Ladies and gentlemen, thank you for standing by. During the presentation, all participants will be in a listen-only mode. [Operator Instructions] Welcome to Avery Dennison's Earnings Conference Call for the Third Quarter Ended on September 30, 2023. This call is being recorded and will be available for replay from 5:00 PM Eastern Time today through midnight Eastern Time, October 31. To access the replay, please dial 800-633-8284 or +1-402-977-9140 for international callers. The conference ID number is 22020693. I would now like to turn the conference over to John Eble, Avery Dennison's Vice President of Finance and Investor Relations. Please go ahead, sir.

Thank you, Carlos. Please note that throughout today's discussion, we'll be making references to non-GAAP financial measures. The non-GAAP measures that we use are defined, qualified, and reconciled from GAAP on schedules A-4 to A-9 of the financial statements accompanying today's earnings release. We remind you that we'll make certain predictive statements that reflect our current views and estimates about our future performance and financial results. These forward-looking statements are made subject to the Safe Harbor statement included in today's earnings release. On the call today are Deon Stander, President and Chief Executive Officer; and Greg Lovins, Senior Vice President and Chief Financial Officer. I'll now turn the call over to Deon.

Thanks, John, and hello, everyone. In the third quarter, we delivered earnings in line with our expectations, grew volume and margins in both segments sequentially, generating strong free cash flow and delivered significant Intelligent Labels growth in new categories such as logistics and food. While earnings were in line with our expectations for the quarter, volume was lower than anticipated on broader macro uncertainty and slow consumption, which the team was able to offset through productivity and cost reduction actions. As I mentioned last quarter, we have activated countermeasures to minimize the impact on our bottom line. We have implemented temporary cost reduction actions, ramped up our restructuring initiatives and pared back capital investments in our base businesses, while protecting investments in our high-growth platforms, particularly Intelligent Labels. Now a quick update on the quarter by business. Materials Group delivered strong margins and volume improved sequentially as inventory destocking continues to moderate. Volume was down compared to prior year, as customers were still building inventory in the third quarter last year and have been reducing it this year. As you can see on Slide 6, volume in North America and Europe continue to improve at a steady pace in the third quarter. Latest indications suggest that our customers' inventory destocking is largely complete in Europe and will be largely complete in North America by year-end. Demand in these regions has been softer than anticipated on broader macro uncertainty and slow consumption, particularly in Europe. As destocking continues to moderate, we expect volume will again improve sequentially in the fourth quarter, a trend we have seen through the first 3 weeks of October. Overall, emerging market label demand was solid in the quarter, up high single digits sequentially, with particular strength in Asia. Materials margin was strong expanding year-on-year and sequentially,…

Thanks, Deon, and hello, everybody. In the third quarter, we delivered adjusted earnings per share of $2.10, up $0.18 sequentially, driven by benefits from higher volume and productivity actions. Adjusted EBITDA margin was 15.6% in the quarter, up 90 basis points compared to Q2 and comparable to prior year, with adjusted EBITDA dollars up about 7% sequentially. Compared to prior year, sales were down 10% ex-currency and 11% on an organic basis, due to lower volume, largely from destocking, which continues to moderate. GAAP operating margin was 10% in the third quarter, which included $44 million in restructuring charges as we continue to drive productivity across our portfolio. The majority of the charges taken in the quarter were related to footprint optimization initiatives in Materials Europe. Turning to cash generation and allocation. We generated strong adjusted free cash flow of $310 million in the third quarter, up $170 million compared to prior year. In the third quarter, we continued to make good progress reducing higher inventory levels and certain components, in which we experienced supply disruptions over the last couple of years. And overall, our working capital metrics are in good shape. Our balance sheet remains strong, with a net debt to adjusted EBITDA ratio at quarter end of 2.6. And we continue to execute our disciplined capital allocation strategy, including strategic acquisitions and continuing to return cash to shareholders. In the first 9 months of the year, we returned $309 million to shareholders through a combination of share repurchases and dividends as well as deployed $204 million for M&A. Turning to the segment results. Materials Group sales were down 16% ex currency and on an organic basis, driven by a mid-teens volume decline as inventory was being built downstream from us last year and continues to reduce this year.…

[Operator Instructions] Our first question comes from the line of George Staphos with Bank of America.

My question, to start, is on Intelligent Labels. And the less-than-expected growth in total, driven by apparel, if I understood the commentary correctly, and it sounds like it was apparel related to consumer sentiment that drove the variance. And I guess if you could provide more detail in terms of what was the expectation in terms of market, in terms of consumer demand, in terms of sentiment, in terms of what your customers were saying relative to what transpired in the third quarter? And then, in turn, why you think that improves over the next one to two quarters?

Thanks, George. If you recall what we said earlier in the year, was that we anticipated that apparel wouldn't recover through the remainder of the year, but we see slight sequential in volume improvement. And as we showed, I think, on Slide 6, George, you can see what we had anticipated was that continued apparel imports we've done so sequentially continued over a full period quarter. And in addition to that, we continue to actually see somewhat surprisingly that inventory to sales ratios are also declining. And so the combination of that, I think, is really factoring into kind of more muted apparel near-term sentiment as brands and retailers think about their sourcing opportunities. In addition to that, we have seen the expansion of our non-IL apparel business significantly, particularly in logistics and food, as we really are demonstrating the value to our customers that those solutions are able to bring. And as I look forward then into Q4, we're anticipating a little bit more recovery in apparel. And we also have, as I mentioned the last time, a number of new apparel programs that are in rollout. Sometimes they switch between quarters as they ramp, we've typically seen that over time, but that will also add to our apparel IL volume growth as we go into the fourth quarter, George.

Our next question comes from the line of John McNulty with BMO Capital Markets.

So I guess my question is really about the guide. So 3Q, you did about 2.10. You're basically looking flat to up about $0.15 in 4Q. And I guess, if I think about it, you've got the big RFID improvement, particularly in the logistics. You got incremental cost saves, which seems like combined, those would put you at the high end of the range without any assumption for less destocking at the core, falling raws or anything like that. It sounds like maybe a little bit seasonality, but I guess what am I missing in terms of the bad guys here? Because it seems like the outlook for 4Q -- or the guidance for 4Q is kind of unusually or extremely conservative.

Yes. Thanks, John. So I would say when we look at the guide at the midpoint when you adjust for that seasonality, as you mentioned, we're up about $0.15 sequentially. Obviously, at the high end, a bit higher than that. When we look at what's driving that, as you said, we're expecting pretty significant Intelligent Labels growth Q3 to Q4, as we've already talked about. We are seeing the start of Q4 here, sequential volumes in our label business continuing to improve as well as we've talked about as we see that steady improvement. Now what we're also seeing, and I think Deon mentioned this earlier, we are continuing to see more macro uncertainty. We've seen the data on retail volumes in Europe continued to decline sequentially in the third quarter. And generally, I think we're seeing a bit muted sentiment and cautiousness from whether it be apparel retailers and brands as well as consumer packaged goods companies. And so we're looking at that and trying to factor into our guidance a little bit of cost sense from them as they enter the end of the year. And we'll see how that plays out as we get through holiday and how that sentiment evolves. So right now, we're just seeing some cost senses there on the end user side. So we're trying to factor that into our guide as well.

Our next question comes from the line of Ghansham Panjabi with Robert W. Baird & Company.

I guess going back to your comments on destocking. Have the categories that were sort of first in on the destocking curve from 4Q of last year, have they started to inflect higher on a year-over-year basis at this point? And then related to that, it seems like many of the CPG customers are actually being much more aggressive on cutting inventories just given the higher cost of holding inventory, given interest rates and also inflation. How is that factoring in, in terms of the outlook for the first half of next year, the way you see it at this point? And then also more importantly, as it relates to the $10 of run rate earnings, the time line of that?

Thanks, Ghansham. I think the thing that we've seen more recently is that kind of more broader macro uncertainty and slower consumption. And Greg, I think, called out, particularly in Europe macro retail data volume, is actually sequentially down each month over the last couple of months. And we do see consumer packaged goods volume still below last year in the large number of consumer packaged goods companies as well. And I think that caution, whether it's in that particular end market or also in apparel, I think it's just part of what we're seeing as a consequence of higher interest rates and this impact on consumers and how they react. And so we're seeing -- we're starting to see some of the sequential improvement from inventory destocking, particularly for the categories that went in first. And you've seen that in our results, and you continue to see that even in our forecast for the fourth quarter, Ghansham. As I think about it now, given that uncertainty, it makes it very difficult to call when that $10 run rate will happen. That's why we think it will happen at a point during next year, but the timing of it uncertain. I'm very confident in the fundamentals of our business. And I'm confident that when volume really does return, we can see a clear path to that $10-plus run rate as we move forward.

Our next question is from the line of Jeff Zekauskas with JPMorgan Securities.

I have a two-part question. I was looking at your bar graph for volumes on Slide 6. And when you measure it, it looks like Q4 of '22 was 1.2 inches, and Q4 -- and October is 1.4. So it looks like the volume is up 16%. Is that right? And second, you've got two tranches of debt, you've got -- both about 1% rate. You've got 300 in August of 2024 and you've got 533 in the first quarter of '25. Is your intention to pay those down or to refinance them?

Yes, Jeff, so I guess starting on the bar chart, I think with the scale, I think you can't quite make that direct conclusion from that scale. What we're seeing is, if you recall last year in Q4, really in October, we were still seeing some stocking up, particularly in Europe. And then we started to see in November that pretty sharp downturn towards converters starting to destock. And that's what's carried through. So now when we've gone through Q4, we're still seeing volumes below prior year in Q3, picking up a bit in Q4, closer and closer to where we were, obviously, back to that early part of the Q4 levels. But overall, yes, you can't make a direct comparison there. I think in the third quarter, our volumes were down mid-teens versus prior year. And when you look at that, obviously, last year, there was stocking up going on in the third quarter. It was actually our highest quarter of stock build last year. And then obviously, we're still taking some inventory down here this quarter at the rate of about, I think, more than a week in North America and a little bit less than that in Europe. So that's how I think about those two things. From a debt perspective, some of that depends on M&A opportunities and things like that and how they evolve over the next year or two and how that capital allocation plays out. Absence of M&A or something major from that perspective, then I think we'd be looking at next year probably continuing to pay down the debt with cash flow. But again, that will determine a little bit on what the opportunities are and how we proceed from an M&A perspective.

Our next question from the line of Josh Spector with UBS Securities.

I wanted to ask on margins within the Solutions segment. So your sales were up in 3Q year-on-year, but your EBIT is down. Your margin did improve, but it was fairly marginal. So -- and I think some of the things you called out was higher investment, the cost, et cetera. So one, can you give any granularity around those different pieces for 3Q? And then two, when you look at next year and say, you get volume growth within intelligent labels, you have some easier comps. What's the right incremental we should be thinking of on that growth?

Yes. Thanks, Josh. This is Greg. So I think when you look at overall Solutions in the quarter, as you can see, our organic growth in the quarter was about 0.5 point, but the majority of that is driven by the Intelligent Labels growth, as we've already talked about at around 10 points. And base apparel and our base business down in the segment was down. Now when we look at that 0.5 point of growth, we had a little bit of price up, and volumes overall were down a little bit in the quarter, particularly in the base, as I mentioned a second ago. And I think as you probably heard us talk about in the past, in the Solutions segment, we need a point or so of growth in order to offset things like wage inflation, things like that, that are an annual increase in cost of that business. So we had year-over-year employee costs go up as well as the investments that we've been making in Intelligent Labels from a carryover perspective as well as investments as we were ramping up the new programs here. So those are really the areas that I think impacted margins in the quarter. So we were happy to see the sequential improvement that we made in Q3, even though we're still below prior year. We do expect further sequential improvement in Q4, I would say, 1 point or so from where we were in Q3. And I would expect in when we look next year to get back closer to the margin rates we were at last year in the Solutions segment overall.

Next question is from the line of Anthony Pettinari with Citigroup Global Markets.

You've had this year where organic sales is down 10%. And I'm just wondering, do you feel that there's any market share shifts in either Materials or Solutions? Are you potentially losing some shareholding, gaining? Any kind of conclusions you can draw looking at the last 3 quarters and anything that you would differentiate between Materials and Solutions, understanding Solutions is getting a bit better?

Yes. Thank you, Anthony. I think our view is that largely the function of volume being down is just reflecting the inventory that was built during last year and the slow unwind of it as we go through this year. And we know having looked at this very closely, that we have maintained or even expanded share across our Materials businesses in 2023. We've held and slightly expanded share in our base apparel business and our overall IL share continues to grow as well, Anthony. And that reflects our continued focus by the teams on ensuring that they're really delivering excellence in service and quality to our customers and helping them address some of the challenges they themselves are facing right now.

Next question from the line of Mike Roxland with Truist Securities.

Just wanted to get your insights into what's happening in Europe. One of your peers is cutting labor stock adoption in Europe, citing continued weak demand. So what gives you the confidence that the bottom has been reached at this point and that demand in Europe were up ultimately?

Well, Mike, I think we highlighted there is a degree of uncertainty around the macro environment, and we've seen softer consumption in Europe. And I think we've been very clear that we're not necessarily the calling the time in the recovery. We do see slow sequential improvement. And I think the thing that I always go back to is that at the end of the day, we're serving, ultimately across multi-cycle time phase. We serve markets that are both growing and diverse and typically, are GDP-plus. And so at a point, the markets will recover, demand will come back, and we are ideally positioned in that regard. We have leadership positions in both our businesses, and we have strategies that continue to deliver successfully over the years. And we have a team that leads the industry in both of our businesses as well.

Mike, I think I would add just as we talked about, I think, last quarter, historically, we've been in a period of a destock or a downturn. We've seen volumes rebound or accelerate kind of quickly at the end of that cycle. And what we've been talking about this year through this period is a little bit more steady improvement over the last number of months and quarters, as you can see in these bar graphs that we showed. And I think that steady improvement reflects a couple of things. One is the improvement of inventory levels at our converters and our direct customers over the last quarter or so, but also that costliness in kind of the slowdown in consumer demand at the same time. So I think that those two things hitting at the same time is leading to a more steady increase in our recovery rather than a more accelerated ramp at the end of that destocking cycle. And I think that's why we're continuing to project a steady continued improvement quarter-over-quarter as we go forward.

Our next question is coming from the line of Christopher Kapsch with Loop Capital Markets.

Yes, it's a two-part question. One -- and sort of piggyback off of some of the other commentary. But just on the comments around the sequential improvement in demand in Materials segment thus far into October. Just wondering if you could characterize that by sort of by geography and/or by category? And then secondly, in Intelligent Labels, there's a number of RFID programs that are gaining traction, for lack of better characterization, and maybe that improving visibility helps give you confidence in around the commentary about the sustainability of the 20% growth CAGR -- 20%-plus growth CAGR going forward. I'm just wondering if you could, to the extent that some of these programs are in conventional big-box retailers, but beyond apparel. I'm just wondering if there's any evidence that would suggest that just the addressable -- the TAM is expanding, given the use case for this Intelligent Labels given what they're being attached to beyond apparel?

Yes. So Chris, let me address the first question, and I'll get to the second. We have seen low sequential improvement in demand sorry, in volume in our Materials business in the first part of October. That's reflected in the bar chart. And I think that reflects both the continuation of the destocking moderating largely in Europe, as we said, we think it's largely complete now by the end of Q3. There's a little bit to go in Q4 in North America. And so we would anticipate volume to slowly sequentially improve in that regard. As it relates to IL overall, our Intelligent Labels platform, we have a high degree of confidence in that 20% growth rate. And let me tell you why, Chris. I think firstly, we are really seeing our non-apparel categories, largely now logistics and food, continue to accelerate. And you can see that both in Q3 and in Q4. These are actual rollouts that are happening in logistics customers and food customers. They're in flight. They are delivering real value for our customers. And most importantly, as that value becomes more visible, it becomes a compelling proof point for the broader segment to think about adopting. We saw that when apparel first adopted as well, and we're seeing a mirror of that as we anticipate going forward. I think the second thing is apparel is recovering, and it will bounce back at a point. And when that happens, we are the market leader in apparel IL overall. And it's not just the recovery of the volume in apparel, it will also be the continuation of new use cases. I think I spoke previously about our rollout with Inditex on a loss prevention application that is in addition to the inventory productivity we typically see. And we're…

Our next question is from the line of Matt Roberts with Raymond James.

When I think about the investments you're making in Intelligent Labels as well as you referenced turning some inventory earlier, when I think of the cash conversion cycle for Intelligent Labels, is that different than the rest of the system? Is there a longer lag and when you have to invest in that inventory, to when you're able to book the revenue versus everything else? If there's any color you could provide, that would be really helpful.

Yes, Matt, I think, in general terms, the answer would be no. It's relatively similar to what we've been experiencing in the Intelligent Labels business over the last number of years. I think over the last few quarters, as I've talked about, we had built up some inventory in chips. That's something we had driven starting last year when we were starting to see some of the inventory challenges there. So that's why we started that. But overall, I think when we look at that from a normal ongoing process. I wouldn't expect any difference from what we've seen over the last few years.

And Matt, the only thing I'd add to that is, typically, when we look at some of these large-scale rollouts, our focus is on consistent and flawless execution. We have to make sure that we deliver not only the business case, the proof of economics, but actually the reliance ensuring that we can provide everything they need. And so we typically tend to invest to make sure that we have the capacity to both do that and from a people and from an asset and then from a working capital perspective. But as that program then continues to roll out, we typically end up normalizing relative to all of our other working capital cash collection cycles as well.

And we have a follow-up question from the line of George Staphos with Bank of America.

Deon, can you talk to what the payback return -- payback period is on some of the newer markets relative to -- for IL relative to what you've seen with apparel, arguably, especially with logistics, perhaps given the value of the products for your customers the payback might actually be quicker and the return higher? Can you talk to that? Can you index it somehow? And then just a quick follow-on. At the end of the day, I wasn't clear. Are you expecting Label Materials to be up year-on-year in volume in the fourth quarter? I know you're making sequential improvement. I know the comp was tough in October and then November last year, things dropped off. What would you have us know about your guidance for the fourth quarter in terms of what it means for material volume year-on-year in the segment?

Thanks, George. The way that I -- we've seen the payback good, particularly in apparel start there, George, has typically been in that sort of less than a year payback cycle typically. And it varies by retail and brand depending on the complexity of their retail estate depending on the complexity and the length of the supply chain and the diversity of their supply chain as well. And you're right that in logistics, we will be seeing shorter paybacks because the supply chain is more compressed. It may not be as globally orientated initially in some of the pieces we've seen. And that's -- and we're at the infancy of some of the food work that we're doing right now. Our anticipation is that the food payback cycle will be similar to apparel, within that year period as well, because there is a supply chain across multiple suppliers that will also have similar resins to the way we've seen apparel in the past. As to your second question, we do anticipate sequential label volume improvement as we go through the fourth quarter, and that reflects both the inventory destocking moderating further and some slight demand improvement as we move as well forward, George.

And George, also, I'm not sure of your question -- that your last question was year-over-year or sequential. Year-over-year, we also expect to see volumes up in the label business, as Deon said, it's the same reason we start to lap that destocking last year. We still got some destocking in North America in Q4, a little bit less in Europe, as we've already talked about. So we do start to see volumes up in the fourth quarter versus prior year. The other thing I would say when you're looking at the sales line, as we've seen that sequential deflation as we move through the last couple of quarters, we do have some price down as we've talked about as well. So it will offset some of that volume increase. But certainly, we expect volume to grow a little bit year-over-year in the fourth quarter.

Mr. Stander, there are no further questions at this time. I will now turn the call over back to you for any closing remarks.

Thank you, Carlos, and thank you all for joining us on the call today. While the environment remains dynamic, we are extremely confident in our position and prospects and our ability to generate GDP-plus growth and top quartile returns over the long term. So thank you, all.

Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your lines.