Sonoco Products Company CEO Discusses Q3 2011 Results - Earnings Call Transcript

| About: Sonoco Products (SON)

Sonoco Products Company (NYSE:SON)

Q3 2011 Earnings Conference Call

October 19, 2011 11:00 AM ET

Executives

Roger Schrum – VP, IR and Corporate Affairs

Harris DeLoach – Chairman and CEO

Jack Sanders – President and COO

Barry Saunders – VP and CFO

Analysts

George Staphos – Bank of America/Merrill Lynch

Bill Gresh – JP Morgan

Ghansham Panjabi – Robert W. Baird & Co., Inc.

Chip Dillon – Vertical Research Partners

Philip Ng – Jefferies & Company

Alex Ovshey – Goldman Sachs

Chris Manuel – Wells Fargo

William Selesky – Argus Research

Operator

Good day, and welcome to the third quarter 2011 Sonoco Products Corporation earnings teleconference. My name is Caddis, and I'll be your coordinator for today. At this time all participants are in listen-only mode. After management’s remarks, we will conduct a Q&A session. (Operator instructions)

I'd now like to turn the presentation over to you host for today’s conference, Vice President of Investor Relations, Mr. Roger Schrum. You may proceed sir.

Roger Schrum

Thank you, Caddis. Good morning and welcome to Sonoco's third quarter investor call. This call is being conducted on October 19, 2011. Joining me today are Harris DeLoach, Chairman and Chief Executive Officer; Jack Sanders, President and Chief Operating Officer; and Barry Saunders, Vice President and Chief Financial Officer.

The news release discussing the company’s third-quarter financial results was released after the market closed on Tuesday, October 18, and is available on our investor relations section of our website at sonoco.com.

Let me begin by stating that today's call may contain a number of forward-looking statements that are based on current expectations, estimates, and projections. These statements are not guarantees of future performance and are subject to certain risks and uncertainties. Therefore, actual results may differ materially. Additional information about factors that could cause different results and information of the use by the company of non-GAAP financial measures is available in today’s news release and on the company's website.

And with that, I'll turn it over to Barry Saunders.

Barry Saunders

Thank you Roger. After the close of the market yesterday, Sonoco reported that third quarter sales were $1.124 billion, up $72 million or 7% over last year’s third quarter. We reported GAAP earnings per diluted share or EPS of $0.76 per share and base EPS of $0.66 per share. The base EPS of $0.66 is $0.01 better than last year’s base EPS of $0.65, and within our guidance of $0.64 to $0.68.

Let me first describe why our GAAP EPS was $0.10 higher than base EPS. The most significant item impacting this is the net $18 million reduction in tax expense, or $0.18 per share associated with the reduction in the valuation allowance against deferred tax assets. This was comprised of two separate events, the first being a 24 million release of valuation allowance against deferred tax assets in Europe. The deferred tax assets results from cumulative net operating loss carry forwards in one legal entity that had been fully reserved for through the valuation allowance due to the uncertainty of being able to use NOLs.

However, due to improved operating results in that entity, we are comfortable that the NOLs will be usable, and thus have released the full reserve. Partially offsetting this is the increase in the valuation reserve by $5 million in Canada as a result of the decision to close a thermoforming plant. The business will be transitioned to other plants in the US to better leverage capacity and be closer to the customer base. But since this was the primary activity of this particular legal entity, we have to create a valuation reserve against the deferred tax assets that were on the book.

Restructuring and asset impairment charges of 12 million pre-tax, or $0.07 per share after-tax is primarily related to the closure of a Tubes and Cores plant in Europe, the close of the thermoforming plant in Canada that I just mentioned, along with additional charges related to previously announced restructuring actions.

Fees associated with acquisitions and divestitures cost us about 1.5 million after tax in the quarter or $0.01 a share. This the net impact of the lower income tax from the net release to valuation reserve, partially offset by the restructuring expense and acquisition fees accounting for the $0.10 benefit that has been excluded from base EPS. Last year we just had $0.07 of restructuring and asset impairment charges, and $0.01 of acquisition related costs.

All of my comments will be directed towards our base income statement, which excludes the previously mentioned adjustment, and as Roger mentioned you can find the reconciliation of GAAP to base numbers in our press release, and on our website. As usual, I will first walk through the P&L, then talk about the drivers of the change. As I just mentioned, sales of 1.124 billion were up 72 million year-over-year. base income before interest and income taxes or EBIT was 98.6 million, unchanged from the prior year as gross profit was lower by $13 million, offset by favorable variance of the same amount in selling, general and administrative expenses both of which will be discussed when we review the bridge.

Interest was essentially unchanged at 8.3 million, thus base income before income taxes was also unchanged at $90.2 million. Base income tax expense was 26.3 million versus 26.6 million last year as the effective tax rate on base earnings dropped to 29.1% for the quarter, versus 29.6% last year.

Let me take a moment to explain the change in the effective tax rate, and why it was lower than what we expected when we provided our third quarter guidance last year. During the quarter we recognized about $2 million in income from some company owned life insurance policies, and such income comes without tax expense. Equity in affiliates and other minority interests of 3.2 million was about 400,000 less than last year. Thus net income attributable to Sonoco was 67.1 million and with slightly fewer average shares outstanding and rounding EPS was $0.01 higher.

I will first walk through the sales and EBIT bridge, then discuss the results by segment. The 72 million increase in sales can be explained by 4 drivers. Volume and mix was down or negative by $4 million, price was favorable and accounted for 54 million of the increase. Dispositions net of acquisitions lowered sales by 1 million, and exchange and other added 23 million to sales.

First focusing on volumes, volume in the consumer segment overall was up just over 2% driven by continued higher volume in flexibles and plastics. We continued to see nice improvement in flexibles, which was up 8% year-over-year driven by both demand in base business and new business awards. Low molded plastics were up 16% in unit terms. And in terms of other plastics activity in this segment, this was partially offset by thermoforming activity, which was down about 2% and tube extrusion for the adhesive and (inaudible) was up 19% due to continued softness in building and construction.

In terms of the largest business in the consumer segment, composite can volume in North America was down around 1%, as higher volume in coffee and powder beverages was offset by declines in the other market segment. Trade sales of metal ends were also down 8%, primarily as a result of underlying demand of our customers. Outside North America, composite can volume was up modestly but not enough to make a real difference for this segment as a whole.

In the Tubes and Cores/Paper segment volume was down approximately 2% overall. Tubes and Cores volume in North America was down 4.7% due to demand by served customers as there was no notable overall change in market share. In terms of market segments, textiles were down almost 8%, film was down 7%, paper mills [ph] packaging was down 4%, and tape and specialty down just 1%. Molded plug sales were also down year over year.

Most of the volume downturn occurred in September. July was a little softer than what we expected, but then improved notably in August, and then dropped much more expected in September. Year-over-year volume for the month of September was down 8%. Customers seemed to be very uncertain of their own demand over the very near term, and we’re seeing significant swings in order patterns.

In terms of the impact on paper, even with the internal paper demand being down in North America as a result of 7% increase in trade, total tons in paper North America were essentially flat year-over-year. Corrugating volume was up about 1% and activity in recycling was up about 1%. Outside of North America, Tubes and Cores in Europe was down 2% for the quarter year-over-year, as it was down about 4% in the legacy countries to the west, and then that was only partially offset by sales in the eastern frontier region being up almost 4%.

Paper Europe volume overall was down 5% driven by lower trade sales. Although much smaller, and therefore does not notably impact the results Tubes and Cores was off 8% in South America due to both market softness across the region and somewhat from what we expect to be temporary share loss associated with some price increase implementations.

Volume was up in Asia, but only up 3% driven by higher sales in Malaysia and Indonesia. Packaging services activity was also higher year-over-year compared to the same quarter last year, as the previously announced loss of one contract packaging account was more than offset by volume growth in the US, driven by fulfillment activities and manufacturing, as well as an increase in our national activities. However, mix negatively affected the top line as well as a result of the move of some of the activities for blade and razor packaging to Mexico, where the lower cost environment results in lower billings.

Business in All Other Sonoco had overall volume increase as well, as molded plastics volume was up about 4%, reels was up 12% due to higher demand for steel reels for utility industry, and this was partially offset by protected packaging volume being down 16% associated with the lower demand in the appliance industry as compared with last year when last year benefited from the economic stimulus program.

Moving down to price, price accounted for 54 million of the increase in sales associated with higher input cost in almost all businesses. In the consumer businesses, prices were up in composite cans, flexibles and plastics as a result of rising material cost. Overall trade prices in North American Tubes and Cores were about 3% higher due to higher reset points on contract tons, as many contracts reset at June’s OCC price based on the Southeast Yellow Sheet of $150 per ton, versus $125 per ton in June of 2010, as well as the benefit of increases on previously announced price increases for businesses, not subject to contractual reset.

Prices for paper boards sold externally were also higher due to contract resets and other market increases. Recycling prices were of course higher as average OCC prices based on the Southeast Yellow Sheet were about $173 per ton versus $123 per ton for the same quarter last year. Price increases have also been more successfully implemented now in Tubes and Cores Europe though the weighted average prices might have a little currency end mix in fact was up 7% year-over-year.

And to round up the sales bridge, the impact from acquisitions and dispositions was just the net impact of the sales associated with the disposition of the small injection molded plastics business in Brazil, partially offset by the acquisition of a small composite can manufacturer in the UK both of which were mentioned last quarter. Finally foreign translation and other sales differences had a favorable impact right at 23 million, driven primarily as foreign exchange rates on average for the quarter as a whole where the dollar weakened year-over-year about 9% against the euro, 6% against the Canadian dollar.

As usual, when you get all the way to net income translation had little impact on the year-over-year results, probably adding only about $0.01 or so. Moving on to the EBIT bridge, I will quantify the drivers then discuss each of them. Volume in mix was negative by 12 million, price net of material, energy and freight inflation was negative by 3 million. Productivity was possible by 6 million, and other which was our (inaudible) was positive this quarter by $7 million. and finally pension was favorable by $2 million.

The above items need to zero and explains why EBIT was essentially unchanged year-over-year. Starting with volume, you will see that the slight volume mix shortfall in sales translated to even a bigger impact on earnings due to a notable change in the mix of products sold within several businesses. Examples of this mix include in Tubes and Cores North America where we had lower sales of molded plugs, which had good contributions.

In paper North America we had more trade sales, part of which was in edgeboard, which generally have lower margin. Sonoco recycling had negative mix just as the mix in materials and more Sonoco sustainability services or S3 activity. Composite cans had a negative mix as coffee sales were up, but the sales in the (inaudible) and adhesives and sealants segment’s growth were down. In flexible packaging we saw some negative mix just where some of the growth currently came in at a lower margin than some of the other business. And finally in protected packaging there was just a shift in the customer mix in that business.

Moving on to price cost, which again was negative by 3 million as the benefit of the higher prices you saw in the sales bridge was more than offset by material, energy and freight. Although not big shortfalls in any particular business unit or segment, they did add up to 3 million negative variance. Although prices were up in consumer as I mentioned, materials were also up just slightly more, steel was up just under 10%, aluminum roughly 16%, coatings and outside processing costs for metal ends were also low.

Flexible film costs were up anywhere between 13% and 20% and resin were higher year-over-year anywhere between 15% and 30% depending on the type. In the Tubes and Cores/Paper segment, although I described that overall price increases, costs were up even more as average OCC prices as I mentioned based on the South-East Yellow Sheet were $173 per ton this year, versus $123 last year. but just to clarify last year many contracts reset at $125, than actual cost average $123, while this year those same contracts would have reset at $150 than average $173 for the quarter.

I will point out that we do expect this to move favorable in the fourth quarter as OCC was $175 in September and subsequently dropped to $160 in October, with further softening anticipated. So we would expect to be price cost positive in the fourth quarter in this segment, and we have assumed an average OCC price of approximately $145 for the fourth quarter.

Productivity at 6 million was once again somewhat weaker than we had expected. As opposed to previous quarters, where there were a handful of issues that were identified and corrected, this time the shortfall is more widespread, particularly in the industrial businesses, where we continue to see the benefit of productivity initiatives, but it was notably masked by the increased operating cost associated with more volatility in our customer’s order patterns, which makes labor optimization much more difficult.

Productivity also continued to be light in flexibles and low molded plastics due to the impact of bringing in the amount of new business that I mentioned earlier. Productivity was also wide in paper operations in North America, where our machines overall were running well, and tons per day were actually up 3% year-over-year, but with flat demand we had to take more downtime. We had 105 days down this year versus 87 last year.

Capacity utilization was about 97.7% this year versus 99.6% last year. Other is the catchall [ph] category, and was actually positive year-over-year by 7 million due primarily to lower F&A [ph] costs. F&A costs were lower due to lower management incentives, fixed cost reduction and control initiatives, income from company owned life insurance and favorable net foreign currency exchange, all of which was notably higher than inflation and fixed cost.

And finally pension expense was lower year-over-year by 2 million, and as I previously mentioned all of the above then essentially nets to no change in EBIT year-over-year. Now when you look at our results in terms of segments, which you find on page 7 in our press release, you can see that consumer sales were up right at 7% driven primarily by the higher selling prices, while earnings were up 2% with EBIT at 10% of sales versus 10.6% last year.

The margin was lower due to the mix, a slightly negative price cost relationship and the continued cost associated with bringing in the new business in plastics and flexibles, as well as simply the impact of the higher sales base associated with the price increase as in the margin calculation. Trade sales were up 10% in the Tubes and Cores/Paper segment due to the higher selling prices, and the impact of foreign exchange partially offset by the lower overall volume.

EBIT was down due to the impact of the lower volume, the related impact on productivity, which did not offset inflation and the impact of mix. Resulting segment margins were therefore down to 7.5% this year versus 9.2% last year, but like I mentioned in consumer, the margin percentage is also affected by simply a higher sales base from price increases, which probably made about 0.5% difference or so in the EBIT margin itself.

Sales were down slightly in packaging services due primarily to the change in mix as I mentioned earlier, while profits improved due to lower selling and administrative and other cost. And sales were up in the businesses and the All Other category by just over 4% and EBIT margins remained strong at 14%.

Now, turning to cash flows. We generated around 100 million in cash from operations during the third quarter, which was 45 million lower than the same period last year. The change can really be summarized by 24 million increase in working capital, 11 million in pension and post retirement contributions this year versus the second quarter last year, and 6 million in lower dividends from affiliates. The increase in working capital was due to the impact of inflation, as well as a slight change in our cash cap [ph] during the quarter, but when you are still out of cash cap goal for the year.

Our latest forecast indicates that we still project to generate approximately 260 million in cash from operations, which includes the impact of contributing approximately 140 million to all of our pension and post retirement plans. Capital spending was 44 million for the quarter, which was up only slightly from last year’s 42 million. and we still expect capital spending to be roughly 150 million for the full year. As you know, we paid dividends of $0.29 per share or 25 million in the quarter, with represents just under a 4% yield on an annualized basis.

Our balance sheet remained strong through the quarter with debt to total capital of 32.2% at the end of the quarter, and as previously announced, we expect it could be in the mid-40s at the end of the year following the closing of the announced acquisition of Tegrant. Earnings guidance for the quarter, for the fourth quarter we project that base earnings will be in the range of $0.59 to $0.63 per diluted share, thus making our full-year guidance in the range of $2.41 to $2.45.

As normal, this is based on the roll-out of our division individual forecast. This guidance assumes economic activity as basically unchanged from the current level, which is somewhat softer from the previous forecast adjusted for seasonality. This also takes into consideration that we should have a favorable price cost relationship in the industrial businesses in North America as I previously described. This also excludes any impact from the Tegrant acquisition, which depending on the closing date could be a few cents dilutive this year, and also excludes any restructuring or acquisition related costs. And the guidance does assume an effective tax rate of 32.5% for the quarter.

As a reminder, because of the change in this year’s accounting calendar, there are six fewer days in this year’s fourth-quarter versus the same period last year, as you probably recall we had six more days in the first quarter this year versus last year.

So that completes my review of the quarter and we can now take questions.

Question-and-Answer Session

Operator

Thank you sir. (Operator instructions) Our first question will come from the line of George Staphos with Bank of America/Merrill Lynch. You may proceed.

George Staphos – Bank of America/Merrill Lynch

Hi, everyone. Good morning. I wanted to dig into trends exiting the third quarter into the fourth quarter. given the pickup that you should be seeing from price cost in Tubes and Cores/Paper, yet with the reduction in guidance overall for the year, and I guess implied in the fourth quarter, does that suggest that the change that occurred in September, the deceleration of decline continued into October, and if you could, if that is true, or not for that matter, can you provide some color around the business as growing in October?

Harris DeLoach

George, I’m not sure that we can give you a lot of color on October at this point in time other than to say we continue to see the fluctuation that we have seen since probably the mid-second quarter, where we will see one week is up, the next week is down, and we have seen that pattern continue into October, one week up, one week down. I would say, that the guidance as Barry said, was based on the run rate that we were seeing in the third quarter, which obviously was exacerbated by a more significant decline in September than we had anticipated in the previous guidance. I think that Barry said while July was relatively weak, August was relatively strong, September was pretty weak.

George Staphos – Bank of America/Merrill Lynch

And so just to comment, in average to one week up, one week down, the best you can see October is flat with September?

Harris DeLoach

That is a fair statement.

George Staphos – Bank of America/Merrill Lynch

Okay. I guess the second question would be Harris, when you speak with your customers about why they are doing that, obviously I guess to some degree, it speaks well of their view of Sonoco’s ability to meet them in the supply chain. I know it must wreck havoc to some degree with your own efficiency as you mentioned, but what is going on in terms of this saw tooth pattern we are seeing in terms of demand. You are not alone, we are seeing it in other sectors.

Harris DeLoach

Right. I’m going to let Jack Sanders talk to that. Jack.

George Staphos – Bank of America/Merrill Lynch

Hi Jack, how are you?

Jack Sanders

Good George, how are you?

George Staphos – Bank of America/Merrill Lynch

Doing well.

Jack Sanders

You know, we have asked the question of our customers and I will tell you the answer that we get back is simply, we get orders when they get orders. So I think that we have getting [ph] the inventories up so much between the companies that, we are seeing an absolute pull through of demand, and that is the best explanation that we can get that has been consistent from several customers.

George Staphos – Bank of America/Merrill Lynch

Okay. Two last ones and I will turn it over, one can you comment as to why you are able to take a couple of million dollars of income from the company of life insurance this quarter, was that planned, were there any special circumstances, and realizing it is not part of base earnings, can you comment as to what improved in Europe that allowed you to release these valuation allowance reserves that you had previously built up. That is maybe not, doesn’t help you now but it is certainly positive for the future. Thanks.

Harris DeLoach

George. Let me take both of those. The first thing as you incorrectly stated the company of life insurance was not in base earnings. It in fact was in base earnings. And the expense of the company on life insurance has been in base earnings since the program started back in…

George Staphos – Bank of America/Merrill Lynch

I know that Harris. I was referring to the valuation allowance reserve, but keep going.

Harris DeLoach

Sorry, I thought you were referring to the company owned life insurance.

George Staphos – Bank of America/Merrill Lynch

No problem.

Harris DeLoach

Well, we funded through company owned life insurance a lot of them, so of them [ph] and some of those items, and actually we had two former executives that passed away during the quarter. so I hope that doesn’t reoccur in the next quarter.

George Staphos – Bank of America/Merrill Lynch

Understood.

Harris DeLoach

So that is the company on life insurance. Actually back in the I think the 90s, early part of this decade or last decade we put these reserves in on one of the European operations, and these NOLs really originated back with some acquisitions that we made in the 90s, and we weren’t giving the kind of returns the possibility of that business that we thought could guarantee those. So we reserved against them. The profitability of that business has improved fairly significantly over the last couple of years, and we felt we could take the reserves and obviously did.

George Staphos – Bank of America/Merrill Lynch

Okay, thanks. I will turn it over.

Harris DeLoach

Welcome. Thank you.

Operator

Our next question will come from the line of Bill Gresh with JP Morgan. You may proceed.

Bill Gresh - JP Morgan

Good morning.

Harris DeLoach

Good morning Bill.

Bill Gresh - JP Morgan

So, a couple of questions. You know on the productivity side of things, you know you had talked earlier last quarter about kind of getting the numbers back up to the range you have been targeting, but it seems to continue to track more in like the second quarter. And it sounds like from the commentary some of these changes sounded a bit structural in terms of the kind of the way you are having to manage your business because of the customer order trends, so would you agree with that. And would you say that maybe in the near term we should be thinking something more along the lights of what you have been achieving in the past couple of quarters, and is that kind of what is embedded in your guidance at this stage?

Jack Sanders

Yes, Bill. This is Jack. I certainly think that what we were saying was that in the first half of the year we had some issues around unusual events that were affecting productivity. In this quarter, we really didn’t see that. We saw productivity that was consistent with what we kind of tried to do in the past. We saw the projects that we were working through in the past come to as we have expected, and that is what we were really saying, productivity is back on target from that aspect.

As you said, our order pattern is changing, and what we have been able to do in the past is that when we see an order pattern change, we would see a change for a extended period, where we lease labor, then begin. Recoup some of what would be negative productivity, but the volatility creates an inability to do that because we don’t really know what the next week is going to be weak or strong just yet. So we have to hold those labors, that labor and the other costs on a little longer.

Is that a structural change, it is too soon for me to say that. It is certainly something we are dealing with now, and where we are looking at ways very aggressively to how do we deal with that assuming it continues for a while. but I am not certain it is a structural change just yet.

Bill Gresh - JP Morgan

Okay. And then I guess just on the cost reduction measures that you talked about taking, is there a way to quantify how much you are taking at this stage, and would those be more temporary saves, or permanent measures?

Harris DeLoach

They would be more permanent measures, and I think it could be a bit premature to quantify that at this point. We will give you more color on that in December at the analyst meeting, and the impact on next year.

Bill Gresh - JP Morgan

Okay. So it is not something we should think about for 4Q at this stage?

Harris DeLoach

I don’t think it will have an impact, Bill, being perfectly honest in the fourth quarter if it is it is baked into the guidance.

Bill Gresh - JP Morgan

Okay, and just one more question on the guidance, the mix side of things it looks like probably the majority of that negative 12 million impact of volume mix I am assuming, and if that is the case, what are you assuming for next quarter, are you assuming that the trends continue in a similar way, or does that reverse itself?

Harris DeLoach

I think we can continue to feel that the mix will continue certainly in the fourth quarter. And I don’t know how much of that $12 million was mix and how much of it was volume. I would guess the bigger portion of it was volume itself.

Bill Gresh - JP Morgan

Okay. So you are assuming that the mix…

Harris DeLoach

I was thinking that you should think that the mix will continue.

Bill Gresh - JP Morgan

Okay. all right. Thanks a lot.

Operator

Our next question will come from the line of Ghansham Panjabi with Baird. You may proceed.

Ghansham Panjabi – Robert W. Baird & Co.

Hi guys. Good morning.

Harris DeLoach

Good morning Ghansham.

Ghansham Panjabi – Robert W. Baird & Co.

Hi, on the inter quarter commentary, September being the weakest, how would you parse that on a geographic basis, was Europe just as weak as North America in September, or was it weaker, how should we think about that?

Harris DeLoach

Ghansham, I will just give you some numbers actually.

Ghansham Panjabi – Robert W. Baird & Co.

Okay.

Harris DeLoach

Tubes and Cores in North America was down as Barry said, I think slightly over 4%, Europe was down about 2%, South America was down about 8%, and Asia was up about 3%, which was down from – I guess up 3% year-over-year.

Ghansham Panjabi – Robert W. Baird & Co.

And that was in September?

Harris DeLoach

That was in September. No, excuse me. That was for the quarter. I would say and I don’t know that I have it all the way around in September, and North America was down around 8%, Europe was basically about 2% to flat. I guess Europe was flat year-over-year, and I really don’t know what South America and Asia were in September.

Ghansham Panjabi – Robert W. Baird & Co.

Got it. That is helpful. And then on the consumer packaging business, it seems very, very strong in the face of very weak numbers for branded food volumes in the US, apart from flexible packaging, were there any specific areas where you picked up some market share maybe?

Jack Sanders

Ghansham this is Jack. I think that we have picked up market share in both flexibles, and in molded plastics, blow molding.

Ghansham Panjabi – Robert W. Baird & Co.

Okay. And Jack if you could just comment on new product activity at the customer level there?

Jack Sanders

I can. We did have new product activity that was in line for our expectations for the quarter, and came in at about $35 million. we expect to see somewhere in that range of $150 million to $160 million this year for new products. And that is inclusive of the conversion of Maxwell house [ph] actually dropped off in the quarter. So, you know the program we have to continually roll this forward, and only keep it on two years, we continue to build new products and roll the others off into legacy products. So we were pleased.

Ghansham Panjabi – Robert W. Baird & Co.

Okay, and just one final question maybe for Barry on the pension side for 2012, how should we think about just an early glimpse on expense and also cash contributions. Thank you very much.

Barry Saunders

Certainly. We are still in the process of putting our outlook for 2012 together, including pension expense. I really don’t have an update for you on that at this time. We certainly will be providing that update in the New York meeting as well. In terms of the pension obligation, we have published that each 25 basis point in the discount rate affects the obligation by roughly $30 million or so. And the discount rate at least at this time is down about 1% year-over-year.

So again we have to get to the end of the year to know exactly where the discount rate ends up, and then look at the funded status to determine what if any funding might be required for next year. But again a little bit too early to predict that.

Ghansham Panjabi – Robert W. Baird & Co.

Got it. Thanks so much.

Harris DeLoach

Welcome.

Operator

Our next question will come from the line of Chip Dillon with Vertical Research Partners.

Chip Dillon – Vertical Research Partners

Yes. Good morning.

Harris DeLoach

Good morning Chip.

Chip Dillon – Vertical Research Partners

You know, I know Harris, in the past you have mentioned that in 2007 somewhere around a third quarter, you noticed a pretty significant change in the Tubes and Cores business that obviously was in hindsight a terrific precursor to what was to come. And as you look at the September fall off in that business, does it feel like that or does it feel more like something less severe at this point?

Harris DeLoach

You are referring to the May 2007 timeframe when we saw a downturn. I would say it was somewhat of that, but I think that, I don’t know what it means Chip [ph], and that is the reason it is calculated in our fourth-quarter guidance. But in early May we had seen – excuse me, early 2007 we had seen a continued up tick that had gone back for probably 12 to 18 months before that, and then we saw the precipitous fall off.

What is different this time is I think we have seen this bouncing up and down for probably for 4 or 5 months, and this was a little more than – it was more than we had seen. So I wouldn’t read that this is an equivalent of 2007 at this point in time. But it is something obviously that we are watching.

Chip Dillon – Vertical Research Partners

Right, and again the big difference being that you were up at such a lofty level like I presume you were at the end of ’06, at the beginning of ’07.

Harris DeLoach

That is exactly correct.

Chip Dillon – Vertical Research Partners

Okay. that is good color. And then on the recently announced Tegrant acquisition, and I don’t know you have said a little bit about that already, but when you look at that business, and you look at some of the other things you have done internally, do you see the potential to accelerate some of the new product flow, in other words are there products that Tegrant is working on, and what you all are working on that might allow you to accelerate that new product introduction goal that you have as a proportion of your growth going forward?

Harris DeLoach

Absolutely, and I think what I do to you Chip, is let Jack talk about that because Jack is a protective packaging expert having grown up in that business.

Jack Sanders

Chip, yes, let me kind of talk to that. I've got a couple of points to make there. Certainly there is half – that business is broken into third. Half of it is what we would call fits more alignment our protective packaging division fits very nicely. Some similar customers but it also expands us into other markets like electronics and also medical and diagnostic equipment. So that fits well with that particular business. I would also say another part of that business is component manufacturing.

They're doing a lot of EPP expanded polypropylene for components in automobiles as well as in diagnostic and other medical and electronic equipment. So that business fits well with our protective packaging business. The thermo site business really is a form and medical business and we believe there is a – that's a strong opportunity for growth into itself but we also believe there is a strong link to our own flexibles business. We believe we'll be able to pull our flexibles into form and medical.

They have an excellent reputation and we believe that's a strong positive for us, and then finally another third of that business it's actually 25%. The alloy business is retail security packaging. That's really aligned with our services business and we use some of their equipment today and some of their packaging today and some of the products that we package for our customers and some don't. So we believe we are going to be able to pull that along quite nicely through our packaging services business and vice versa. Some of the customers they have do a lot of promotion and we believe we may be able to pull backwards from their business side and our promotional business into their business. So definitely some strong links to our existing business and an ability to accelerate the growth for that business in general.

Harris DeLoach

And so the answer being we think there is a good great possibility for new product introductions in that business and pulling into ours as well.

Chip Dillon – Vertical Research Partners

And could there be some sort of change in the long run growth rate that you all typically give us when we meet in December that would incorporate not to jump the gun but I would imagine that could be a positive factor in terms of how you look at you know, the next five years you know, when we meet in New York.

Harris DeLoach

We certainly think it is a positive and we will give you a lot of color in New York on Tegrant and moving forward with that.

Chip Dillon – Vertical Research Partners

Terrific. Thank you very much.

Harris DeLoach

Thank you Chip.

Operator

Our next question will come from the line of Philip Ng with Jefferies & Company.

Philip Ng - Jefferies & Company

Good morning guys. I just had a quick question on your recent acquisition. How are trends shaking out in that business, at least a part of it would be a little bit more cyclical in nature, so I just want to get a sense.

Harris DeLoach

Yes.

Jack Sanders

The question. The cyclicality of the Tegrant business. Well we certainly think that the protective packaging piece of it again you have to break it to its three components is sharply aligned with our protective packaging business although the component piece of that might not be but the trends for the medical and diagnostic as well as the alloy are much different than the trends in the protective packaging piece. That medical and diagnostic piece is a very strong, very strong growth going forward and then the alloy piece is more consumer like.

Philip Ng - Jefferies & Company

Okay, that's helpful. And if I look at your presentation, you know, few weeks back you know, there seems to be you know, handful of new customers. Is there going to be an opportunity for you to some cross-selling where you are going to be able to sell some of your Sonoco legacy products into those new customers.

Harris DeLoach

Yes, there is Phil. I think that that said thermo safe is going to pull, we believe Thermo safe will pull us into medical and forma and should pull flexibles in with it. So we believe we will be able to do more bundling inside that business once we get established, and when you look at alloy business that's retail security packaging primarily. That's functionally what we do today inside our services business. We use some of their equipment and some of their products. Sometimes we don't so we will be able to again move that product on a greater basis using our services business and vice versa. Some of their customers use services and don't deal with us today. So we think there is a solid opportunity there.

Philip Ng - Jefferies & Company

Okay, and then switching gears a little bit on your flexible packaging business it seems like you've done a pretty good job taking share as well some of your other plastic business, you know, what are you doing there is it just more new technology or just leveraging your existing relationships with your big customers.

Harris DeLoach

Both Phil is the answer to that. Certainly our corporate customer program continues to gain strength and we continue to get opportunities working not only in corporate customers and others, but primarily corporate customers are bringing a lot of opportunity. In addition you know, our flexible business really is technology-based. We're using some of our proprietary laser scoring and precision die coding in new applications that's bringing new business, one being the (inaudible) application that we recently won. That was a technology-base and that's the way we go to market inside that flexible organization.

Philip Ng - Jefferies & Company

Okay, and just lastly do you have a sense of how template price is going to shake out next year just because first half this year it’s been a headwind if template would decline or flatten. I would imagine we get a nice little margin expansion opportunity in the first half of next year.

Harris DeLoach

I think we just – that's all wait and see. We will give you more color on that as well.

Philip Ng - Jefferies & Company

Okay, thanks guys.

Harris DeLoach

Thank you.

Operator

Our next question will come from the line of Alex Ovshey with Goldman Sachs. You may proceed.

Alex Ovshey - Goldman Sachs

Good morning.

Harris DeLoach

Good morning Alex. How are you?

Alex Ovshey - Goldman Sachs

I'm doing well, thanks. I wanted to ask you guys on the (inaudible) acquisition and how that's fitting into the business and that you are quite excited about that CPAD [ph] technology and being able to penetrate new markets that you weren’t in before. So wanted to just get an update on how that acquisition is fitting in.

Harris DeLoach

Alex, I think the acquisition is fitting in well if you recall we said that obviously we like the position they had in the CPAD, the dual level trays. And that market is not growing a lot but it is doing about what we expected it to do. We also, one of the reasons for buying it was the fact that they had certain thermoforming technology that we could mirror with some of the thermoforming technology that we have, and I think that's going along reasonably well and we're working on some products that hopefully will be introduced fairly shortly. There are some shelf stable type products and some steamer type products that we will be able to share with you fairly quickly, but it's going along nicely. Thank you.

Alex Ovshey - Goldman Sachs

I appreciate that color Harris. I wanted to ask a question on the price cost spread in the industrials part of the business where there is not a pass-through mechanism. So on the open market kind of just looking at the third party trade publications, it doesn't look like your B prices have changed much throughout the year. How are you guys seeing that price cost spread on the open market tonnage within the industry.

Harris DeLoach

We've gotten price increases and we're satisfied with where we are. We could be better but we're not totally, we're not dissatisfied with that.

Alex Ovshey - Goldman Sachs

Okay, thanks Harris.

Harris DeLoach

You're welcome Alex.

Operator

Our next question will come from the line of Chris Manuel with Wells Fargo. You may proceed.

Chris Manuel - Wells Fargo

Good morning gentlemen.

Harris DeLoach

Good morning Chris. How are you?

Chris Manuel - Wells Fargo

Terrific, thank you. Just –

Harris DeLoach

Good to hear from you again.

Chris Manuel - Wells Fargo

Well, thank you much. Just a couple of quick questions I wanted to ask. One, and I jumped on a few minutes late so if I've missed this I apologize, but SG&A was down you know, quite sharply in the quarter and I just wondered if there was anything unusual embedded within there. What's a reasonable run rate to expect going forward.

Harris DeLoach

Chris, we are – well unfortunately there was some reduced management incentive bonuses in there because we're not hitting the targets that we had set for ourselves for the year which is a piece of it, but we've been controlling cost I think extremely well in the company. The last thing and you might not have heard it, there was some company owned life insurance that was in that S&A figure that won't repeat itself going forward and that was about $2 million. So that was probably the biggest piece of it.

Chris Manuel - Wells Fargo

Okay. The next question I had was you know, as you look at the demand patterns that have been very, very choppy, really just as a phenomenon that's persisted since you know, 2008 or even preceded that a bit. I know in many ways you go to market and price your products and put structures in place to ensure certain returns. At what point do you have to take a step back and possibly rethink some pricing strategies to incorporate more volatility. In other words structurally improve margins. Is this something you think that will persist longer-term that may cause you to rethink how you extrapolate value from the market?

Harris DeLoach

Okay. First of all I wouldn't say that we've seen choppy order patterns going back that far. I would say primarily the choppy order patterns are more in the Tubes and Cores side than we've seen any place else. And that really has been a phenomenon that is probably six or eight months old Chris rather than dating back as far as you say. As Jack said earlier this is week to week, this is not the month, and we're looking at what are some of the mitigating things we can do to alleviate that.

One is to frankly build some inventories that has an impact on working capital, but we are looking at what's the cash impact of that versus the earnings we get from efficiency, and over the past four or five years we've done a phenomenal job I think at the company of driving down our days of working capital, and to a point where I think Jack said earlier, you know, we get orders when the customers get orders, and then I'm getting orders in a steady pattern that they normally get and having said we know what the historical order patterns on an annual basis are for most of these customers. You know, we may have to do a little more earning to inventories to alleviate some of that problem and if that doesn't solve it then we will look at the pricing structure as well.

Chris Manuel - Wells Fargo

Okay, that's helpful. When you're talking about some of the opportunities to pull some of your flexible business into medical opportunities, can you maybe expand upon that a little. When I think that some of the medical opportunities those require some pretty significant technology while some are, I won’t say more mundane but you could probably use some of the same stuff you use so effectively in confectionery snack. Could you maybe give us an example or two of target market or an opportunity you might see there on the flexible side moving into medical?

Harris DeLoach

You know, I would say it's a little early for us to really be specific about that and we would plan to give you, you know, more color on that December, but it is suffice to say that they have a number of customers that we share, and we know that the relationship with those customers we can pull over into the medical and pharma side of those customers where we probably could not have before, and we see a lot of their, a number of their customers, not a lot, a number of their customers that we are not suppliers to today. And I would say the reaction at least early on of this acquisition from the pharma side is being quite enthusiastic that Tegrant is getting a broad-based packaging company with good financial strength that can follow these customers around the world. So we're working that pretty hard right now and we will give you some color on that in December.

Chris Manuel - Wells Fargo

Okay, do you see opportunities there as well for you know, things that we might see show up on pharmacy shelves in terms of blister packs and other protective packaging that way, or is that getting the cart in front of the horse as well.

Jack Sanders

Well, Chris, this is Jack. We have to get all that finalized, but yes we do see opportunities in some of that. As a matter of fact they do sell today into some of their blister packs into over-the-counter pharmacy and that type of things, and you ask about packaging or you asked about the application of film or flexibles, certainly big bags, pouches and some of the face change material is laminated inside flexible packaging. So those are the types of opportunities we see immediately. Long-term, we would like to do something even more of significant medical. So this could be the opening we were looking for.

Chris Manuel - Wells Fargo

Okay, thank you.

Jack Sanders

You're welcome.

Operator

Our next question will come from the line of Bill Selesky with Argus Research. You may proceed.

William Selesky - Argus Research

Thanks guys. Good morning and thanks for taking my call.

Harris DeLoach

Hi Bill.

Jack Sanders

Hi Bill.

William Selesky - Argus Research

I just got – actually most of my questions have been answered but I just had one question with reference to repricing on contracts. You know, a couple of quarters ago it had been a slight issue and I just wanted to see going forward you know, kind of where you stand on that?

Jack Sanders

Yes, Bill, this is Jack. The OCC issue is a reset. We had a reset in the second quarter or for the third quarter that began at 150 and OCC went up to 175 during the quarter. For the fourth quarter it's the opposite of that. It reset at 175. It is now dropped to 160 and quite frankly we would expect some further drops of significance to follow. So it will be somewhat reversed on the Tubes and Cores/Paper side.

William Selesky - Argus Research

Okay, then in general typically how often are contracts reset as far as pricing goes?

Harris DeLoach

Typically on a quarterly basis we have some on the consumer side that are shorter in duration, but on the industrial side the bulk are done quarter-to-quarter, and depending on where the point locks and changes after that that will determine those ups and downs in price cost.

William Selesky - Argus Research

Okay, great. That is all I have. Thanks.

Harris DeLoach

Thank you Bill.

Jack Sanders

Thanks Bill.

Operator

We have a follow up question from the line of George Staphos with Bank of America/Merrill Lynch.

George Staphos – Bank of America/Merrill Lynch

Thanks. Hi guys. First within consumer packaging, is it possible to discuss directionally, which of the businesses were up in profits year-on-year, which if any were down in profit dollars year-on-year, in particular I was interested in what the flexible percentage margin change might have been when we look year-on-year directionally?

Harris DeLoach

George, I don’t have that in front of me. Bear with me a second.

George Staphos – Bank of America/Merrill Lynch

Let me rephrase the question, where there any businesses that were down that you can think of that were meaningful in consumer year-on-year obviously you had a pretty good quarter in consumer from a volume standpoint?

Harris DeLoach

I would say, across-the-board George the performance was pretty good of all the flexible business, not anything really notable.

George Staphos – Bank of America/Merrill Lynch

Okay. Now are flexible margins, let me ask a question there, are flexible margins getting to double digits this year or in any of the next couple of quarters you can look out to.

Harris DeLoach

They are not a double-digit at this point in time. There are continuing to move up.

George Staphos – Bank of America/Merrill Lynch

Okay. You mentioned I think in answering Chris’ question, this was Jack talking about opportunities in blister packs and bread bags. And maybe triangulating here a little bit, but historically these have not been the world’s most lucrative margin businesses, at least from our research. Would you expect that Tegrant technology that you would be able to employ here would actually margin up your flexible business?

Jack Sanders

I don’t think he said (inaudible). I said brick packs, which is something inside the box. Again they have faced changed materials we have seen using that early, what I did say was that longer term, yes, flexibles is a very good market for – medical is a very good market for flexibles. And it is a market we have our eye on, that is a difficult market to qualify for. It is not easily entered, but we have an excellent start, and an excellent position with this acquisition. So certainly it is on our radar screen.

George Staphos – Bank of America/Merrill Lynch

Jack, what about on blisters?

Jack Sanders

Blisters, they are already selling blisters into the retail pharma market today and again we are continuing to expand into that market. that is a target market for them as well.

George Staphos – Bank of America/Merrill Lynch

Would that be an up margin market for you in flexible, or would that be kind of consistent with what you are getting already?

Jack Sanders

George, I really don’t have that type of information just yet.

George Staphos – Bank of America/Merrill Lynch

Okay. Last question and I will turn it over, if we look at Tubes and Cores/Paper and I realize there is seasonality at work here, but if we adjust for seasonality the best that you can, would you say that the current run rate that you are at is the lowest over the course of the year that you have experienced. What I am trying to think about is how you look at 2012 on the trajectory you may or may not have. Thanks and good luck on the quarter guys.

Harris DeLoach

I don’t. Go ahead.

Jack Sanders

Well, George, this is Jack. It is hard – the way we projected it is kind of just more of the same. We projected that volatility going forward. It is not significant changes one way or the other.

Harris DeLoach

I will say, what we’re not seeing is a normal seasonality that we would have expected in the beginning of the third quarter, I mean the fourth quarter in carrying out, and we normally see an up tick in the September time frame. We have not seen it. In fact it went the other direction, and we haven’t seen that.

So you obviously can say it is declining, but it has been basically flat for the year until September George.

George Staphos – Bank of America/Merrill Lynch

Right, and I guess also if you are not seeing the normal seasonality, that could mean that you wind up with a bump in demand at some point when you least expect it, which would take the trajectory back up. So…

Harris DeLoach

That is a fair assumption.

George Staphos – Bank of America/Merrill Lynch

Okay. Well, anyway again guys good luck in the quarter. thanks for the details.

Harris DeLoach

Thanks George.

George Staphos – Bank of America/Merrill Lynch

See you in December.

Operator

I show no further questions in queue. I will turn it back to you for closing remarks.

Roger Schrum

Thank you again Caddis. Sonoco will be conducting its annual analyst meeting for the financial community in New York on Friday, December 2, 2011 at the Grand Hyatt Hotel. Breakfast will begin at 7:30 AM Eastern Time in the Manhattan ballroom on the lobby level of the hotel, and the presentation will start at about 8 AM. The meeting should conclude about 9:30 depending upon your questions.

The company will provide an overview of its strategy and expects to provide guidance for 2012. Members of the company’s executive committee will be attending, and will be available for discussion. Electronic invitations are being mailed today, e-mailed today to interested participants. Those interested in attending should e-mail their name, their company they represent and if they will be attending in person to corporate.communications@sonoco.com. Those who cannot attend in person can join the meeting via telephone conference call or web cast. The web cast and presentation will be made available at sonoco.com under the investor relations tab.

Let me again thank you all for joining us today. We appreciate your interest in the company, and as always if you have further questions please don’t hesitate to contact us. Thank you again.

Operator

Thank you sir, and thank you for your participation in today’s conference. You may now disconnect. Have a great day.

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