Eastman Chemical Management Discusses Q3 2012 Results - Earnings Call Transcript

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Eastman Chemical (NYSE:EMN)

Q3 2012 Earnings Call

October 26, 2012 8:00 am ET

Executives

Gregory A. Riddle - Director of Investor Relations

James P. Rogers - Chairman and Chief Executive Officer

Curtis E. Espeland - Chief Financial Officer and Senior Vice President

Analysts

David L. Begleiter - Deutsche Bank AG, Research Division

Vincent Andrews - Morgan Stanley, Research Division

Frank J. Mitsch - Wells Fargo Securities, LLC, Research Division

Edlain S. Rodriguez - Lazard Capital Markets LLC, Research Division

Laurence Alexander - Jefferies & Company, Inc., Research Division

P.J. Juvekar - Citigroup Inc, Research Division

Robert Koort - Goldman Sachs Group Inc., Research Division

Jeffrey J. Zekauskas - JP Morgan Chase & Co, Research Division

Nils-Bertil Wallin - Credit Agricole Securities (NYSE:USA) Inc., Research Division

Lee Bressler

Duffy Fischer - Barclays Capital, Research Division

Kevin W. McCarthy - BofA Merrill Lynch, Research Division

William Young

Operator

Good day, everyone, and welcome to the Eastman Chemical Company Third Quarter 2012 Earnings Conference Call. Today's conference is being recorded. This call is being broadcast live on Eastman's website, www.eastman.com.

We will now turn the call over to Mr. Greg Riddle of Eastman Chemical Company Investor Relations. Please go ahead, sir.

Gregory A. Riddle

Okay, thank you, Mara. And good morning, everyone, and thanks for joining us. On the call with me today are Jim Rogers, Chairman and CEO; Curt Espeland, Senior Vice President and Chief Financial Officer; and Josh Morgan, Manager, Investor Relations.

Before we begin, I'll cover 4 items. First, during this presentation, you will hear certain forward-looking statements concerning our plans and expectations. Actual results could differ materially. Certain factors related to future expectations are or will be detailed in the company's third quarter 2012 financial results news release and in our filings with the Securities and Exchange Commission, including the Form 10-K filed for full year 2011 and the Form 10-Q to be filed for third quarter 2012.

Second, earnings per share and operating earnings referenced in this presentation exclude Solutia acquisition financing, transaction, integration and inventory costs and charges, as well as asset impairments and restructuring charges net. A reconciliation to the most directly comparable GAAP financial measures and other associated disclosures, including a description of the Solutia acquisition transaction, financing, integration and inventory costs and charges and the asset impairment restructuring charges net, are available in our third quarter financial results news release and the tables accompanying the release available in the Investors section of our website, eastman.com.

Third, this presentation includes sales revenue and operating earnings on a pro forma combined basis, assuming the acquisition of Solutia have been completed prior to third quarter 2011, that compares post-acquisition results to pre-acquisition pro forma combined results. For more information on pro forma combined results, see the Solutia acquisition section in our third quarter financial results news release.

Also, on October 15, we furnished to the SEC a Form 8-K with pro forma combined historical financial information for our new segments. In the said 8-K, you will find sales revenue, operating earnings and depreciation and amortization for 2009 through the first half of 2012 for our new segments.

And lastly, we have posted the slides that accompany our remarks this morning on our website in the presentation and events section.

With that, I'll turn the call over to Jim.

James P. Rogers

Thanks, Greg. And good morning, everyone. I'll start on Slide 3.

As is my normal practice, I will start by holding us accountable for our key outlook statements. As you're aware, we were able to close the Solutia acquisition on July 2, meeting the midyear commitment we made to you back in January when the deal was announced. Let me reiterate how excited we are to have Solutia as part of the Eastman and how confident we are in the value this transaction will create both in the near and long term. We will go into greater detail during our upcoming Investor Day, highlighting why these businesses are so attractive and fit so well with our strategy. In his section, Curt will also give a brief update on how the integration is progressing as well as provide a summary of the transaction from the standpoint of the opening balance sheet.

Next, back in July, we indicated our expectation was for full year 2012 EPS to be approximately $5.30, and we slightly raised that expectation and I'll talk more about that in a moment. And lastly, we indicated we expected to generate $1 billion of free cash in 2012 and 2013 combined. Again, we are on track to deliver on this commitment.

While I don't want to give too much away out of the great story we will share with you on November 5, what I will say today is that, given all of the portfolio work we have done over the last several years, including the Solutia acquisition, we now have a portfolio of businesses that we expect to produce solid, consistent earnings growth and cash generation for years to come.

On Slide 4, I'll hit the Eastman corporate results. You can see, sales revenue on a pro forma basis declined slightly as lower selling prices primarily due to lower raws and energy costs were partially offset by higher sales volume in most segments. Pro forma combined operating earnings increased due to lower raw material and energy costs and higher sales volume, partially offset by the lower selling prices.

Third quarter EPS was $1.57, which is a record for our company, demonstrating the strength and diversity of our businesses during a challenging economic environment. I will also point out that we had a lower-than-expected tax rate during the quarter, which Curt will discuss in his section.

Moving next to Slide 5. And as this is the first time we presented results under the new structure. In each of the segment sections, I will take a moment to remind you the major components of each business. Of course, we will give you a much more thorough overview in 10 days, during our Investor Day.

Beginning with Additives & Functional Products. This segment consists of the rubber materials product lines from Solutia's former Technical Specialties segment and the specialty polymers and solvents product lines of the Eastman's former CASPI segment.

Sales revenue for Additives & Functional Products was relatively stable, down 1%, as higher volume in solvents were offset by lower selling prices due to lower raw material and energy cost, particularly for propane. Operating earnings were up substantially as higher volume and lower raw material and energy costs more than offset those lower selling prices. We expect the Additives & Functional Products segment to deliver strong results in Q4, albeit with a typical seasonal decline in volume.

Next on Slide 6. The Adhesives & Plasticizers segment consists of the adhesives product lines formerly in the CASPI segment and the plasticizer product lines formerly in the PCI segment.

Sales revenue was unchanged, with offsetting factors. Volume increased as we continue to realize the benefits of customer substitution from phthalate plasticizers to Eastman's broad portfolio of non-phthalate plasticizers, largely offsetting the increased volume with lower selling prices in response to lower raw material and energy costs. Operating earnings increased as higher sales volume and lower raw material and energy costs more than offset those negative lower pricing -- lower prices. We expect the Adhesives & Plasticizers segment results to decline somewhat in the fourth quarter due to normal seasonality.

On Slide 7 is the Advanced Materials segment. This consists of Eastman's former Specialty Plastics segment and Solutia's former Performance Films and Advanced Interlayers segments.

Sales revenue was unchanged as higher volume was offset by the negative impact of a stronger U.S. dollar and lower selling prices. Operating earnings declined primarily due to lower sales volume in the Advanced Interlayers product lines due to the weakness in Europe and the negative impact of lower capacity utilization. In the fourth quarter, we expect Advanced Materials earnings to decline due to normal seasonality and decline in demand, particularly in Europe and Asia and our efforts to reduce our inventories.

Specialty Fluids and Intermediates is on Slide 8. This segment consists of the specialty fluids product lines from Solutia's former Technical Specialties segment and the oxo and acetyl intermediates product lines from the PCI segment.

Sales revenue declined 10% as lower selling prices were partially offset by higher sales volume. And the lower selling prices were primarily in our olefin derivative product lines and in response to lower raw material and energy costs. For example, propane and ethane prices declined by 1/3 or more in the third quarter 2012 compared with third quarter 2011. As with Additives & Functional Products and Adhesives & Plasticizers, the Specialty Fluids and Intermediates segment receives about 1/3 of our propylene spread benefit and the majority of our ethylene spread benefit.

Operating earnings increased substantially as lower raw material and energy costs and the benefit of our favorable olefins position more than offset lower selling prices. Fourth quarter operating earnings for the Specialty Fluids and Intermediates are expected to reflect continued solid volume but also a seasonally higher propane cost.

On Slide 9 is Fibers. And as you might expect, we did not change this segment. Fibers sales revenue increased due to higher selling prices in response to higher raw material and energy costs, particularly for wood pulp. Operating earnings were flat as higher selling prices were largely offset by higher raw material and energy costs. Fourth quarter earnings for Fibers are expected to continue to be strong.

And finally on Slide 10. As we enter the seasonally slower fourth quarter, the global economic outlook continues to remain challenging. Our view is that Europe will remain stable at a recessionary level. In Asia Pacific, particularly in China, growth has slowed, but we are not seeing any signs of further weakening. And we expect the U.S. to remain solid as it has all year.

We are expecting higher raw material and energy costs towards the end of the year. For example, we expect propane prices to increase as we move into winter as propane is used for heating, particularly in the Northeast. We have extended the shutdown of one of our crackers in Longview, Texas, by approximately 3 weeks to the middle of November, due to a need for additional maintenance on unit equipment, and this is expected to have a slight negative impact on results in the quarter. And given our outlook for a stable economy, we expect our businesses will remain strong, as they have throughout 2012.

As a result, we are slightly increasing our 2012 earnings per share expectations to a range of $5.30 to $5.40. And this would be more than 10% over our 2011 EPS and would be the third year in a row of double-digit earnings growth for Eastman. I expect that trend will continue going into 2013 and look forward to sharing more with you during our Investor Day on November 5.

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

Curtis E. Espeland

Thanks, Jim, and good morning, everyone. I'll begin on Slide 12 by reviewing our solid cash performance in the third quarter.

Operating cash was $353 million driven by solid net earnings. Free cash flow for the quarter was strong at $197 million. Capital expenditures were $120 million during the quarter. For the year, we are reducing our expectations for capital expenditures to approximately $450 million. And of course, during the quarter, we paid our dividend of $36 million. This continued solid performance keeps us on track to meet our commitment of generating over $1 billion of free cash flow in 2012 and 2013 combined.

Next on Slide 13 are some detail on our tax rate for the quarter. It came in below the 34% we projected, primarily due to 2 factors. First, we settled income tax audits both in the U.S. and outside the U.S. during the quarter. These resulted in approximately $8 million of benefit. In addition, we benefited from the reversal of tax reserves due to the expiration of relevant statute of limitations, and this was about a $5 million benefit in the quarter. These factors won't recur in the fourth quarter, and as a result, we are expecting our fourth quarter rate to be approximately 34%. For the year, we expect our tax rate will be approximately 33%. And for 2013, you should expect that the rate will be lower, and I'll give you more details on that during our Investor Day discussions.

On Slide 14 is an update on the Solutia integration. We made good progress since the deal was closed on July 2. We have completed our opening balance sheet and much of that is now reflected in our results. Our new segment structure is now in place and work has been underway since the deal closed to implement the structure. And I must say, our newly aligned businesses have been operating very effectively, as demonstrated in our results in the third quarter. As Jim mentioned earlier, we will cover each segment and their respective strategies when we hold our Investor Day.

One of our most important priorities is to continue to retain key talent from this acquisition, and we've been successful to date. The feedback from our new employees have been very positive, and their professionalism continues to be outstanding. We also continue to make good progress with our functional consolidation of areas, including finance, HR, IT and supply chain, et cetera.

The bottom line: We have made great progress on the integration and we remain very confident we will achieve the synergies that we've discussed with you in the past.

I'll end on Slide 15 with one last reminder that we are hosting an Investor Day on Monday, November 5. We're again holding the event at the Midtown Sentry Center at -- in New York at Third Avenue and 48th Streets. We will begin with lunch at noon and expect to conclude around 4:30. Through the day, we will share with you our vision and our growth plans, showcase the depths of our product lines and our product innovations and give you a chance to interact with the senior leaders of Eastman. I look forward to seeing you there.

And with that, Greg, I'll turn it back over to you.

Gregory A. Riddle

Okay, thanks. Mara, this concludes our prepared remarks, and we are ready for questions.

Question-and-Answer Session

Operator

[Operator Instructions] We go first to David Begleiter with Deutsche Bank.

David L. Begleiter - Deutsche Bank AG, Research Division

Jim, some talk about the MLP structures for olefin assets. Can you talk about your thinking about dropping down some of your olefin assets into an MLP structure?

James P. Rogers

Yes, we actually noticed that, so thanks for bringing it up. It gives me a chance to talk about what we've been able to do in Texas. Then I'm going to turn it over to Curt to get specific on MLPs. But just a quick review: I'm fairly proud of our track record on our crackers and what we've done. We got a jump on that, restarting crackers, when we saw how the world was changing and we've been benefiting from that for a while. And then we got a really good contract with Enterprise, which takes care of our internal needs and gets us as producer economics. So that got us up to the point where we've taken care of ourself and then we could look and say, "Is there further value we can create?" And judging by inbound calls that mainly Curt has to take, my sense is the world thinks there is more value we can create there. And so then the IRS came out with this letter -- and let me flip it over to Curt.

Curtis E. Espeland

Yes. David, so we're aware of the July 2 ruling letter. Like many in the industry, we're still evaluating what this might mean for Eastman as a source of value creation. It's a little harder to think it through completely with our existing operating assets given the integrated nature of our plants, but we're still doing that. It clearly becomes an additional factor to consider with our nonoperating assets like the idle cracker that we have sitting in Longview, Texas, or even the potential future investment in the olefin converting unit that we've discussed previously. And as Jim mentioned, it's fair to say we've had a variety of interest expressed by others in these options even before that ruling came out. But it's really too early to exactly determine what the best way to create value here. I have a lot of confidence in the business team that manages these assets. And Eastman will be judicious in our evaluation.

David L. Begleiter - Deutsche Bank AG, Research Division

That's very helpful. And just on the operating businesses, Jim, Curt, can you talk about how Crystex performed in the quarter?

James P. Rogers

Yes. I think it was fine. I mean -- let me put that in context for you, though. In other words, it was similar to year-over-year and similar to last quarter. And if you think about the marketplace they're in -- in fact, not just Crystex, a number of our product lines, and not just Solutia either, guys -- our heritage businesses. I mean, it is a tough world out there. Europe is definitely in recession. I mean, I guess there's pockets of strength, like Germany, but definitely a recession in Europe. Asia softened up quite a bit during the year. Even North America, as much as we say it looks good on a relative basis, it's really nothing to brag about traditionally when I look back at past years and how strong we have run in the past. So Crystex, Saflex, our own polymers. I mean I think they're doing well in what looks like very down markets. And I guess the proof's in the pudding: with everything we got going on, macroeconomics, doing a big integration of a large acquisition like Solutia and we still post record earnings. I'm very proud of the guys.

David L. Begleiter - Deutsche Bank AG, Research Division

I just last, Jim. Can you quantify the impact of the extended cracker downtime and the inventory reduction in Advanced Materials in Q4?

James P. Rogers

Yes. And I'm glad you raised that. I mean, I've put it in my comments because I read some of the early reports from you guys and you're all kind of scratching your head, "What about the fourth quarter?" It sounds like you're actually taking us down. And so we got bit. It's not huge. It'll be, I would guess, less than $0.10; of course, we're not back up and running that either, so -- but it's not, like I say, a big number, but it's enough to take a little of the bloom off the rose or whatever. So again, I think back and I say yes. But at the start of the year, if you told me which way the macroeconomic world was going to go and that you would end up with some -- a cracker issue at the end of the year and you'd still be able to add to your forecast and what you said you would do versus having to come down like some of the other folks have had to do, I feel pretty good about the strength of our businesses. But yes, it's going to bite us for probably less than $0.10.

Operator

For our next question, we go to Morgan Stanley for a question from Vincent Andrews.

Vincent Andrews - Morgan Stanley, Research Division

Could you give us your view on propane? Obviously, you expected it, like most people would, to go up because of the winter, but there's a -- pieces out there that it's actually going to move meaningfully higher regardless of the winter. So what are your thoughts?

James P. Rogers

Yes, I guess we're not in the latter camp, at least not yet, so we're still just thinking seasonally on propane. Obviously, it came off quite a bit year-over-year. And again, just for everybody on the call who may not be as deep into this because it's not that big a part of our business anymore, but we're really interested in that spread over the propane, ethane through our derivative products. And we tried to factor in all the movements we can see when we gave you that fourth quarter guidance, that there might be a little squeeze on that spread in the fourth quarter and that's why we shook out where we are. We'll talk more about next year, but I can just tell you I don't see it hurting us next year, let's put it that way. I think we'll continue with the kind of strength we had in that spread this year into next year.

Vincent Andrews - Morgan Stanley, Research Division

Okay. And then secondly, could you talk a little bit about Saflex? I know it's an annual contracting business. And obviously, European autos have been weak this year, so how do you feel about volume and price in that business going into next year?

James P. Rogers

Yes, it probably just a little too early to talk about it. Actually, we have Mark Costa in Europe right now chatting with a few of those customers, getting to know them a little better, talking about relationships, longer-term game plans, which is the way we like to work with our customers. We're obviously a major key supplier with a very strong product line. I think there was some ground loss last year by the Solutia team as they looked at trade-offs between Europe and Asia. We're going to try and be smarter about that this year. But I won't be able to give you any more color. Probably even on Investor Day, it will be hard to give more color on that unless Mark's got something he can share with us coming back from Europe.

Operator

And our next question will come from Frank Mitsch with Wells Fargo Securities.

Frank J. Mitsch - Wells Fargo Securities, LLC, Research Division

Can you talk -- I mean, obviously great results, but can you talk a little bit about your volumes by geography in the third quarter and what your expectations are?

James P. Rogers

Yes, I guess. I'm doing this from memory, and the guys will help me out because I told Greg ahead of time, if I got a regional question, he was the man because he's got this stuff nailed. But I know volumes are up in Asia and that was probably -- attribute that to our Fibers business. Latin -- and well, I shouldn't go to Latin America. Let me turn it over to Greg rather than me trying to do it. Greg?

Gregory A. Riddle

Yes. So in Asia, certainly we had a good quarter. I'd say that was probably driven by the Fibers acetate tow. We also had a good quarter in Specialty Plastics in Asia, maybe a little bit down in Specialty Fluids and Intermediates. If you think about North America, North America was down but that was -- on the revenue side, it was down, but that was more of a pricing story. Volumes were kind of flattish, maybe up a little bit in North America. And then as you would have expected, we did see some down volumes in Europe given the economic situation there.

Frank J. Mitsch - Wells Fargo Securities, LLC, Research Division

And you would anticipate those trends to play out in 4Q? Are the bottoming or...

James P. Rogers

I think the -- one of the bigger trends in 4Q is just going to be the seasonal impact on us, Frank. I've been here long enough to learn that that's not to be underestimated. So I guess most of the business typically come off in the fourth quarter. And I guess, as I listen to other companies talk, we really don't have much different to say about the regions of the world and what we see on the end market demand and others. I just -- I appreciate the fact that our portfolio of businesses is diverse enough across customers, markets, geographies, et cetera, that when something seems to be weak, like European autos, we got enough other places to pick up the slack and continue growing the earnings.

Frank J. Mitsch - Wells Fargo Securities, LLC, Research Division

You mentioned in the Adhesives & Plasticizers segment that pricing followed raws down. Can you talk about the ability or inability to hang onto pricing in that segment?

James P. Rogers

It's similar to a number of segments that it's -- in many areas, it's a spread game. There's -- in adhesives in particular, when the market is being quite tight, you haven been able to hold onto spread, and you've seen spreads increase, not just for us but competitors as well in the adhesives market and strong demand for those hydrogenated hydrocarbon resins that go into diapers, et cetera. And so that has been a good business, not only for us but for our customers, typically. Plasticizers, I would say, just my experience is a little more transparency there, and so you're a little more likely for pricing to move with the raws. But I would say, overall, again, it's a spread game, and that's what we play.

Operator

We now go to Edlain Rodriguez with Lazard Capital.

Edlain S. Rodriguez - Lazard Capital Markets LLC, Research Division

Jim, just a quick follow-up on the pricing issue. So for the fourth quarter, as we expect prices to move -- I mean, raw materials to go up, like propane, do you expect to see prices for many of those products moving up as well? Or is there a lag in when you're able to do that?

James P. Rogers

Yes, it's a little bit of a lag. So that's -- I think I shot a quick comment in there earlier that there'll probably be a little squeeze in the fourth quarter. You know what I mean? We had a little benefit in the third so you probably get squeezed in the fourth. I try not to worry too much about it quarter to quarter and that's why I stepped back and said this was a very good year for that spread. In particular, the ethylene spread was very good this year. And next year, I don't -- it may come in different parts, different quarters, but next year, I would guess the spread will continue to be a real strength for Eastman.

Edlain S. Rodriguez - Lazard Capital Markets LLC, Research Division

Okay. Just another question on the integration of Solutia. I mean, now that you have it under your belt, like, how comfortable are you with the synergy numbers you gave prior to the closing of the deal? And any progress on that, any update on that?

James P. Rogers

Yes. Curt's accusing me of having amnesia because, somehow, the $100 million we promised is turning into a floor and we're looking for higher numbers. But let me turn it over to Curt because he -- Curt is the lead on the integration.

Curtis E. Espeland

So let's just remind ourselves of the 3 buckets and let me just talk through it briefly. The first bucket is taxes. We feel very confident that we'll capture the tax synergies we discussed, both in the form of using the NOLs, 1/3 of which we'll use over the next 3 years, as well as implementing tax strategies that'll get us towards that 31% tax rate. On the cost synergies, we have broken those cost synergies down into 3 categories: The first about 1/3 being corporate cost that go away day one, and we've achieved those. Secondly, functional costs where we have redundancies. We've captured some of those. More require -- others that we have identified really need it as we go through implementation of systems going into the 2013 year. But if you look at the cost synergies combined, I would guess by the end of the year, of that $100 million, we're probably going to be halfway there on a run rate basis. I would also like to highlight just the business synergies. And there's really, as we talked about business synergies, they're a little longer term but I still like the opportunities that are there. They're the long-term revenue synergies we talk about, like in Advanced Materials, that'll give opportunities for those businesses to figure out how to bring better value to our customers. Secondly, I also think there's going to be an increase in scale and capabilities of manufacturing and technology. That's going to accelerate some of our product development of our gen-2 acoustic product lines, given our polymer science capabilities as well as we look to improve the reliability and cost operations, pursue debottlenecks, everything else, at these sites because Eastman's good at that. And then lastly, I also think we will continue to accelerate the development of commercial capabilities such as contracting and pricing. So when you put those all together, I feel very good about the achievement of the cost synergies and the long-term potential in this transaction.

Edlain S. Rodriguez - Lazard Capital Markets LLC, Research Division

And just quickly on cash flow. I mean, you continue to generate a very strong cash flow. Acquisitions are probably off the table for now because of Solutia. Can you remind us what the priority for cash is, going forward, again?

James P. Rogers

Yes, I'll let Curt do that in a second. But just on acquisitions: You're right in terms of where our priorities are. And let's generate the cash, let's get this thing under our belt, pay down some debt. Having said that, we have the financial strength. We have the bandwidth that, if there was something that was just exceptional, we don't have to let it go by without getting our dog in a hunt. But I mean, the odds are that the way we would set the hurdles would be so high for us to find something interesting enough that we would want to get involved with a small bolt-on, and I do mean small. I mean, it would be nothing of size. Odds are, it's going to get just the way you laid out, which is we'll generate the cash, we'll pay down the debt and then we'll look around for other ways to grow. And do you want to just comment on use of the cash?

Curtis E. Espeland

Yes. So uses of cash, our priority is, our investment-grade credit rating; we remain committed to that. So we will have a level of deleveraging as we finish up this year and as we go on towards the end of next year. And our commitment is roughly to pay down $1 billion of debt during this time frame. But as we do that and as we demonstrate progress on that, then that does allow us to look across the different buckets of capital allocation. Bolt-on strategic acquisitions Jim talked about, we have the ability to look at, even looking at share repurchases and when is it time to start thinking about that, at least to offset dilution. So we have -- we will have options to think about as we get a start to next year and make progress on our deleveraging.

Operator

And we now go to P.J. Juvekar from Citi.

[Technical Difficulty]

James P. Rogers

Hey, P.J., we're going to -- you need to get near the phone. Your line's bad.

Gregory A. Riddle

Yes, we -- P.J., we can't hear you.

Operator

We go now to Laurence Alexander with Jefferies.

Laurence Alexander - Jefferies & Company, Inc., Research Division

Just wanted to delve a little bit into the Additives & Functional Products volumes. Can you break down a little bit where you're seeing the volume growth, if there's any sort of niches within that business that are particularly strong? And then the second thing, can we clarify: When you say that you think 2013 will be up at least 10% from 2012, just to be clear on the base, is that just off of your report to EPS or off of a pro forma, including Solutia, for the first part of the year?

James P. Rogers

Yes, so let me take it in pieces. I mean, the -- quite a bit of volume strength and the strength in the solvents market right now. And I assume, not just us but you're seeing that with the competitors. I think we have a bit of advantage because we are so North American based. And so you can really see the flow-through of our spread and then kind of how we segmented our market and North America is the place to be for that. So that is a lot of the strength that you see in that area. In terms of the 10% up, I mean, basically we're saying it should have -- it's more than 10%. We're saying it should a 6% in front of it next year. And so that's our -- that's what we're shooting for.

Curtis E. Espeland

And that's something -- to get to that greater-than-6% is, basically, you're off of that 5 30-ish type of base, 5 30, 5 40 base. It gets some benefit of having Solutia full year integration benefits, but then also you're looking for growth within those businesses.

Laurence Alexander - Jefferies & Company, Inc., Research Division

Perfect. And there's isn't any real tax swing that's helping there; that's just off of the organic side, correct?

Curtis E. Espeland

There'll be some tax benefits. We'll -- as I mentioned in my comments, we'll not be at a 34%, 33% tax rate going into next year. We expect a lower tax rate. So there'll be some benefit of a lower tax rate.

Operator

And we'll go again to P.J. Juvekar.

P.J. Juvekar - Citigroup Inc, Research Division

Can you discuss demand for Solutia's Crystex product given the slowing tire demand? I guess a couple of tire companies have come out and lowered their forecast. So between the outlook going forward and then quickly, is solar a non-core business for you?

James P. Rogers

What was the last part of the question?

Curtis E. Espeland

Is solar non-core...

P.J. Juvekar - Citigroup Inc, Research Division

Is solar business -- is that a non-core business?

James P. Rogers

Yes, so on Crystex, I mentioned before that it's -- I would call it kind of steady right now with a -- at a -- let's say, a reduced level, if I can put it that way, so when I looked year-over-year and sequentially, not huge changes. That's another area we're in the middle of discussions for next year. I think, P.J., in the long run -- and this may sound a bit conceited, but I think our business guys are going to be a little smarter about that marketplace and so we're in negotiations now. I don't want to add a lot more color, but I'm bullish on that business, in particular our position and what we can do with our cost position and our scale, et cetera, long term. So that's definitely a very good business. I love the fact that we're across all the tire guys, all the regions replacement versus OEM, et cetera. I mean, we've got a good exposure there. I look at the results and think about what's going on in the tire market around the world right now, and just you can kind of salivate on what it's going to be like when there's a recovery in the transportation sector in tires. So again, we'll see if we have some more color on it, but fantastic business with long-term, good forecast for that business. On the photovoltaic business, I guess that's gotten some press from others earlier this week or last week. It would be really hard for me to say that's core for Eastman. I think that, long term, there's value there. It's hard for me to believe there isn't somebody else who would see more value or that it would be more core for than Eastman. But we haven't made any decisions on that yet, and when we do, we'll let you know. You might remember, I did have that report up to Curt so that the P&L guys did not have to spend time and be distracted by what's a fairly small business for us.

P.J. Juvekar - Citigroup Inc, Research Division

Right. And then quickly, Jim, you mentioned that you're going to take inventories down in maybe you're -- like Performance Films. Is that a fourth quarter comment? Or do you believe that you can run Solutia assets with lower inventories?

James P. Rogers

Yes. Actually, the comment was more around the Specialty Plastics business. Although -- so to be honest to you, between now and year end, I'm going to be looking at it across the whole company. I mean, by now, you guys are starting to know us. We, somewhat conservative we try and remove all the hurdles, road blocks that are hitting our targets. I very much want to have next year's number have the 6 in front of it. I want us to be able to run well next year. I think, just with all the uncertainty, financial cliff, et cetera, it's prudent not to walk into year end with excessive inventories. I think we'll be smart about it. There are some place on the raws where we actually want to build inventories because I can see what's happening pricing wise. Finish good inventories; it's usually better if you're lower, but you have to pay attention to where you're going to have turnarounds, et cetera. So we're willing to make the sacrifice on operating rates a little bit to watch our inventories, but it's not a blanket statement. What I said earlier was really pertaining more to Specialty Plastics than anything else.

Operator

We now go to Bob Koort with Goldman Sachs.

Robert Koort - Goldman Sachs Group Inc., Research Division

Jim, I was wondering if you could talk a little more, explore this fixation on olefins and spreads. And it seems a little bit odd to me, but can you tell us from the pro forma Eastman what percent of revenues might come from ethylene and propylene derivatives? And then within that subset, how many products do you have that are like polyethylene or sort of first-level derivatives where there's pretty quick pass-through versus more negotiated pricing with your customers?

James P. Rogers

Yes. Let me make a general comment, then maybe either Curt or Greg may want to hop in. It's not a big part of our business anymore. And with Solutia, it's obviously become a smaller piece. I can't ignore it. It's been a real tailwind for Eastman, so as much as I would rather talk about the longer-term things and our derivative products and where we're growing the company, et cetera, it is clearly a benefit to have crackers in Texas. And we laid out which segments share some of that benefits, some years better than others. But again, to me it's not the main driver for why you'd want to be in Eastman or what our performance has been and in terms of total shareholder performance, which goes all the way back to '09. But maybe, Curt or Greg, do you want to just size it for the guys?

Curtis E. Espeland

Yes, yes. The only other thing -- I don't know that we can -- we should size it today, but I mean we're going to have an Investor Day in just a few days, as we've mentioned, and obviously, this will be a topic that will be discussed at that day.

Robert Koort - Goldman Sachs Group Inc., Research Division

Okay. Maybe an angle around that: I think you guys mentioned some caution about propane into the winter. But if I look at the strip price today, it's basically a flat line all the way through winter right around the dollar, which is just about where propane is today. So is there enough liquidity in that market where you could derisk your fears about propane -- near-term propane pricing?

James P. Rogers

Yes. And don't think of it as a fear per se, we're just trying to tell you what we think could possibly happen. It's -- you're pretty safe going into a winter saying propane may go up. We do do some hedging. We factored in what we know about the lag in pricing in our expectations when we gave that guidance. So I'm not looking for people to get real worried about the spread near term. We're just trying to be prudent in saying, hey, that would be a logical expectation that propane can move up at the end of the year and you're -- you probably wouldn't have a chance to follow us well with your pricing. And we're are also -- we are prudent in terms of we do the hedge raws. We hedge currency, we hedge interest rates.

Robert Koort - Goldman Sachs Group Inc., Research Division

You made one comment on the tire markets, which I found kind of interesting, about needing some enthusiasm there. But I guess, if I look at the replacement markets, particularly in Asia where the car park is finally getting to the age where there will be sort of a first round of replacement -- or replacement tires outpacing OEM and volume. Can you have it down Europe but an up total Eastman because of the growth in the other markets, in those kind of end market?

James P. Rogers

I would think so. I mean, we can go back and look at it, but I would think so. I mean, remember, somehow, Europe overall is -- because we did Solutia, somehow, people think we have huge exposure...

[Technical Difficulty]

Gregory A. Riddle

And Bob, do you still got mute?

James P. Rogers

Yes, that's Bob's. Somehow people all of a sudden are more worried about Europe whatever. I mean, it's still like less than 1/4 of our sales for the company overall in Europe. It is more important for the tire market, clearly. We know the big guys are there in Europe and that's good business for us. But again, you got to think longer term around the globe. And you're absolutely right to point to Asia and, frankly, North America, South America. I mean, again, I'd take a longer-term view and I'm thinking these businesses can perform the way they are right now with the way the world is. We got some serious upside ahead of us.

Operator

And now we go to Jeff Zekauskas with JPMorgan.

Jeffrey J. Zekauskas - JP Morgan Chase & Co, Research Division

Some of your competitors in filter tow are rationalizing capacity. Are there any opportunities for volume gains in the context of that?

James P. Rogers

Well, I think, the biggest impact on volume for us in tow will be when our JV comes up in China. So you'll see some increase there. But again, take a little bit longer-term view of the fibers market, fairly steady market. You got that growth in Asia offsetting the rest of the world, basically. And I like our position, I like having an asset in Korea, I like having a JV in China. I love the cost position that we have here in Kingsport and that we can serve our European customers from what we've got in England in Workington. It's been a fairly steady market. I'd say most of the players in the industry have been quite disciplined. I don't expect any of that to change. And what's hard for you to see, I guess, when you look at the numbers is some of the numbers move around inside our business. Like this past quarter, yarn was fairly weak, as you might imagine, given what's going on in clothing retail, et cetera, and tow was quite strong, so -- but overall, I expect fairly steady shares with us, picking up a little bit because of the China JV.

Jeffrey J. Zekauskas - JP Morgan Chase & Co, Research Division

Okay. Your general working capital management was pretty terrific in the quarter. Did you drop your operating rates in the third quarter relative to the second to get your inventories all in line? Or did your operating rates really not change very much versus the second quarter?

James P. Rogers

Operating rates did come down third quarter over second quarter by a little bit. Again, it blows my mind that -- I mean, we were in the 80s, I'll say that much, or at least for both the heritage business. And as you might imagine, the Solutia business would have been lower than Eastman's level. And yet we set record earnings. And the best I've ever seen this company do, operating-rate wise, is about 92%, 93% in the quarter. And so again, I realize that there's been investments made. We're living with that kind of fixed cost, fixed burn right now, but I got the capacity to grow on a lot of areas, deliver record earnings, not fully utilizing all of my capacity across all the lines. So that part feels pretty good to me. To tie the utilization rate to inventories is probably giving us too much credit. I would say part of it had to do with just the raws coming down. And I'll let Curt comment.

Curtis E. Espeland

Actually, Jeff, I -- just to be -- to make sure we're completely transparent. So if you look at the cash flow statement on Table 5, you see inventory actually being a source of cash flow. But it -- just keep in mind purchase accounting: We rolled up inventories $75 million and turned around and sold it. So $75 million of that benefit that you're seeing is actually because of that inventory turn. If you take that $75 million off of that inventory and we actually increased inventories in the quarter.

Jeffrey J. Zekauskas - JP Morgan Chase & Co, Research Division

Okay. You're spending quite a lot on developing businesses relative to last year. Is that turning out to be a good investment or a less good investment?

James P. Rogers

Overall a good investment, but it's also a lever, Jeff. I told you before our high priority in having a 6 in front of next year's number. So we pretty much only work on things that we think have long-term value, but we can control the pace on which we work on things. So as we see the world slow down, for example, we've talked internally about -- we could slow down on our perennial wood product. We don't have to keep to spend up at the level it is. We could slide that out a little bit. Other areas, like our microfibers, I think it's going to be full speed ahead. So yes, I think we're spending the money prudently. We can gate how fast we spend that money based upon the economy and the opportunities we see. And no bones about it: We got to be disciplined. We can't fall in love with something if something's not cutting it. We got to be willing to move on. But it is good, we're trying to set up some long-term growth and you got to spend some money to do that. But I'll just say it one more time: We can control the rate at which we spend if we need to.

Jeffrey J. Zekauskas - JP Morgan Chase & Co, Research Division

Okay. And then lastly, I think Curt said that he had immediately gotten corporate costs out. And so that means there's, call it, I don't know, $65 million of costs still to come out. And it looks like you think that you're going to get, I don't know, another $15 million in the fourth quarter. If you had to look at your segments, where's the $65 million going? How do you allocate the $65 million across your segments? And how do you allocate the $15 million for the fourth quarter?

James P. Rogers

And I got a bunch of VP GMs waiting for Curt to answer this. Answer this question, and you've got to answer it before we set our targets for next year.

Curtis E. Espeland

Look, Jeff, I mean that's an art, not a science, as you well know. As I mentioned, we'll probably be at least a 50% run rate on that $100 million. So we're probably going to be, on a run rate basis around that $50 million. The corporate cost tends to get shared amongst the group, most noticeably the 2 large businesses, when Solutia Crystex and the Saflex product lines -- but again, what you're doing with that synergies you're also then leveraging the infrastructure you have at Eastman, which gets shared by all the group. But I'd say a good portion of it will be shown up in Advanced Materials and Additives & Functional Products, and the rest kind of split amongst the groups as we get more of those synergies next year on the cost.

Jeffrey J. Zekauskas - JP Morgan Chase & Co, Research Division

I --- Curt, is it -- would it be a simple benchmark just to say revenue would be -- for someone outside the company, revenue would be a good way to look at it in terms of a rough share...

Curtis E. Espeland

If you're talking about just corporate costs, revenue would be a rough shares, so it's functional...

James P. Rogers

So Curt, for modeling purposes, if they just want it by revenue: It's not bad.

Operator

Our next question comes from Nils Wallin with CLSA.

Nils-Bertil Wallin - Credit Agricole Securities (USA) Inc., Research Division

A question about your Additives & Functional Products. In the release, you mentioned some competitor manufacturing outages helped with the volume. Is this a market share gain? And as those outages come off, will you lose that volume, or do you think you may hold onto it?

James P. Rogers

Yes, I'll let Greg jump on that.

Gregory A. Riddle

Yes. So this -- it was really in the solvents product lines and that's really some capacity that was down as a result of hurricane Isaac around August, and so obviously that's back up. But that was really what we were referencing in that reference.

Nils-Bertil Wallin - Credit Agricole Securities (USA) Inc., Research Division

And then it seems like Latin America continues to show significant strength for you relative to peers. And I know, obviously, you got some filter tow -- or fiber, excuse me, going through Mexico. So is it mainly the Mexican business that's driving those results, or there's other businesses in there too that are doing well?

James P. Rogers

No. And I don't think of Fibers as being a big player for us in Latin America, really. So it's more Brazil would be the biggest, then Mexico. There's a time at which that was reversed, and now they're -- and then it was 1/3, 1/3 and 1/3 for the rest of Latin America. Now it's probably Brazil is slightly bigger. I think we have an excellent management team down there. We get -- probably a better mix of products gets sold in the Latin America. In general, probably more specialties get put down there. Greg, you want to add...

Gregory A. Riddle

We did a small acquisition down there as well.

James P. Rogers

Well, if you're just talking about growth in revenue, yes, we did do a plasticizer acquisition in Brazil. But overall, Latin America has been a good market for us. It's just not as -- I'd love for it to be a bigger percentage of our business.

Lee Bressler

Got it. And then finally, would you update us on the Tritan expansion? Is that -- are the volumes fully sold out there? And just how the plant is operating.

James P. Rogers

No, not -- I never expect it to be sold out this quickly. When you got one of those big 30,000-ton lines, it usually would take a couple of years to fill out. We got a little spoiled with the first line that it filled out so quickly. We had some favorable tailwinds with bisphenol A3, et cetera. This will be a more traditional fill-out -- in fact, maybe even a little slower just given how the economy is going. I would say, overall, the acceptance of Tritan is still quite strong. And when we get to Investors Day, you're going to see a slide that shows a bunch of brands that have bought into Tritan and it's -- you're going to love that slide.

Operator

We now take a question from Duffy Fischer with Barclays.

Duffy Fischer - Barclays Capital, Research Division

When you look ahead to 2013, can you talk about the puts and takes? So you'll have the JV coming up in tow in China. You talked about some benefit this year in the solvents from the hurricane. Can you just kind of walk through the laundry list of things that might be pluses and negatives as we look next year year-over-year that happened this year that won't happen next year?

James P. Rogers

And Duffy, I can and will and we will do it 10 days from now. So the story at the Investors Day will be much more about 2013, actually out to 2015, and we'll hit it then. I -- the guidance I'm giving today is we still expect the 6 in front of the number.

Duffy Fischer - Barclays Capital, Research Division

Okay, fair enough. And then if you look, that CapEx that you've reduced here just recently, can you walk through what are those things that you're foregoing at this point? And kind of was it just macro environments that drove those decisions?

James P. Rogers

I think what you have there is a set of business guys and manufacturing teams that are being disciplined with the economic outlook out there. So I think we're just kind of slowing the pace of some of the investments that we have out there. There's no one single project at this point that we singled out. We are taking our time to study and evaluate the Kuantan expansions in Malaysia. We're thinking through the timing of our expansion such as the Texas City. But a lot of it is just more economic and just being cautious where -- when we should spend the capital.

Operator

We now move to Kevin McCarthy with Bank of America Merrill Lynch.

Kevin W. McCarthy - BofA Merrill Lynch, Research Division

Jim, if I put the Fibers business on the side as an unchanged segment, if you will, and consider the other 4, where do you think trailing 12-month margins would compare to normalized levels? So that is to say, are there any of these 4 segments that you think are materially above or below what you would consider kind of a prospective normalized level?

James P. Rogers

Let me get Curt or Greg to help me on this. But just -- I can tell you, to start, I don't see the macroeconomic environment to be anything like what I would call a normal level. I do think we're worse than what I hoped the average economy is going to be over the next 10 years. The States, maybe not so. I mean, the States is decent. It's -- you have to start getting into the segment by segment, so to the extent we have businesses that have housing related or transportation related, you got to believe that's below normal environment and -- in my mind. And so then you will look at the individual businesses and how they're performing -- and we've given ranges for different businesses in terms of where we think their earnings will be in terms of margins, and then you can compare where we are today. But on the -- Curt, do you want to add where you see things going?.

Curtis E. Espeland

Yes. I think the -- we'll get into the margins. I think the only area that I'd just maybe point out today that is probably below its potential is Advanced Materials. There's been significant investments made in that business line. Some of their end markets are pretty soft. Those investments have been made. We're ready to get the returns off those investments; we just need a better global environment and market environment for the Advanced Materials segment. The rest of them are pretty solid, and we'll get more of that into the Investor Day.

James P. Rogers

Yes. And if you get, within the segments, I mean you can't -- to try and be balanced, solvents is clearly doing quite well right now, which is making up for the rest of that segment that is probably below some kind of average trend line. But I agree with Curt; we can get into it during our Investor Day.

Kevin W. McCarthy - BofA Merrill Lynch, Research Division

And then just wanted to come back to the subject of the capital budget. Some of your peers across the industry have made pretty wholesale changes. It sounds from your comments like you'd be making more surgical changes to it, but could you comment on what the level of maintenance CapEx would be for the combined company now, in case you did need to take a more significant change approach there?

James P. Rogers

Yes, I'll let Curt give you that. But I will say, we do like we're on a bit of a different path than some of the other companies. We did a lot of the heavy lifting over the last 3 years in terms of our portfolio. I also think that doing the Solutia acquisition gives us a clear path to how we keep growing earnings double digits. So while others may be out there kind of wondering how they're going to do it and they're not posting record quarters and they're having to kind of scramble and go at it from the cost position, we think we've always been pretty disciplined on cost. I'll just give you one example that I've wanted to squeeze in, I'm going to use your question to do it. But just on things like headcount, we use a phrase around here, "It's easier not to hire than to fire." And so when we announced the Solutia deal, we put a hiring freeze on different functions to free up spots for some of the people to help us get those synergies, et cetera. I mean, we just think a little differently. So we're in growth mode right now. You've seen that we can be disciplined. You see how we acted in '08, '09, how we can handle cash, not just on the capital line but across working capital, our expenses, et cetera. So that has not changed. We're there if the world turns south on us. And with that, Curt, what do we usually say maintenance is?

Curtis E. Espeland

Well, it's a -- heritage Eastman, we used to talk about a $200 million type of number. Heritage Solutia is probably a $50 million, maybe a little bit more type of number. So about $250 million is kind of the profile capital maintenance that we require, plus or minus 10%.

Operator

For our final question, we'll go to Bill Young with ChemSpeak.

William Young

2 quick things. Could you please bring us up-to-date on the progress you -- being made on your new additives for tires? And of course, the Solutia acquisition seems to transact pretty well. And secondly, maybe a little more transparency, if you have it, on the Performance Films area.

James P. Rogers

Yes, let me -- I'll start with Performance Films. I don't know how much more we want to say about the additive for tires other than I think tires are going to be very, very good for us. The -- I think it was already in that line, "Baseball is going to be very -- been very, very good to me." I think tire is going to be very, very good to us. And in fact, let me just hit that now: We're using our technology in a number of ways across a number of markets. Tires is a place we know from the Eastman side, from resins. Obviously, the Solutia product is very big in that marketplace as well. We're finding ways to work together with customers. We think we got something pretty good that we'll talk more about on Investor Day in terms of solving some of the problems the tire makers have and that could be quite attractive. Realize, every time you work on something like this, though, with the product life cycles and how long it takes to get into tires, et cetera, it's not a quick turn-pop. So it takes a little while to get -- to create that value. What was the second part? The...

William Young

Performance Films.

James P. Rogers

Yes, this is one I like. I got to admit, I didn't know much about it. In our part of the world, people don't put a lot of films on their cars. Asia, they do. I think it has some of the best growth prospects in the portfolio. I think it's an area where we underestimated how much Eastman can help in terms of manufacturing operational excellence type stuff, commercial processes. So this is one I like and I we would -- the guys from Solutia who work in this business already appreciate being part of Eastman in terms of the problem-solving.

William Young

Okay. You're having problems in Asia now; you emphasized that before. You said it's a big product in Asia, the Performance Films?

James P. Rogers

Yes. Yes, and I think that business is dependent upon some new auto sales levels that they come off. And that business will be impacted, but there'll be more innovations and more others we could penetrate.

Gregory A. Riddle

Okay. Thanks again, everyone, for joining us this morning. A web replay and a replay in downloadable MP3 format will be available on our website beginning approximately 11 AM this morning. And if you didn't hear, we're having an Investor Day on November 5. We look forward to seeing you there. If you have not RSVP-d, please do so.

Thanks very much.

Operator

Again, ladies and gentlemen, this concludes today's conference. We thank everyone for joining us.

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