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Executives

Jennifer Rice -

Neal V. Fenwick - Chief Financial Officer and Executive Vice President

Analysts

Arnold Ursaner - CJS Securities, Inc.

William B. Chappell - SunTrust Robinson Humphrey, Inc., Research Division

Bradley B. Thomas - KeyBanc Capital Markets Inc., Research Division

Karru Martinson - Deutsche Bank AG, Research Division

Simeon Gutman - Crédit Suisse AG, Research Division

Gary Balter - Crédit Suisse AG, Research Division

Unknown Analyst

ACCO Brands (ABD) Q4 2011 Earnings Call February 15, 2012 8:30 AM ET

Operator

Good day, ladies and gentlemen, and welcome to the Fourth Quarter 2011 ACCO Brands Earnings Conference Call. My name is Janita, and I will be your operator for today. [Operator Instructions] As a reminder, this conference is being recorded for replay purposes. I would now like to turn the conference over to your host for today, Ms. Jennifer Rice, Vice President, Investor Relations. Please proceed.

Jennifer Rice

Good morning, and welcome to our fourth quarter 2011 conference call. Speaking on the call today are Bob Keller, Chairman and Chief Executive Officer of ACCO Brands Corporation; and Neal Fenwick, Executive Vice President and Chief Financial Officer.

Slides that accompany this call have been posted to the Investor Relations section of accobrands.com. These slides provide detailed information to supplement this call. When speaking to our earnings per share, we are using a normalized effective tax rate of 30%, and we exclude the cost associated with the pending acquisition of MeadWestvaco's Consumer and Office Products business and costs associated with the repurchase of our bonds during the year. SG&A, operating income and EBITDA also exclude costs associated with the pending acquisition.

During the call, we may make forward-looking statements, and based on certain risk factors, our actual results could differ materially. Please refer to our press release and SEC filings for an explanation of those factors.

Following our prepared remarks, we will hold a Q&A session. Now it is my pleasure to turn the call over to Mr. Keller.

Neal V. Fenwick

Thank you, Bob. Our fourth quarter performance is recapped on Slide 4. Reported sales decreased 2%, and volume decreased 4%. We expanded our gross profit margin 50 basis points to 32.2%. The improvement came from freight distribution and other process efficiencies, particularly in Europe. SG&A expenses are down in the quarter, 130 points excluding $4.1 million of costs related to the pending acquisition due to reduced expenses in both Europe and Computer Products.

In all, fourth quarter operating income increased 17%, also excluding the Mead transaction cost. And operating margin increased 11.4%, an improvement of 190 basis points. EBITDA increased 8% to $52 million, and EPS from continuing operations increased 26% to $0.29 versus a comparable $0.23 in the prior-year quarter. For the full year, sales increased 3% driven by currency and pricing. Volume was down 2% due to declines in U.S. and Europe, largely due to inventory reductions by certain customers and lower demand in Europe.

As shown on Slide 5, for the full year, gross margin increased 60 basis points to 31.5%. Operational improvements, particularly in Europe, were the largest driver of the increase. SG&A was up 2.5% for the year excluding $5.6 million of costs related to the pending acquisition. The increase in SG&A dollars was due largely to the impact from foreign exchange, which was $7 million. As a percentage of sales, SG&A was even with the prior year at 21.9%. Investments made in the first half of the year to improve our operations in Europe were offset by savings in the second half of the year. Operating income increased 10% for the year excluding transaction-related costs, and margin expanded 70 basis points to 9.2%. EBITDA increased 6% to $168 million and to 12.8% of sales.

Foreign exchange added $8.6 million to EBITDA. And finally, EPS from continuing operations increased 36% to $0.64 excluding the $0.05 cost associated with bond repurchases and the $0.07 of transaction-related costs. This compared to $0.47 in the prior year.

Looking at segment performance for the quarter. Reported sales for the Americas decreased 4% due to currency and volume. The decline in volume was due to a tough comparison to the prior-year quarter as well as tight management of inventory by 7 of our customers. Operating income for the Americas decreased 17%, and margin declined 130 basis points due to the lower sales volume. International segment sales decreased 4% due to a 7% decline in volume, which was the result of lower demand in Europe.

Pricing and currency were both favorable. Operating income increased 47% to $17.9 million compared to $12.2 million in the prior-year quarter, and operating margin expanded 500 basis points to 14.6% from 9.6% due to the turnaround of the profitability of the European business resulting from price increases and operational improvements executed in the first half of the year, which returned the business to modest profitability.

Computer product sales increased 6%, driven by strong volume growth, which was up 10% due to strong sales of new products for smartphones and tablets. Growth was broad-based and across most regions. Computer Products operating profit increased 17% in the quarter and margin expanded 230 points to 25.1%. Margins improved despite significantly low royalty revenue, which were the result of lower laptop sales and, therefore, lower security sales. We continue to roll out on new ClickSafe security lock. The net volume growth resulted in lower SG&A to sales ratio.

Turning to cash flow, which is detailed on Slide 6. Fourth quarter operating cash flow was strong at $80 million, bringing the year to $106 million before Mead transaction-related costs, excluding GBC Fordigraph, operating cash and proceeds from sales as well as costs related to the Mead transaction. Full-year free cash flow was $53 million. During the year, we reduced debt by $59 million resulting in yearend net leverage of 3.3x, our lowest level so far as a public company. We are pleased that our balance sheet has become very manageable even before the acquisition of MeadWestvaco Consumer and Office business, which will increase our annual cash flows. In terms of 2012, as Bob outlined, we do expect sales growth for the standalone ACCO Brands business to be essentially flat, with volume growth in the Americas and Computer Products offset by volume declines in Europe and negative foreign currency translation.

However, based on productivity improvements, we expect to deliver EPS growth of approximately 30%. This assumes 30% tax rate and 59 million shares. This also includes benefits from our restructuring actions in the first half of the year. We expect free cash flow of $50 million to $60 million. As we reported, ACCO Brands expects to incur restructuring charges of $5 million to $7 million during Q1 of 2012, which is separate and apart from the pending acquisition. Of these, approximately $5 million are cash charges. We expect savings of $5 million to $7 million in 2012 growing to $8 million annually. We expect cash payback within the year. The restructuring charges are response to weak demand in Europe and the rationalization of our go-to-market organization in the United States. ACCO Brands is committed to driving further improvement to its underlying business as we see an opportunity for further operating efficiencies in today's market environment. So we will continue to make progress in improving our business even ahead of the Mead Consumer and Office Products transaction. That concludes our prepared remarks. At this point, Bob and I will be happy to take your questions. Operator?

Question-and-Answer Session

Operator

[Operator Instructions] Your first question comes from the line of Arnie Ursaner with CJS Securities.

Arnold Ursaner - CJS Securities, Inc.

My first question relates to the Q4 results. Last year in Q4, you had, had significant prepurchases from some clients in anticipation of price increases, and then it was offset in Q1. Have you given some thoughts of quantifying how that did impact you this year and what you did see with customer inventory levels in Q4?

Arnold Ursaner - CJS Securities, Inc.

Okay. So in terms of the current quarter, last year, you have had a very weak quarter because of the tough Q4 comparison. Are you seeing a return to normalcy in this year's first quarter?

Arnold Ursaner - CJS Securities, Inc.

Okay. My second question relates on the international business. You had terrific results, 500 basis points improvement in operating margin year-over-year. But embedded in their international are things like Europe that are quite weak in markets like Australia that's been very strong. When we think about your results in '11, can you try to quantify, maybe you could give us a feel for the swing in Europe and profitability in the year and also how we should think about that in 2012?

Operator

Your next question comes from the line of Bill Chappell with SunTrust.

William B. Chappell - SunTrust Robinson Humphrey, Inc., Research Division

Just thinking and alluding to your guidance -- or the topline guidance for 2012, I was just trying to understand market share gains or new business wins and how that compares to what you're expecting for the overall category versus within -- in North America and Europe? And do you expect ex Europe? You'd post pretty solid growth or is it really kind of across the board do you expect some flatness?

William B. Chappell - SunTrust Robinson Humphrey, Inc., Research Division

And then I'm not sure if you said that -- any idea that you can give us on pricing? It was taken January 1 and kind of how that's affecting and then what's your expectations for pricing midyear might be?

William B. Chappell - SunTrust Robinson Humphrey, Inc., Research Division

Okay. And then just a couple of one-offs. With regards to your EPS guidance for this year, are you excluding the restructuring charges or are you including that? And then also, what are you assuming for the loss of, I guess, the royalty from the physical, I guess, laptop lock and how should we be looking at that going through this year?

William B. Chappell - SunTrust Robinson Humphrey, Inc., Research Division

So that guidance assumes that $5 million net loss?

Neal V. Fenwick

Yes, it does. And it assumes that we do get the savings from the restructuring even though we don't include the expense.

William B. Chappell - SunTrust Robinson Humphrey, Inc., Research Division

Got it. And one last one, in terms of new business wins, are there some opportunities for this year or is that going to put on hold until you have the merger and then see what synergies you'll get going into 2013?

Operator

Your next question comes from the line of Brad Thomas with KeyBanc Capital Markets.

Bradley B. Thomas - KeyBanc Capital Markets Inc., Research Division

I wanted to just ask for another point of clarification on the guidance as well. In terms of the 30% EPS growth, I was just wondering what that assumes in terms of the capital structure. I believe on page 8 of the handout, that it says that you do not assume any calling of your notes that you could technically call. Is that the right way to look at it that, that's being excluded from this current guidance?

Neal V. Fenwick

Yes, exactly right, Brad. It assumes the existing capital structure carried on for the whole year.

Bradley B. Thomas - KeyBanc Capital Markets Inc., Research Division

Right. So in the event that the merger didn't go through, you would have that as a potential upset to your current guidance?

Neal V. Fenwick

We would refinance if something happened and the transaction didn't happen.

Bradley B. Thomas - KeyBanc Capital Markets Inc., Research Division

Great, great. I realize we're talking hypotheticals here, but it's helpful. And then in terms of the Mead deal, could you just give us an update in terms of what the next steps are, and what we should expect from a timing standpoint?

Bradley B. Thomas - KeyBanc Capital Markets Inc., Research Division

Great. And Bob, you sound very excited about the revenue synergies once the deal does close. How quickly could we start to see those?

Operator

Your next question comes from the line of Karru Martinson with Deutsche Bank.

Karru Martinson - Deutsche Bank AG, Research Division

As you guys look at the kind of modest price increases for the upcoming year, what are you seeing from your competitors and also from private label?

Karru Martinson - Deutsche Bank AG, Research Division

Okay. And I thought I heard you say that raw materials here have mitigated but were still up, and that's kind of the outlook for the year as well, correct?

Neal V. Fenwick

And fuel.

Karru Martinson - Deutsche Bank AG, Research Division

Okay. And then when you look at the mass channel growth, I know you mentioned Meadwestvaco, they're doing better in that channel. Where has your growth gone from that? I mean, was it a small channel to begin with when you came on board where we hit there today?

Neal V. Fenwick

We've made progress. But honestly, most of the progress we've made has been at Wal-mart. And they're a great customer, and that's a positive thing. But Mead has a much stronger presence in Target and in drugstores and they've just done a significantly better job than we have there. And so, our expectation is given the strength to their relationships that we'll have better leverage in talking to those potential customers, and we'll have an opportunity to grow there as well. We're very happy with the progress we've made at Wal-Mart. They're a terrific customer.

Karru Martinson - Deutsche Bank AG, Research Division

And just lastly, with the $50 million to $60 million of cash flow pre the merger, what's kind of the prioritization of cash flow going forward?

Neal V. Fenwick

At a moment, one of the challenges we have is our inability to reduce debt on a go-forward basis. After the merger, we will have a lot of debt that can pay down and our focus will be to continue to pay debt down.

Operator

[Operator Instructions] Your next question comes from Simeon Gutman wilth Crédit Suisse.

Simeon Gutman - Crédit Suisse AG, Research Division

This is Simeon Gutman for Gary. Just one other follow-up on the merger, so it sounds like you're pretty confident in the $20 million of the synergy. Just on the revenue side, if you rewind to where you were a few months ago, looking at this deal going forward to where you are now, are there further revenue opportunities that you weren't thinking of beyond some of the more obvious reasons or brand platforms that you were considering?

Gary Balter - Crédit Suisse AG, Research Division

Just following up on that. This is Gary. If we just, if -- putting aside the acquisition because obviously, there's a lot of synergies that you just mentioned, a lot of opportunity to drive business through going into some other countries and moving products that aren't sold in different channels through those channels. If you just look at the ACCO business, what steps are available for you to drive -- to gain additional market share? Because if we look at your guidance, you're kind of flattish on the top and then some great stuff on the margins that you already shown. Are there other actions you could take to drive additional share?

Simeon Gutman - Crédit Suisse AG, Research Division

And back to Simeon again, related to that, the reference about U.S. customers being tighter, is that all because of that sell-in versus sell-through issue implying that the customers are just buying less overall macro, or was there some shift out of certain brands into other ones?

Gary Balter - Crédit Suisse AG, Research Division

Okay. And then one last one on some of the restructuring that was mentioned and some of the charges that are going to be taken. Are those commensurate with where demand may have shaken out in Q4 or is there some anticipation that captures that -- the business moderates further and that sort of captures all that?

Operator

Your next question comes from the line of Raza Vadapathra, [ph] Barclays Capital.

Unknown Analyst

Just kind of a housekeeping item for 2011. What ended up being your cost inflation for 2011?

Neal V. Fenwick

So we assume different cost inflations for different commodities. But obviously, we are -- our general assumption is it's low, and that's our assumption. Sorry for 2011, is that the question?

Unknown Analyst

Yes.

Neal V. Fenwick

It was around 3%.

Unknown Analyst

Okay. And so for '12, you expect that to be more or less about the same to maybe slightly less?

Neal V. Fenwick

Slightly less.

Unknown Analyst

Got it. And as far as channel trends in the U.S., it sounded like you made a lot of progress in the distributor channel and wholesale channel, and they may have gained shares as well. Is that accurate and is that how you would expect to proceed in 2012?

Unknown Analyst

Got it. And then as far as sales trends by the type of product, it sounded like 2011 was -- experienced better sales for durables. How do you see that unfolding for 2012?

Operator

At this time, we have no further questions. I would now like to turn the call back over to Mr. Bob Keller, Chairman and CEO, for any closing remarks.

Operator

Ladies and gentlemen, that concludes today's conference. Thank you for your participation. You may now disconnect. Have a great day.

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