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Sonoco Products Co. (NYSE:SON)

Q4 FY07 Earnings Call

February 6, 2008, 2:00 PM ET

Executives

Roger Schrum - VP, IR

Charles J. Hupfer - Sr. VP and CFO

Harris E. DeLoach, Jr. - Chairman, President, and CEO

Analysts

Ghansham Panjabi - Wachovia Capital Markets

Christopher D. Manuel - KeyBanc Capital Markets

Claudia Shank Hueston - J.P. Morgan

Michael S. Pak - Bank of America Securities

Operator

Greetings ladies and gentlemen, and welcome to the Sonoco Products Company Fourth Quarter 2007 Investor 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 remainder, this conference is being recorded.

It is now my pleasure to introduce your host Mr. Roger Schrum, Vice President Investor Relations for Sonoco Products Company. Thank you, Mr. Schrum, you may begin.

Roger Schrum - Vice President, Investor Relations

Thank you, Manny. Good afternoon everyone, and welcome to Sonoco's 2007 fourth quarter and annual earnings investor call. Joining me today are Harris DeLoach, Chairman, President, and Chief Executive Officer; and Charlie Hupfer, Senior Vice President and Chief Financial Officer.

Our financial results for the 2007 fourth quarter, and for the full year, were available before the market open today and are accessible via our website, at sonoco.com.

Let me begin by stating that today's Investor 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 about the use by the Company of non-GAAP financial measures is available on Forms 10-K, 10-Q and 8-K filed with the SEC.

I will briefly review the highlights of our fourth quarter and full year results, and then Charlie will provide a more detailed analysis, before we open the call for your questions.

GAAP earnings for the fourth quarter of 2007 were $0.54 per diluted share versus $0.39 for the same period in 2006. As a result of a change in the Company's accounting calendar the fourth quarter had six fewer days than last year. Overall, results for the fourth quarter benefited from a lower effective tax rate and lower restructuring charges.

Base earnings for the fourth quarter were $0.62 per diluted share compared with $0.56 in the same period last year. Base earnings is a non-GAAP financial measure that excludes certain non-recurring or infrequent and unusual items. Our fourth quarter base earnings exceeded the high-end of the previous guidance that we have reported on December 7th, due to the lower than anticipated effective tax rate.

For the entire year of 2007, Sonoco achieved record sales and net income. Base earnings for 2007 were $2.38 which was above our previous guidance, again, due primarily to the lower effective tax rate.

With that introduction, I'll now turn it over to Charlie Hupfer for a review.

Charles J. Hupfer - Senior Vice President and Chief Financial Officer

Okay, thank you, Roger. Let me start with the income statement as reported under US GAAP. We reported fourth quarter sales of 1.601 billion and that's up 7.1% from 2006. EPS was $0.54 and that's up $0.15 from last year's $0.39.

Both years include restructuring charges and we reported an additional environmental charge in this year's fourth quarter. So, as usual, what I'll do is adjust that restructuring and other one-time type of items to arrive at what we call base earnings, which should represent a fair year-over-year comparison.

So, starting with the fourth quarter of '07, we took an impairment... asset impairment/restructuring charge of $8.7 million after tax, or that was actually pre-tax. After tax it was $6.1 million or $0.06 a share. About half of the pre-tax charge relates to our 2006 plan, which was mostly international in nature. This charge relates primarily to two plant closings in Canada plus incremental plant closing costs at our Marquette, France paper mill. Roughly the other one half relates to the write-off of equipment at our Wausau, Wisconsin plastic bottle plant.

Also, in the fourth quarter, we took a 4.1 million incremental environmental charge related to the clean-up just outside of our De Pere, Wisconsin plant. This charge represents an estimate of cost overrun, plus some unplanned work. After tax, the charge was $2.4 million or $0.02 a share. So, base earnings, or base EPS, after adjusting for restructuring and further environmental charge is $0.62, that's, of course, $0.54, plus $0.06, plus $0.02.

In the fourth quarter of 2006, we took a $20 million restructuring charge, $17.4 million after tax or $0.17 a share. This charge related mostly to international operations and mostly the closing of our Marquette paper mill in France. So, base on our EPS after restructuring is $0.56 that of course this is $0.39 plus $0.17. So, I think a truer comparison if $0.62 versus $0.56 last year.

But as I'll discuss in just a minute a favorable tax adjustments of $0.06 in the fourth quarter of 2007 improved the overall performance in comparison. So, in fact, if you adjust out the six favorable... $0.06 favorable tax just adjust that out of the $0.62, we arrive at $0.56 per share which is slightly ahead of our guidance of $0.52 to $0.55.

In December, when we provided the guidance of $0.52 to $0.55 we didn't know about the extra $0.06 of income or reduced taxes, but we did predict that we would be in the high end of our guidance. So, the quarter played out pretty much as we expected. And again when we are making comparisons against our guidance, that's a fair comparison, and when we compare against last year, we have to bear in mind that there are six fewer days in this year's fourth quarter.

So, with those adjustments in mind, our base income statement shows sales, again, $1. 601 billion, and that's up 7.1% from last year's $989.5 million. At the EBIT line, we have $92 million... $92.0 million and that is down 1.2% from last year's $93.1 million. Interest expense is $14 million, tax is $19.8 million. Equity and earnings of affiliates and minority interest is $4.5 million, and that means net income is $62.7 million which is up 10.2% from last year's $56.9 million. The interest expense of $14 million is higher than 2006 and that's due to an increase in debt that was largely due to the acquisition through the year and the two stock buyback programs earlier in the year. And taxes of $19.8 million represent an effective tax rate of 25%, 24% and that compares with last year's 35.8%.

What happened is, late in the year, we've learned of two statutory rate changes, one in Canada and the other in Italy and this caused us to recalculate and reduce fax reserves with the offset being a reduction in tax expense of $5.7 million. Absent this adjustment, the effective tax rate would have been a more normal 33%.

Now, let's look at the segment reporting, that's a part of the press release that you should have had available to you first thing this morning. And I'll just go over a couple of key numbers. Consumer packaging sales are up 10.5% and EBIT is down, or earnings before interest and tax, operating profits are down 2.5%. The sales increase is attributed to a foreign exchange, acquisitions which would include Matrix and the Caraustar assets, and those are the items that accounted for most of the increase.

The profit declined year-over-year besides this six day element, it reflects continued weakness in our flexible business.

In terms of the Tube Core and Paper segment, we see sales up 7.4%, EBIT up 2.7%. The sales increase and the EBIT increase are both attributed to FX as well as the year-over-year improvement in Europe which we talked about in previous quarters.

Packaging services; that segment sales are up 7.5% and EBIT is down 12%. And again in terms of sales, foreign exchange, pretty good fourth quarter volume especially out of our Gillette package centers account for that sales increase. On the profit side, we were negatively affected by recent bidding activity at CorrFlex. And then in the all other category, sales were down 7% and EBIT was flat. Most of the sales shortfall was in our Baker Reels division, and that division sales into the construction industry. Our EBIT was flat with improved profitability out of our molded plastics operation.

Now, let me turn to the sales bridge and what we'll do is reconcile last year's sales $989.5 million with this year's sales of $1.601 billion, and that's a difference of $70.6 million.

Volume... and the four categories are volume, price, acquisitions and foreign exchange. Volume is a negative $70 million. Most of that is due to the six fewer days in the quarter. In aggregate, if you just look at the $70 million, that would represent a volume shortfall of about 7% and the six days would account for roughly 6%. So, we did see volume decline in the quarter over last year, but it's relatively modest and certainly not as big as it looks when you look at the absolute dollars which is a negative $70 million.

In terms of price, price is positive $26 million, acquisition is positive $69 million, and foreign exchange positive $46 million.

So, let me start with volume, and make a couple of comments. Again the starting point is $70 million. Our year-over-year volume was generally weak, except for our European operations, and our packaging services operations. In fact Europe's volume was up 2% after we adjust out the six days. Most of that was in, what we call, frontier Europe, which was up a little bit, less than 7%; and legacy Europe: Germany, France, the UK was relatively flat year-over-year.

In terms of Tube and Core volume, in the US and Canada, we were down 6% with weakness across most of the segments that we sell into. And, as I mentioned earlier, Flexible's volume was generally weak. It was down about 11% and that's despite continued good growth with the Snack n Seal product. Our overall composite can volume was flat with juice concentrate down, and snack volume up.

In terms of price, that's a positive $26 million. Most of the pricing activity is in the Tube, Core and Paper segment. Roughly one half is the past through of higher OCC costs. That's recovered paper principally. We have experienced positive pricing in Tube, Core and Paper, especially in North America and in Europe.

In terms of acquisition, $69 million positive that's largely Demolli on the Tube, Core and Paper side, and on the consumer side it would be Matrix, Clear Pack and the Caraustar assets. And then foreign exchange accounts for $46 million of positive sales, and that's obviously the weak dollar against almost all the other currencies that we do business in. Because this is all translation exposure, there is very little profit that would impact, as a result of the $46 million. We calculate that the net income effect is probably about a $1.5 million or roughly $0.015 per share.

Now going to the EBIT bridge, and here we are reconciling last year's EBIT of $93.1 million with this year's $92 million. So that's negative $1.1 million.

Volume and mix, that category accounts for negative $23 million; price cost, a negative $6 million; productivity, a positive $14 million; and then the other category, a positive $14 million.

So, let me talk about each of those four. In terms of volume, this is the lost profit on the $70 million sale shortfall that I talked about just a moment ago. Now, mix did play a role in this, because we traded some higher value-added paper sales in both the US and in Europe for some lower margin business. But primarily it was just CDF, the profit margin on the sales shortfall.

In terms of price cost, it is a negative $6 million. Here we have $32 million of cost increases that more than offset the $26 million of price increases that I talked about with sales. The biggest driver is furnished cost. That's the raw material for our peppermills, that's mostly OCC. And that's up 48% year-over-year in the US, and roughly 30% in Europe.

And then productivity is a positive $14 million, that... we generally had good productivity across all of our divisions, and that's due to continued focus on things like material substitution, scrap reduction, freight and energy utilization, but in total 14 million. And then in the other category, and other, is our catch-all category. It includes the foreign exchange that I talked about, it includes wage increases, energy increases, general inflation, and it includes the profits from the acquisitions that we've made, and that's a positive $14 million.

And here we do see the benefit of those six fewer days in terms of allocated costs. This positive number though also reflects our tightened control over discretionary spending. For example, selling and administrative cost, the way we captured on our books are 9.2% of sales and that compares with last year's 10% of sales. So, some part of that positive other is a good cost control for us.

Now, let me turn to the cash flow statement. For the quarter, operating cash flow was $187.2 million and that was $28.4 million better than last year. $34.6 million of the increase came from net working capital, which for this purpose I am narrowly defining as accounts receivable, inventory and accounts payable.

Last year, our working capital programs freed up $66 million worth of cash, in this year's fourth quarter it freed up $101 million worth of cash. And most of that improvement in the fourth quarter came from accounts receivable. And so increased net income and this improvement in working capital quarter-over-quarter is what accounts for the overall improvement in operating cash flow.

Capital expenditures were in line with last year, in fact it was $34.2 million versus $35.8 last year. And the dividend was up slightly from last year. Let me comment, for just a minute, on cash flow for the whole year. Here we see operating cash flow of $445 million versus $482.6 million last year. So, cash flow came a little bit higher than I had earlier projected. But the difference... year-over-year difference is a short fall of $37.4 million from last year. All of that difference relates to net working capital. These numbers are for the whole year, but for the whole year we freed up, in 2006, $104 million worth of working capital into cash, this year $49 million was freed up.

Last year was the first year of our very aggressive working capital program, and we saw some big gains in 2006 over 2005. While we continue to see improvement in 2007, the gains weren't as significant. In fact the gain this year was... the way we make these calculation, improvement, or better said, a reduction of 2.9 days. So, we are continuing to see improvements but not at the same rate as we saw in the first year of the program.

Capital spending for the whole year was higher $169 million... $169 million versus $123 million last year. This year we had some increased spending with things like our Columbus, Ohio bottle plant, St. Louis bottle plant, two new flexo presses.

Our projection for 2008 is that operating cash in the $420 million range and for capital spending to move back into what for us would be a more normal $130 million range. So, we are indeed looking for another good year in cash flow in 2008.

Now, let me comment on the guidance.

Our first quarter guidance is $0.50 to $0.53 per share and our annual guidance is unchanged from our New York Analyst Meeting that's $2.44 to $2.47 a share. Our first quarter last year was $0.57 a share, but I would remind you that that included $0.04 of income related to the recovery of prior year benefit costs from a third-party provider, and we talked about that in the first quarter. So a better comparison would be comparing our $0.50 to $0.53 range with last year's adjusted $0.53. So, the top end of our range is where we were at the end of last year's first quarter.

The effective tax rate last year was 34%. We've assumed a 33.5% effective tax rate in this year's first quarter. We've assumed a 32% rate for the whole year. So, we are expecting for that usual, sort of, trend in effective tax rate, for the higher effective tax rate in the first quarter.

Now compared with last year's first quarter we expect Tube, Core and Paper EBIT to be relatively flat year-over-year. We expect the consumer packaging segment to show year-over-year growth. Some of that will be coming from acquisitions like Matrix and the Caraustar container assets and some of that will be improvement in our plastics and our metal end operations.

We are... in terms of packaging services, that segment is expected to show a year-over-year shortfall in the first quarter compared with last year's first quarter and that's due principally to the recent bid activity which I've already talked about. And then the all other category is expected to be relatively flat year-over-year.

So with that in mind, if you adjust out the 5.5 million pre-tax recovery from last year's EBIT, then we show a modest year-over-year increase in this year's first quarter forecast versus last year's actual results for the first quarter at the EBIT line.

The first quarter 2008 we forecast, obviously, we've put together, as you'd expect, based on the level of activity that we've seen in the fourth quarter. And in fact the EBIT that we are forecasting for the first quarter is relatively flat with the EBIT in the fourth quarter as well.

Our estimate for the year remains $2.44 to $2.47 which represents a 10% increase at the EBIT line year-over-year, it does and I had mentioned this in New York only represent a 3% increase at the EPS line but the difference is the higher taxes in 2008 or maybe better said the less tax benefit in 2008 compared with 2007.

Now let me wrap up with just, as I usually do, mention of what our new product development was. We had new products in the fourth quarter that totaled $29.3 million that's versus $33.6 million last year. Again remember that our definition of a new product is a product that's been commercialized two years or less. So, we continue to feel very good about our new product development program. Since last year about $10 million of CorrFlex's SonoPop display have grandfathered and that accounts for the decline year-over-year.

Sonoco's new Snack n Seal product which we call SmartSeal and powdered infant formula conversions continue to make up the bulk of our new product sales. So, those are the... that's the end of my prepared remarks.

I guess, we will turn it over to the group for questions.

Question And Answer

Operator

Thank you. Ladies and gentlemen, we will now be conducting a question and answer session. [Operator Instructions] Our first question comes from Ghansham Panjabi of Wachovia Securities. Please proceed with your question.

Ghansham Panjabi - Wachovia Capital Markets

Hey guys, good afternoon.

Harris E. DeLoach, Jr. - Chairman, President, and Chief Executive Officer

Hello Ghansham, how are you?

Ghansham Panjabi - Wachovia Capital Markets

Good, thanks. Charlie, I know you give us some parameters on this, but could you break down the price volume effects by the different segments please?

Charles J. Hupfer - Senior Vice President and Chief Financial Officer

In terms of sales?

Ghansham Panjabi - Wachovia Capital Markets

Yes, in terms of sales, right.

Charles J. Hupfer - Senior Vice President and Chief Financial Officer

Yes, we are talking about for the quarter? I can generally do that. In terms of volume, the $70.4 million, and I mentioned in total, really almost all of that is coming out of tube, core and paper, and to a lesser degree consumer packaging. So probably a little... almost, well actually a little more than half of that is out of tube, core and paper. Consumer packaging would make up most of the rest of it. We did see a decline in the other category, which is where our Baker Reels business is. So it's really in those two major areas. Embedded in that $70.4 million are Packaging Services, and they did show an increase year-over-year. So three of our four categories or segment showed a decline, which of course you would expect with the 6% difference.

Ghansham Panjabi - Wachovia Capital Markets

Okay. And Harris, how does this current slowdown compare with what you saw back in 2001. Clearly, your company is much better positioned, but in terms of the various operating segments including tubes and cores and consumers, are there any sort of parallels between the two?

Harris E. DeLoach, Jr. - Chairman, President, and Chief Executive Officer

Ghansham, I think it's a little different than what we saw in 2001 in that we are seeing more pressure on the consumer side this time than I think we saw at that time. I would say this is probably more reflective to what we saw in the 1990-1991 timeframe when consumer spending saw a drop off. So the short answer is we are seeing more pressure I think on the consumer side, particularly on snacks and things of that nature.

Ghansham Panjabi - Wachovia Capital Markets

And in Europe, are you seeing any sort of sequential weakness or is it too early to tell?

Harris E. DeLoach, Jr. - Chairman, President, and Chief Executive Officer

Well, Europe continues to run as if it has all of last year, and so we don't see.

Ghansham Panjabi - Wachovia Capital Markets

Okay, great. Thank you.

Harris E. DeLoach, Jr. - Chairman, President, and Chief Executive Officer

Thank you, Ghansham.

Operator

Thank you. Our next question comes from Chris Manuel with KeyBanc Capital Markets. Please proceed with your question.

Christopher D. Manuel - KeyBanc Capital Markets

Good afternoon, gentlemen.

Harris E. DeLoach, Jr. - Chairman, President, and Chief Executive Officer

Hi Chris. How are you?

Christopher D. Manuel - KeyBanc Capital Markets

A couple of questions for you. First, to follow up on Ghansham's question about the impact of a recession. I think embedded into your guidance was no material slowdown from what you have seen. But if I remember from your Analyst Day, you had... you would assume some piece of the business... I think the all other would be down, in fact services down, but the consumer and tube and core up. So is that, I guess, consistent with what we have seen here in the fourth quarter, coming out of the fourth quarter then continuing?

Harris E. DeLoach, Jr. - Chairman, President, and Chief Executive Officer

Chris, I would say that the fourth quarter was about what we expected. There are always puts and takes. But as I look across the market segments, it was about what we expected when we saw you in New York in early December. And our outlook going into 2008 frankly hasn't changed. We saw more strength in the early part of the quarter, of the fourth quarter. The first third [ph] in the quarter then we did the remaining two-thirds. And thus, in early January, we saw some weakness, but I would say that the levels have come back to basically about where they were in October. So there really has been no change in where we were when we talk with you in December.

Christopher D. Manuel - KeyBanc Capital Markets

Okay. And I realize the business was probably quite bit different back in the 1990-1991 recession time given you've added so much more into plastics and flexibles. But if we did go into a modest consumer-led recession here in the first half of the year, do you think that... how do you think your volumes may react? In other words, some piece of the business. I could see things happening two ways. You could see consumer spending, or some of your pack services business pick up as folks want to do more special promotions, but yet the same time overall level is down. How would you... I guess my question is how would you rectify that across your whole business as to what you think could happen?

Harris E. DeLoach, Jr. - Chairman, President, and Chief Executive Officer

Chris, it's a little different company than it was in 1990-1991. Our international exposure is certainly greater than it was in 1991, particularly in Europe, which, as I said in response to Ghansham's comment, seems to be sailing along reasonably well. And that's primarily tubes and cores, and the structure there has changed dramatically in the last several years. We also have, on the consumer side, we have Phoenix Packaging, which is a metal [ph] in the business and that business's volumes are pretty good as you. As you might expect people are eating at home more, you've got that piece of it, you've got other parts of the business that... so I don't that you are going to see appreciable change in what we saw in 1991. We will see some slowdown in certain consumer segments, but I think the difference has been this time at least the last 9 or 10 months, we are seeing more of a slowdown in what I would call discretionary consumer spending. And that would be certain snacks and things of that nature. But I don't know this is going to be totally different. I think the balance of the company is... we are positioned reasonably well.

Christopher D. Manuel - KeyBanc Capital Markets

Okay, and then the last question Charlie is as you look through 2008, are there... I know there were some accounting days that got shifted around in 07. Is there any adjustment in days as we look into 08?

Charles J. Hupfer - Senior Vice President and Chief Financial Officer

No. We should have a... I hate to say just a straight forward year.

Harris E. DeLoach, Jr. - Chairman, President, and Chief Executive Officer

I think it's 365 days again.

Charles J. Hupfer - Senior Vice President and Chief Financial Officer

That's right.

Christopher D. Manuel - KeyBanc Capital Markets

I like it. Thank you.

Harris E. DeLoach, Jr. - Chairman, President, and Chief Executive Officer

Thank you, Chris. It's leap year, excuse me, 366.

Operator

Thank you. Our next question comes from Claudia Hueston with J.P. Morgan. Please proceed with your question.

Claudia Shank Hueston - J.P. Morgan

Hi. Thanks very much.

Harris E. DeLoach, Jr. - Chairman, President, and Chief Executive Officer

Hi Claudia.

Claudia Shank Hueston - J.P. Morgan

Just a couple of questions. One on the Packaging Services side of the business, the margins obviously came down a little bit and you've guided for lower profitability in 08 I guess because of the pricing pressure. Is this the kind of operating margin we should expect in the near term or do you expect sort of more downward pressure on those margins?

Harris E. DeLoach, Jr. - Chairman, President, and Chief Executive Officer

I don't know that we'll see more downward pressure on those margins. I think these are the kind of margins that you should expect are either... actually improving, I would say. What Charlie was talking about obviously was the effects of the mega bid which we talked about I guess in the July and October timeframe. And we have seen some impact in the last half of this year as to that. And what you're seeing is the full year impact of that growing into our numbers for next year that is based on the guidance that we've given.

Claudia Shank Hueston - J.P. Morgan

Okay, great. Thanks, that's helpful. And then just on the Consumer Packaging side, the margin was down year-over-year but obviously up from sort of the second and third quarter, 6.5% kind of level. Is that sort of a reflection of some of the recoup of the margin you lost due to the operating problems and sort of where do things stand on the operating side of things in that --

Harris E. DeLoach, Jr. - Chairman, President, and Chief Executive Officer

Well, most of that... well, there are two things in that. There was some startups and some plastic operations last year that obviously impacted those. And those... that plan is clearly behind us at this point of time. It was our Wisconsin plant because we moved those assets into the Phoenix plant in I guess Jefferson City, Missouri, if I recall correctly. And the other is the flexibles piece which did have operating issues last year that we've all talked about. We have seen operating improvement in flexibles, it continues to improve. They have clearly been impacted, particularly in Canada with lower volumes in currency, but operationally, I'm very comfortable saying that the operations in fact have improved.

Claudia Shank Hueston - J.P. Morgan

Okay. And then just finally, in terms of your debt, can you just remind me how much is fixed and how much is floating?

Charles J. Hupfer - Senior Vice President and Chief Financial Officer

We have actually in the balance sheet, it will be almost all categorized as fixed rate debt. But we do finance ourselves with commercial paper. At the end of the quarter, there was about $170 million worth of commercial paper that's called long-term debt. And then we probably have another $50 million or so. So something... I'd be inclined to think and I don't have that breakdown. I do have the total debt. The total debt was up just a little bit from last year. Total debt $850 million, up $86 million. I didn't make a point on the call, but with that increase, we had something like $236 million worth of acquisitions and something like $109 million worth of stock buyback. So cash flow was very solid and paid down debt... the debt was $850 million and our debt to total capital at the end of last year was 37.5%... yes, 37.5%, and at the end of this December 31st, it was 35.6. So we've paid down some debt, we've brought debt to total capital down a couple of more percentage points. I'd guess that in the $850 million, probably about $200 million is the commercial paper and short-term debt.

Claudia Shank Hueston - J.P. Morgan

Okay. Thanks very much.

Operator

Thank you. Our next question comes from George Staphos with Bank of America Securities. Please proceed with your question.

Michael S. Pak - Bank of America Securities

Good afternoon. This is Michael Pak for George who is traveling.

Harris E. DeLoach, Jr. - Chairman, President, and Chief Executive Officer

Hello Michael, how are you?

Michael S. Pak - Bank of America Securities

Doing well, thanks. Harris, first question, given sort of customer comments and discussion, does the company see any encouraging signs at the retail level of trends improving or flattening out?

Harris E. DeLoach, Jr. - Chairman, President, and Chief Executive Officer

Michael, I would have to say the conversations that I have had in the recent weeks, and I am talking about the last two or three weeks would indicate that they are expecting, at least for our foreseeable future, which I will say the next quarter, volumes staying at pretty much current levels.

Michael S. Pak - Bank of America Securities

Okay. So that would be... that wouldn't slide down?

Harris E. DeLoach, Jr. - Chairman, President, and Chief Executive Officer

No, not necessarily. By current levels, I'm talking about what they are seeing right now, which is, as I said earlier, consistent to what we saw at the beginning of the fourth quarter. Now clearly, if you were to look back a year ago, they are down from where they were a year ago. So I guess it's your [ph] frame of reference that I'm talking about.

Michael S. Pak - Bank of America Securities

Okay. I appreciate that clarification. My other question is on the consumer flex side, given the sluggish margin trends we've been seeing in the segment, would it be fair to assume that Sonoco would be focused on the operating or the... on the margin per se versus doing another expansionary acquisition? Can you sort of help us think through the strategy on the consumer side?

Harris E. DeLoach, Jr. - Chairman, President, and Chief Executive Officer

I think... you talked about flexibles a second, and I was going to say your assumption about flexibles is great, because the focus is clearly on the operating side and margin expansion there. If you talk about the whole consumer sector, our productivity efforts, Michael, are always driven at improving our margins towards our goal of getting to that 11% that we talked about the operating level in December. But we have significant growth opportunities on the consumer side as well as we look at the Matrix operations, we look at conversions of composite cans, powdered infant formula and other opportunities that are coming along as a result of increase in steel prices. So yes, we are always looking at the operating side, always trying to improve margins across that. It is particularly particular in flexibles, but there is a lot of emphasis on growth as well.

Michael S. Pak - Bank of America Securities

Okay. And then just speaking in terms of specifically on the flexible business, you had mentioned the currency effect in Canada. Could you sort of give us a degree of magnitude in terms of this quarter what the impact, the negative impact on profit was versus volume versus this FX versus other issues that we should be thinking about?

Harris E. DeLoach, Jr. - Chairman, President, and Chief Executive Officer

I really can't, because the impact of currency hits us in two ways, and obviously it's a translation effect. But we had a lot of customers that... in Canada that frankly were moving manufacturing into the U.S. and also taking product shipped into the U.S. Now when we are shipping into the U.S., we've got the currency effect, but we also have the effect of just sales being much slower in Canada as well.

Charles J. Hupfer - Senior Vice President and Chief Financial Officer

Yes, one of the things that we are able to do, and part of the reason I certainly can't help answer that question, we can capture the translation effect. And as I said, that has a modest impact on the bottom line. Whenever the flexibles makes a sales out of the Canadian plant denominated in U.S dollars, we hedge that transaction, so we have no exposure there. So the real issue is the thing that you can't count; it's the macroeconomic effect. It's the sales which we didn't make, and so I don't know how to answer that part of the question.

Michael S. Pak - Bank of America Securities

Okay. Okay. No, that's fine. I appreciate the color there. Just one last question, if I may. On the price cost, could you help us understand in terms of the negative $6 million, is that more on the consumer side, or... and also in thinking about your '08 guidance, price cost, is it fair to say giving the timing of your price increases that price cost would progressively improve as the year... as we move forward in the year?

Harris E. DeLoach, Jr. - Chairman, President, and Chief Executive Officer

Michael, I would say... you can always pick and chose where you want to talk about price cost. But if I looked at the $6 million and I looked at the run up of OCC last year, the dramatic run up of that and how aggressive we were on price recovery in that piece, I would have to say some of that was on the industrial side, if not all of that on the industrial side. You can also look at the core flex side and say that was price concessions that was given in the mega hid. So to pinpoint that it came from one side or the other would be really very difficult to do, because we had price pressures on both sides, we have the recovery on both sides. So I'm not hedging the answer, but I don't really know.

When I look out into '08, we obviously have some price increases in the market today. They were effective June the 1st... I mean February the 1st and the feedback I am getting is it's going reasonably well. OCC is the real unknown at this point. OCC is at $115 a ton. Normally, in this sort of environment, arguably, low economic times, maybe a recession, you would expect OCC to be considerably lower than that. It's being driven by obviously Asian demand and also I believe by export line aboard out of this country and pretty high running rates. To the extent that both of those things continue, I would expect to see OCC where it is, or even higher to the extent that either of those things obviously modified, then you've got the other effect.

So I think what we said in our guidance was we were baking the guidance... baked into the guidance was neutral price costs for the year. And obviously that's what is still in the guidance. And as we see raw materials increase, we will be aggressive with price recovery as we normally are.

Michael S. Pak - Bank of America Securities

Thank you very much. Good luck in the quarter.

Harris E. DeLoach, Jr. - Chairman, President, and Chief Executive Officer

Thank you, Mike. Thank you.

Operator

Thank you. [Operator Instructions]. We have a follow-up question from Chris Manuel with KeyBanc Capital Markets. Please proceed with your question.

Christopher D. Manuel - KeyBanc Capital Markets

Good afternoon again. Just one quick follow up. As you look through 2008, Charlie, you laid out the scenario where you are going to have just a shade under 300 or so million of free cash flow. With the balance sheet in very solid shape, should we anticipate a continued need of share repurchases throughout the year or what's your primary focus for the cash?

Charles J. Hupfer - Senior Vice President and Chief Financial Officer

Chris, I would expect most of that is going to be used to grow the business. My experience when you see the kind of economic environment we are operating in, growth opportunities present themselves in our markets around the world and we will be aggressive to take advantage of those. As always, that's our first priority on free cash after paying dividends and obviously handing our own CapEx. To the extent that those might not materialize, we have shown a willingness in the past to certainly buy back stock, and we would consider that. The first priority is going to be on... to aggressively try to grow the business.

Christopher D. Manuel - KeyBanc Capital Markets

Okay thank you.

Harris E. DeLoach, Jr. - Chairman, President, and Chief Executive Officer

Thank you, Chris.

Operator

Thank you. Our next question comes from Dan Kohaspia [ph] with KFA Capital Advisors. Please proceed with your question.

Unidentified Analyst

It's Kashaba [ph]. Good afternoon guys.

Harris E. DeLoach, Jr. - Chairman, President, and Chief Executive Officer

Hello Dan, how are you?

Unidentified Analyst

How are you guys doing?

Harris E. DeLoach, Jr. - Chairman, President, and Chief Executive Officer

We are doing great.

Unidentified Analyst

Good, good. Good to hear you guys today. Harris, did you say that your longer term goal for the consumer business was 11% margin?

Harris E. DeLoach, Jr. - Chairman, President, and Chief Executive Officer

What we have seen, the answer is actually yes.

Unidentified Analyst

Okay.

Charles J. Hupfer - Senior Vice President and Chief Financial Officer

34% Dan was that recovery EBIT margins that we laid out in December was to the company's EBIT margin to be 11%. I want to get the consumer back to 10 well before I do that.

Unidentified Analyst

Sure, yes. Okay, so you want to get the consumer margins to 10 then you ended the year about 7 or 9, I believe.

Charles J. Hupfer - Senior Vice President and Chief Financial Officer

That's correct.

Unidentified Analyst

Now Harris, whattimeframe do you, is this goal, is it couple of years or when do you think you can achieve this 10% I mean what's your goal?

Harris E. DeLoach, Jr. - Chairman, President, and Chief Executive Officer

Wellwhat we have said is that wasn't our five year plan. Our consumer group was safe to hear there is a little more pressure on them, and then we will get there soon in that level.

Unidentified Analyst

Okay. Do you think that, you guys are very good at productivity, you make a lot of gains there, but I think you'd probably agree, productivity by itself might not be enough to get the margins to that kind of double-digit range? My guess is anyways, in consumers, it probably takes the mix as well. How do you think about, how you get to that higher level of margin here as in that business, is there going to a combination of mix and if it is what segment do you have to see grow and is there a restructuring component to it as well?

Harris E. DeLoach, Jr. - Chairman, President, and Chief Executive Officer

Dan, that's a wonderful question. Clearly productivity will take you so far, some looking at structural changes in the business, of our structural changes, I mean trying to better utilize the footprint that we have around the world, putting some different businesses and some other plans but the mix is going to be critical to it. Some of our product lines enjoyed better margins than others.

Unidentified Analyst

Right.

Harris E. DeLoach, Jr. - Chairman, President, and Chief Executive Officer

And you know as well as I do where they are. And so we will emphasize the growth on those and try to improve the margins on the ones that need to in fact come up.

Unidentified Analyst

Okay. Okay, well great. Thank you.

Harris E. DeLoach, Jr. - Chairman, President, and Chief Executive Officer

Thank you, Dan.

Operator

[Operator Instructions] Mr. Schrum, we have no further questions in the queue at this time.

Roger Schrum - Vice President, Investor Relations

Thank you, Manny, I appreciate that. Let me again thank all of you for joining us today. We certainly appreciate your interest in Sonoco and look forward to talking with you in the near future. Thanks again.

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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Source: Sonoco Products Co. Q4 2007 Earnings Call Transcript
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