million in the third quarter of 2009. Our day sales outstanding were 76 days and our days in inventory were 101 days at the end of the third quarter.

Our capital expenditures in the third quarter of 2010 were $7.5 million. We have reduced our forecast of capital expenditures for the full year to approximately $25 million, with the increase over 2009 expenditures largely attributable to our investment in information technology, as well as the expansion and relocation of Apparel Labeling Solutions capacity.

The weighted average number of shares outstanding on a fully diluted basis for the third quarter was 40.5 million.

Now, I will comment on our outlook for 2010. Our outlook for this year is based on our evaluation of country and regional market conditions that are derived from forecast and supporting information gathering from our operating units around the world. Our outlook is based on the assumptions that current exchange rates will continue.

We have updated our guidance to reflect the impact of several unanticipated trends that are expected to impact the balance of the year. We experienced a shortfall in Apparel Labeling Solutions revenues, as sales to new customers of our broader product range are taking longer than anticipated and the concern that EAS consumables revenues for the balance of the year will not benefit from the large-scale programs that were introduced in the second half of last year.

Over the past year, economic conditions and their impact on the retail marketplace have been highly dynamic and subject to unpredictable changes. Events could occur in the fourth quarter of 2010 to create further unpredictable changes that are not anticipated in our outlook, such as significant increases in commodity prices or significant changes in currency exchange rates.

For 2010, we expect the following. Annual revenues at current exchange rates to be in a range of $825 million to $840 million; non-GAAP diluted earnings per share attributable to Checkpoint Systems, Inc. to be in the range of $1.00 to $1.08; non-GAAP operating income margins to be in a range of 6.5% to 6.9%; a non-GAAP and annualized tax rate in the range of 16% to 18%; and free cash flow in a range of $10 million to $20 million.

Free cash flow in 2010 has been impacted by the $12 million in customer payments received in 2009 for products delivered in 2010, as well as expected growth in working capital to support our 2010 revenue growth. Free cash flow will also be impacted by projected capital expenditures of approximately $25 million.

Depreciation and amortization expense is expected to be approximately $35 million in 2010, with the increase over 2009 driven by the Brilliant Label acquisition.

Now, I'll turn the call back over to Rob.

Rob van der Merwe

Thanks, Ray. So to summarize, I was disappointed with the third quarter results, but fully expect a good portion of the adverse mix shift to recover, commencing in the New Year.

Our innovation pipeline is good, strong disciplined cost management and working capital controls continue across all business units. The restructuring and profit improvement program we announced today will bring SG&A costs down to more acceptable levels regardless of business conditions and it will move us closer to achieving our previously stated financial goals. We will provide you details on our view of 2011 during the fourth quarter call in February.

So in closing, I would say we have a strong management team. We are excited about the advent of RFID in the apparel space and continue to include accretive acquisitions in our sites going forward.

With that, Christine, we will now take questions.

Question-and-Answer Session

Operator

Thank you. We will now be conducting a question-and-answer session. (Operator instructions) One moment please while we poll for questions. Thank you. Our first question is from Reik Read with Robert W. Baird. Please proceed with your question.

Reik Read – Robert W. Baird

Hi, good morning. On the Apparel Labeling side, I – as part of your comments, I heard you talk about the wage increase and some absorption issues. Can you give us a better understanding of what that mix issue is aside from those and why you think it will recover starting in 2011?

Rob van der Merwe

Reik, it's basically the layering in of the synergies we expected from Brilliant, primarily additional accounts coming on board. They are taking a little longer, directly related to the economic situation I guess. No other explanation for it. And as they come on board, they will flatter the mix. There are some good product lines in the Apparel Labeling range makeup that attract higher margins like woven labels and so on and that's what the Brilliant Label synergy pipeline is mostly constructed of.

Reik Read – Robert W. Baird

So it really is just a larger amount of new business that happens to be higher mix that will be the solution?

Rob van der Merwe

That is a good part of the solution. I mean, there are clearly other things we are working on to mitigate those wage increases, productivity improvements, and price increases and so on and so forth. But those take time to work through the system. I'd say largely it's layering in that new volume, that new business and bringing on board the woven label business.

Reik Read – Robert W. Baird

And what's your level of visibility on that at this point, Rob?

Rob van der Merwe

It's actually better than I anticipated. I mean, we have been approved in these new programs. Many of them we expected already to have hit the P&L, but they haven’t. And there is no change in the status. So it's just a question of on-boarding. Many of the – many of those approvals have come with closed orders, so that's just a question of timing. So there is better visibility than you would typically expect in that kind of business.

Reik Read – Robert W. Baird

Okay. And then, just going on the EAS consumables side, I think I heard you guys say that basically you are waiting for some large-scale programs to ramp up. And maybe a similar question. Can you give us an idea of why they may not be occurring at this point and what gives you some confidence and – or some visibility that things will ramp up in early 2011 as you suggested?

Rob van der Merwe

Right. Well, first of all, we created this new category in 2009 and it started to work into the P&L very nicely at the back-end of '09. So first of all, when that hit, we enjoyed the benefits of that. We sit at this stage now with a comparable that's flattered, if you will, by that high-margin business. Those deals and in the case of one have now run their course and very, very successfully, in fact, to the point that in one case the customer achieved and exceeded their internal efficiency improvement goals ahead of what we had anticipated. So they have come off the program earlier. That's a success from a customer standpoint.

Because it's a relatively new business, we are still developing the pipeline. So when we look at the pipeline and on-boarding of new customers, we can see that building. And so the point being here that it's a little lumpy historically, it's a new business, and we fully expect the success we've enjoyed in the past year or so to continue with additional customers.

Reik Read – Robert W. Baird

And is that the Hard Tag program in Europe that you are basically referring to?

Rob van der Merwe

That's correct.

Reik Read – Robert W. Baird

And so, what I guess I hear you say, Rob, is that you've got some good examples to point to and now, it's a matter of building up that pipeline and you are starting to get that visibility that suggests it resumes in early 2011?

Rob van der Merwe

Correct.

Ray Andrews

Yes. And Reik, I'll add. It does have a proven ROI, the retailers who have taken this program have analyzed and seen that. But it also changes their operating model to some extent and that's one of the reasons why it's a bit lumpy.

Reik Read – Robert W. Baird

Okay. And then just very quickly on SG&A savings, can you just us a sense of that $20 million to $25 million? How much of that goes to the bottom line and how much of that may either get reinvested in the business or get absorbed through pricing or other things?

Ray Andrews

I think our – we are targeting to have the full savings go to the bottom line. We will reinvest for growth where necessary, but we are looking to achieve that through other savings beyond restructuring and redeployment of SG&A spend to where it's going to have the most value.

Reik Read – Robert W. Baird

Okay. Thank you, guys.

Rob van der Merwe

Thanks, Reik.

Operator

Our next question is from Bob Labick with SJS Securities. Please proceed with your question.

Bob Labick – CJS Securities

Good morning. It's Bob Labick from CJS.

Rob van der Merwe

Hi, Bob.

Ray Andrews

Hi, Bob.

Bob Labick – CJS Securities

Hi. Just wanted to stick with the EAS consumables, the Hard Tag at Source, thank you for the explanation, that's very helpful. Is there other – I mean, were there other dynamics in play for potentially inventory correction or recovery there as well for either the consumables or on the labeling side that may have resulted in stronger growth in the first half and now we are at a more normalized level for the balance or is this really program-specific?

Rob van der Merwe

No, I think is probably more program-specific, Bob. The underlying EAS label volume recovered nicely in the first half I would say. We need to wait for the fourth quarter to really know what the trend is. The fourth quarter is an important one for us and we – as you can see here, we have been somewhat conservative in predicting the next few months. But I'd say by and large, it's specific to that product line and it's timing related, as we pointed out. I don't know, Ray, if you want to add anything else.

Ray Andrews

No, I agree with what Rob said and we are continuing to develop new types of RF labels, try to expand our base – and the application base within the retailers. So we expect that to start getting some traction here shortly.

Bob Labick – CJS Securities

Okay, great. And then jumping over to Alpha, it's been strong I guess since the end of last year and all this year. Could you just give us a sense of where you are in terms of penetration in Europe versus the U.S. or in other words, how much more running room is there in Europe to reach the penetration levels of the U.S.?

Rob van der Merwe

Well, the numbers we've typically used are, in the U.S. 75% penetrated. Those were the earlier numbers. I think that's probably conservative, because we are finding new categories and we are bringing new products to the market all the time. But relatively speaking, Europe is about 50% penetrated, so there is much more headroom there. And the trend you are seeing here, as mentioned earlier, is across all geographies. But Europe is playing very strongly into this picture right now.

I'd say in the U.S., we've got some outstanding deals that you are familiar with that are moving through and continue to move through. In Europe, it's really reestablishing ourselves, taking market share, putting more feet on the street, penetrating those categories more aggressively than we have before and we are very pleased with that progress.

Bob Labick – CJS Securities

Okay, great. And then just last one on – could you comment on the acquisition environment? You have spoken in the past at the very end of your comments about potential accretive acquisitions. Have you identified targets out there? And if so, what's holding you back? Is there competition or how do you view the environment now?

Rob van der Merwe

The environment is good. I mean, the industry continues to consolidate. There are targets out there that are still at a reasonable price. I mean, as time passes, they will get greedier. And we would, in the case where they become too expensive, we have backup plans to go and expand ourselves in the various geographies and invest in that capacity organically. But at this stage, I'd say one or two accretive acquisitions are still out there and we continue to focus on them.

Bob Labick – CJS Securities

Great. Thanks very much.

Operator

Our next question comes from Ajit Pai with Stifel Nicolaus. Please proceed with your question.

Ajit Pai – Stifel Nicolaus

Yes, good morning.

Ray Andrews

Good morning, Ajit.

Ajit Pai – Stifel Nicolaus

A couple of quick questions. I think the first is just looking at the – outside of the programs that you talked about on the EAS tag side and some of those new programs – the hard programs and other programs in Europe, are you seeing an increased focus on shrink from customers, especially ones that have tags that are integrated in the items themselves? Or are you seeing that the – that they are actually not stepping up their investment or penetration of products?

Rob van der Merwe

Ajit, it's mix. It's kind of interesting. The lag we've typically seen in – after previous recessions where shrink goes up, the retailers have come in and spent. In this particular recession, we are seeing the reduction in capital dollars not bouncing back. It's very based on ROI pilot work and studies as to whether the retailer goes for it or not.

We are seeing a very significant interest in some verticals, apparel being one, for the use of technologies to provide inventory visibility and eliminate out-of-stocks; the primary goal being to stimulate sales, if you will, as opposed to simply reduce costs associated with shrinkage. So it's kind of a mixed bag. There still are retailers who are pioneering the shrink management cutting edge. They continue to spend and where we have been very successful there, we are seeing an across-the-range bundled kind of solution sale working better than point solutions.

In the case of inventory, that's where our merchandising visibility business is getting traction, and I think there's been a lot about that in the industry in the past couple of months.

Ajit Pai – Stifel Nicolaus

But do you think that shrink – as a concern, do you think that it's getting more serious? Are retailers paying more attention to it? Or you don't see any material change over the past six months to a year?

Rob van der Merwe

No, I'd say it's relatively flat. There are some that are starting to become frustrated with it. I'd say as we went through the bowels of the recession, many of them were treating it simply as a cost of doing business and paid attention to the more critical items – or critical activities to survive in this environment. It seems to be shifting back to the more traditional approach, but it's too early to tell.

Ajit Pai – Stifel Nicolaus

Got it. And then looking at the Alpha product, it's a product that is sort of, in many ways, a revenue-increasing product; just makes the item far more approachable by the customers. Now, over there you've seen some pretty decent strength over the past several quarters. Are you seeing any signs of weakness there? What is the sort of broad level of penetration there? And do you think that that's a business that can continue to grow at its current pace at least for the next couple of years?

Rob van der Merwe

Well, we said – it's a good question. I mean, what we've said is it's a revenue/innovation growth model that we see continuing in our long-term planning horizon. So, said another way, I expect that business to grow at about 20% a year for at least the next five years.

Ajit Pai – Stifel Nicolaus

Got it. And then last question would be just looking at the Brilliant acquisition and part of the thinking when you were making that acquisition was, I think you folks were under-penetrated in Asia, particularly East Asia and China. And scaling your business over there was important just because of the way the apparel industry and footwear, et cetera, had been shifting. But I think I heard to say now that you are talking about sort of cost improvements at Brilliant rather than trying to scale the business over there. So could you give us some idea as to how you are looking at that business right now? When do you expect it to scale? Are there – how are you thinking about it strategically over the next three years?

Rob van der Merwe

Well, we are – penetrating the apparel vertical is very important across all our product lines, including apparel labeling. As we start moving into merchandise visibility, we are going to need a stronger apparel labeling base, including footwear so that we can actually leverage RFID technology. It's gaining traction in apparel and footwear right now and that's where we have to move very quickly to create a critical mass credibility.

And so far, that has worked extremely well. We have been given recognition for taking this business seriously. We have got all the components of success. We can not only compete, we have some areas of the business that are at an advantage to even the larger competitor. And that's in the form of our variable data management capability. So the retailers have welcomed us and I expect that to fully continue. So, there is no change to our stated strategy as yet. And I mentioned at the end of my formal remarks that we continue to keep acquisitions in our sights and that includes apparel labeling.

Ajit Pai – Stifel Nicolaus

So you don't think you have lost any share there to the larger competitor now, the (inaudible) or to any local competitors out there? You believe that your revenue mix this quarter, as well as some of the slowdown is directly correlated to what's happening with customers?

Rob van der Merwe

Yes. I would say, by and large, I don't believe we have lost any share. I mean, we've continued to grow organically and I can't speak for the other parties or comparables. But there is no change; I am still very bullish about this. I think it's the right thing for the company to do and I'm still very excited about it.

Ajit Pai – Stifel Nicolaus

Got it. Thank you.

Rob van der Merwe

Thank you.

Operator

Our next question comes from Jerome Lande with MMI Investments. Please proceed with your question.

Jerome Lande – MMI Investments

Good morning. Is there a – an updated currency impact on full-year revenue that's affecting the changed guidance?

Ray Andrews

The guidance just is for the quarter, so the effect of that's going to be minimal, Jerome.

Jerome Lande – MMI Investments

And I want to clarify, because I don't think it's come up on the call. The manufacturing restructuring that you talked about previously that should save $6 million in 2011, that remains on track? I just wanted to check, because I don't think it's been mentioned.

Ray Andrews

Yes, definitely.

Jerome Lande – MMI Investments

Okay.

Ray Andrews

A large – I think a significant portion of that's already been executed and there is a couple items that we will deal with here towards the end of the year and early next year that remain.

Jerome Lande – MMI Investments

Okay. So, to make sure I understand the restructurings properly, you've got $6 million from that; you've got $22 million to $23 million total then if I include the SG&A restructuring impact you expect in 2011. So, on a steady-state basis – forget your guidance, whatever it may wind up being, there should be an incremental $22 million to $23 million of restructuring savings in 2011.

Ray Andrews

Cumulatively, yes. However, a portion of that's already been realized here in 2010.

Jerome Lande – MMI Investments

And now for my next question, so what is the benefit from either the restructuring or the SG&A? Could you specify which that you are getting in 2010, so I can get to what the proper step-up is?

Ray Andrews

Well, I think we highlighted what we expected to see overall in the $15 million to $17 million in 2011. There would be, I think, a small additional increment on the manufacturing plan. That will give you the calibrations of what we need to – what we expect to see in 2011.

Jerome Lande – MMI Investments

Yes, okay, I got that. But what I'm trying to understand is (Multiple Speakers) –

Ray Andrews

Well – and then you can, yes, take the difference and that will get you what's been reported to date.

Jerome Lande – MMI Investments

Okay. So I was doing it forward, not backward. Now, I understood the disclosure to be saying that the rest of it would appear in 2012. You are saying the rest of it actually is already (Multiple Speakers) –

Ray Andrews

No, I'm talking about you're adding the manufacturing number to the SG&A number, Jerome. So it's the manufacturing piece in particular that's been largely recognized to date. Okay?

Jerome Lande – MMI Investments

Okay. So there's $6 million of savings on a run-rate basis in the manufacturing restructuring today that you are benefiting from?

Ray Andrews

Yes.

Jerome Lande – MMI Investments

Okay. I thought that, Rob, you had made a comment about North American consumables weakness with a few large customers, but I may have misunderstood – can you clarify that?

Rob van der Merwe

It's European, basically. All around the – on the consumables side, we had some early traction to that new program across the pond. And that's now worked its way through, appearing to be somewhat lumpy. And it ended earlier than we thought when the customer got more than it bargained for.

So, it was a great success. It's just the timing shifted through faster than we anticipated and so, there is a gap between. And it's not that simplistic, but there's – there are more customers coming onstream now with those programs that, by the time the quarter is out, this quarter and early next year, we will see that smoothing out again. So, the early traction of that European business has provided a lumpy profile.

Ray Andrews

Yes, I think what you picked up from is the comment I made about the fact that in consumables in North America, a number of our large retailers just cut back on volume this year and we attribute it generally to economic trends.

Jerome Lande – MMI Investments

Got it. Going back to the fourth quarter guidance and the update you gave, when you last gave your numbers, it was the end of July. So you had one quarter of the third quarter already in the bag and those numbers came up, right? And now the numbers have come down a little bit. But I'm just trying to understand, was there a significant change in trend mid-quarter with some of this stuff? Or how did it evolve?

Ray Andrews

Yes, I think you hit the nail on the head. We were – yes, I think you said one quarter, we were – I think announced about one month into the quarter. And subsequent to that, in our reading at that time, a few things came in late, including the change in consumables and also the change in run rate Apparel Labeling. We saw those after we made – did our last guidance back in July.

Jerome Lande – MMI Investments

Okay. How much of the cost of the SG&A savings program, the $20 million to $25 million, it's going to cost you to accomplish the restructuring? How much of that is in 2010?

Ray Andrews

We've incurred, as I said, $4 million to date and we will expect to incur somewhere in the – approximately $5 million range, plus or minus here in the fourth quarter.

Jerome Lande – MMI Investments

Got it.

Ray Andrews

I mean, that's all impacted by when we specifically define the plans and how the U.S. GAAP rules apply to what you record.

Jerome Lande – MMI Investments

Okay. Last one – Rob, nothing I think has been mentioned so far about the RFID offerings or merchandise visibility and what's going on there. Can you give us any updates?

Rob van der Merwe

Not too much at this stage, Jerome, except to say that the pilots are advanced. I would expect by the early New Year that there would be a number of retailers making decisions and hopefully, we will play into that. So from our side, progress is good. A new management team is in place and that's all working very nicely.

On the competitive front, we hear anecdotally that things are progressing, but I don't believe I've seen anything in – that's been published about any deals coming through there yet.

Jerome Lande – MMI Investments

Got it. Thanks very much.

Ray Andrews

Thanks.

Operator

Our next question comes from Michael Kim with Imperial Capital. Please proceed with your question.

Michael Kim – Imperial Capital

Hi, good morning, guys. Just touching on EAS systems for a moment, are you starting to see that flatten out, especially as you look over on a year-over-year comp basis? And how are you seeing that starting to progress, maybe an early view into 2011?

Rob van der Merwe

The high-level answer is yes, we think it's bottomed out. Let's just see what happens in the fourth quarter, because that's an important quarter for that particular business. But we see right now with the deals that we have done or about to do that there could be – it could be, we'll confirm this later in the year, some traction there in 2011. And so that would confirm that the bottoming-out process has probably occurred.

Michael Kim – Imperial Capital

Okay. And then just switching gears to CheckView, can you comment on any of the metrics in terms of customer – net customer additions or pricing, or what you are seeing in terms of attrition?

Rob van der Merwe

No, I think that's probably largely a function of that business bottoming out as well and slowly starting to come back, but very slowly. I don't know, Ray, if you want to add anything.

Ray Andrews

No. Yes, I think it's remodel work. And one of the things where we are getting some traction on is more emphasis on cross-selling. So, we are – established EAS customers, we are introducing our CheckView capabilities and generating some interest that way. And that's helping with our top line there.

Michael Kim – Imperial Capital

And with CheckView, are you expanding some of your service offerings? Or is there something we can dial into going forward on the CheckView business?

Rob van der Merwe

Well, the one thing we do is cross-sell now. Consider that being an independent business, we use it as part of a range of solution sales. And we are getting traction there. So I would expect the cross-selling to continue. As you know, historically that business has had its own customer base, which is different to Alpha and different to EAS and so on and so forth. So we are cross-pollinating and we are getting traction from doing that.

Michael Kim – Imperial Capital

Okay. And then lastly, on the SG&A restructuring, with the balance this year and then – or the balance into 2011, is that recorded primarily in the first half, and the second half would moderate? Or is it more linear throughout the year?

Ray Andrews

When you say recorded, do you mean the benefits?

Michael Kim – Imperial Capital

Yes – well, the restructuring expense and then the benefits.

Ray Andrews

Yes, I – well, I think the expense should be primarily in the first half of the year or should be, as I mentioned a little earlier, a bit in the fourth quarter, depending on how it all matches up to the U.S. GAAP reporting requirements. And then the benefits will grow as the year progresses.

Michael Kim – Imperial Capital

And then, you would expect to achieve fairly close to the full run rate exiting 2011or earlier than that?

Ray Andrews

I'd say exiting. There are some issues or – for example, regulatory issues in implementing an SG&A program outside the U.S. that slows down the progress a little bit. So that is a factor that will push it more into the second half of the year.

Michael Kim – Imperial Capital

And how much of that restructuring is split between North America and Europe and other geographies?

Ray Andrews

We are not in a position to provide that level of detail.

Michael Kim – Imperial Capital

Okay. Very good. Well, thank you very much.

Ray Andrews

Okay.

Rob van der Merwe

Thanks, Michael.

Operator

Our next question is from Chris McGinnis with Sidoti & Company. Please proceed with your question.

Chris McGinnis – Sidoti & Company

Good morning, guys. Just a couple of follow-ups, I guess. Just one on the consumable business on the EAS side. Do you have – I think somebody already asked it and I missed the answer, but – I guess the visibility. Is there something – is there maybe some pilots or maybe some contracts or talks that make you feel a little bit more comfortable of a pickup in '11?

Rob van der Merwe

Yes, we look at the pipeline. These are not deals, as Ray mentioned earlier, this is not just a unit sale that has implications on the business process that the customer follows. So they have to be properly piloted and they take a while to be loaded in and accordingly, we get visibility earlier than you would think for a typical label. So, we do have a pipeline of accounts and we can measure with how we are doing with each of them.

Chris McGinnis – Sidoti & Company

All right. And then, I guess, just on the decline on the apparel margin, how much of that was the change in the mix and then the labor change?

Ray Andrews

We haven’t really broken that out, but I think it's a combination, as we said earlier, of both of those factors.

Chris McGinnis – Sidoti & Company

All right. And then just on the CapEx, the change going from $32 million to $25 million, I think you said – what's the makeup of that?

Ray Andrews

I think just – generally, plans are progressing a little slower than what we expected. Nothing of note, just general reduction.

Chris McGinnis – Sidoti & Company

Will that be pushed out to '11?

Ray Andrews

Yes. Yes, we expect a similar run rate in 2011 for CapEx as well. We will provide more detail on that when we provide the 2011 update in February.

Chris McGinnis – Sidoti & Company

All right. Thank you.

Ray Andrews

Thanks.

Operator

Our next question is a follow-up question from Reik Read with Robert W. Baird. Please proceed with your question.

Reik Read – Robert W. Baird

I just wanted to follow-up on a comment Ray made earlier just with the hard tagging program. Ray, you had talked about it's an operating model change for many of your customers. Can you expand a little bit on that in terms of how far are they through that process of really learning what all the process changes need to be? And how willing are they to implement, just given that change is difficult for a lot of people and it tends to take longer than they think?

Rob van der Merwe

Reik, I'll take that – it's Rob. I – this is a proven model now. It's a model that includes a recycling of tags, a refurbishment and placing them back into circulation around the world. It's a pretty comprehensive green system, if you will. That has been completely proven. The internal model has been completely proven and we are talking about very substantial retailers here. The model that changes is effectively the application of the hard tag in the supply chain or in the store is completely removed. This is now done at source.

So effectively, they are able to remove direct – or labor directly from the stores. And so it takes them a while to bring it in and start eliminating that headcount. It's a direct savings and a significant improvement in productivity for the customer. It's been totally proven.

Reik Read – Robert W. Baird

And the – I take it what you are saying, Rob, is that because these are large retailers, they are going to do it, they are going to implement this in probably a phased-in approach?

Rob van der Merwe

That's correct.

Reik Read – Robert W. Baird

Okay. So, really what we ought to expect is a little bit of improvement as some of these come online in the first part of the year, and really 2011 would be more back-end loaded, at least with this particular program?

Rob van der Merwe

Don't know yet, Reik. All we can do is give you some feel for that when we you give the fourth quarter results. We'll know more then as to how quickly it's ramping.

Reik Read – Robert W. Baird

Okay. And then you commented before on North America consumables still being fairly weak. Is there – is that kind of flat-lining or is there an expectation that that starts to pick up for any particular reason?

Rob van der Merwe

No, I think what I should have said, I guess, is that coming out of the back-end of last year with a very significant de-stocking that occurred, there are a couple of things that are snapping back. And it's very difficult to determine, for example, whether it's a replenishment of inventory, if it's deeper tagging or more prolific tagging as a result of shrink, or if it's the shopper pulling volume. It's difficult to break those down.

So, what we did see in the first half of the year really was a recovery. Difficult to explain exactly what aspects contributed to that and that seems – I say "seems," because we haven’t finished the year yet, that that rate of recovery has slowed. I wouldn't suggest that it's flat or even down, but the rate of recovery seems to be lower than what it was in the first half. Again, we need to see the fourth quarter to confirm that.

Reik Read – Robert W. Baird

But you are still saying, if I understood that correctly, Rob, it's not flat-lining; it's still up and to the right, just at a slower rate?

Rob van der Merwe

Yes, it's up and – but again, as Ray mentioned earlier, we are introducing a lot of new technology. Much smaller labels are going on to new categories – jewelry, cosmetics, and so on. So, some of that is us stimulating growth through innovation. So if you put that all in there, yes, I wouldn't say it's flat or negative; it's probably flat or slightly positive.

Reik Read – Robert W. Baird

Okay, great. Thank you, guys.

Operator

Our next question is a follow-up question from Ajit Pai with Stifel Nicolaus. Please proceed with your question.

Ajit Pai – Stifel Nicolaus

Yes, just looking at the commodity pricing comments that you had made, I think some of your input costs, could we sort of discuss the range at which you've seen some of those go up? And also, what your ability has been to pass on some of those price increases to your customers?

Ray Andrews

I think – yes, I mean, the biggest commodity area we are sensitive to are polymers in the Alpha business; aluminum certainly in Europe [ph] label business. I think this year, we have managed to do advance purchases that shielded us to a large extent. Next year, if we see a big impact of commodity prices, certainly, everybody in the market will see that and we will plan to do what we can to push that through to higher prices.

Ajit Pai – Stifel Nicolaus

So, in the areas which you don't have commitments and you are buying in the spot market, in aggregate, would you say that your costs have gone up in double-digits?

Rob van der Merwe

We have been able to mitigate most of that. As Ray said, Ajit, we've got contracts; we hedge; we are all the time reducing our waste in the factories. So there are still opportunities for us to significantly improve our procurement practices around the world. I don't want to get too much into that on the call, because we are not – we are using that as a little bit of a cushion here, if you will. Those savings should help us substantially mitigate the expected commodity price increases that we are reading about going into 2011.

Ajit Pai – Stifel Nicolaus

And if you were to look at what your capacity utilization is right now for your plans, and even in terms of your sales force and offices around the world, would you say you could increase – how much could you, as a percentage, increase your revenue without having to start materially adding headcount?

Rob van der Merwe

Well, the bet is quite substantially, because I think this restructuring plan that we have announced today has been done skillfully so that it does not interrupt growth but rather looks to productivity improvement or collapsing – streamlining the organization, if you will. Where most companies have moved to shared services and more standardized back offices, we are still catching up and that's part of the ERP program that Ray has been talking about. So I think in a sense, because we are late to the party, we still have those opportunities to bring forward.

Ajit Pai – Stifel Nicolaus

And you mentioned that you are first going to do North America and then you are going to do Europe. And then subsequent to that is when you add on Asia, or when does that happen?

Rob van der Merwe

That's correct, yes.

Ajit Pai – Stifel Nicolaus

Right. And the program you have mentioned so far that's already committed, it's just North America and Europe, and – in terms of timing, but by when will you be completely done with ERP?

Ray Andrews

Our plan – we are committed to the whole thing, Ajit, and the plan is to be done in 2012.

Ajit Pai – Stifel Nicolaus

Okay. So 2012 is when –?

Rob van der Merwe

Yes, the guts of North America and Europe is 2011.

Ajit Pai – Stifel Nicolaus

Is 2011, and do we – I mean, is there sort of a flip-the-switch date that you have in mind for North America and then one for Europe?

Ray Andrews

Yes, we – well, we'll purposely pick times that where organizational readiness is there, the resources are available. So for North America, we are looking to flip the switch subject to our project management go/no-go decision early in the first quarter.

Ajit Pai – Stifel Nicolaus

Got it. Okay. Thank you.

Ray Andrews

Thanks.

Operator

Mr. Powers, there are no further questions at this time. I would now like turn the floor back over to you for closing comments.

Bob Powers

Once again, we thank you for your interest and we look forward to speaking with you on next quarter's call.

Operator

Ladies and gentlemen, this does conclude today's teleconference. You may disconnect your lines at this time. Thank you for your participation.

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