Ladies and gentlemen, thank you for standing by, and welcome to the Third Quarter 2019 ACCO Brands Earnings Conference Call. At this time, all participants are in a listen-only mode. After the speaker presentation, there will be a question-and-answer session. [Operator Instructions] Please be advised today’s conference is being recorded. [Operator Instructions] I would now like to hand the conference over to your speaker, Christine Hanneman. Please go ahead, ma’am.

Good morning. This is Christine Hanneman, Senior Director of Investor Relations. Welcome to ACCO Brands third quarter 2019 conference call. Speaking on the call today are Boris Elisman, Chairman, President and Chief Executive Officer of ACCO Brands Corporation; and Neal Fenwick, Executive Vice President and Chief Financial Officer. Slides that accompany this call have been posted to the Investor Relations section of accobrands.com. When speaking about quarterly results, we may refer to adjusted results. Adjusted results exclude transaction, integration and restructuring costs and reflect an adjusted tax rate. Schedules of adjusted results and other non-GAAP financial measures and a reconciliation of these measures to the most directly comparable GAAP measures are in the earnings release and slides that accompany this call. Due to the inherent difficulty in forecasting and quantifying certain amounts, we do not reconcile our forward-looking adjusted earnings per share, free cash flow, net leverage ratio or adjusted tax rate guidance. Forward-looking statements made during the call are based on certain risks and uncertainties and our actual results could differ materially. Please refer to our earnings release and SEC filings for an explanation of certain of these risk factors and assumptions. Our forward-looking statements are made as of today and we assume no obligation to update them going forward. Following our prepared remarks, we will hold a Q&A session. Now I will turn the call over to Boris Elisman.

Good morning, everyone, and thank you for joining us. I will spend the next few minutes reviewing the highlights of the quarter and commenting on the progress we’re making against our strategic imperatives. Neal will follow me with more color and details on the quarter and then we’ll take your questions. We reported good third quarter sales and adjusted EPS achieving our objectives for the quarter and building on our strong performance of the first half. Third quarter sales are even with last year and organic sales were up 0.5% due to an outstanding back-to-school performance in North America. Our North America sales were up over 3% on top of a 9% growth in the second quarter. As we noted last quarter, we had very strong back-to-school selling. The actual consumer sales, which take place in the third quarter and are the ultimate measure of the success of the back-to-school season, were also very strong. Our sales group mid-single digits for the season, a strong improvement over last year’s 2% growth. Based on preliminary industry information, overall back-to-school sales are roughly flat. So we believe with took share. Our market share growth was led by the Five Star brand, which was the second largest national back-to-school brand in the U.S. and the highest growth rate of the top 10 brands during the season. Now the highlight of the quarter, it was our working capital management and cash generation. We entered the quarter with high inventory due to strategic pre-buys associated with raw material shortages, anticipated increases in U.S. tariffs on Chinese imports and strong third quarter forecast from our North America sales teams. Because of good North America sales and excellent global working capital management, we reduced working capital $141 million sequentially and $20 million versus the same quarter last…

Thank you, Boris. Good morning, everyone. Before I move to the quarterly results, I would like to start with a perspective on the North America back-to-school season, which covers both the second and third quarters. Taken as the entire season, we did well. As Boris already mentioned, second quarter sales rose 9% and third quarter sales rose 3% with our EPS change following the sales patterns. In total, the second quarter and the third quarter EPS are $0.02 over prior year. The third quarter is down $0.02, with the second quarter up $0.04 reflecting the relative share of back-to-school shift in each quarter respectively. This is a continuation of the trend seen last year with the second quarter now the stronger quarter for back-to-school. Moving now to our third quarter. Comparable sales increased slightly based on solid growth in North America. Adjusted net income of $31 million or $0.32 per share was down from $36 million or $0.34 last year. The decline was from lower gross margins in EMEA and international. Our gross margin was 30.8%, down almost 1 percentage point as we had an unfavorable product mix in most areas. Cost inflation in our international businesses from adverse foreign exchange and experience lower cost absorption as we reduced inventory. SG&A expenses as a percent of sales increased 19.1% from 18.3%. The increase was related to higher management incentive expenses based on better performance this year versus last year when we were releasing accruals. In addition, information technology spending increased from our building out of SAP in North America. Reported operating income decreased to $49 million from $58 million and operating margin declined to 9.6% from 11.3% last year. On a reported and adjusted basis, operating income decreased due to the lower gross profit and higher SG&A expenses from the…

Thank you. [Operator Instructions] Our first question comes from Bill Chappell with SunTrust. Your line is open.

Thanks. Good morning.

Good morning, Bill.

Hey, Boris, can you talk a little bit more about the back-to-school season? Just anything you can give us on kind of sell-through percentages versus sell in growth that we see and just was it more company specific in terms of market share gains are just driven by a good overall kind of back-to-school season?

Yes. Thanks, Bill for the question. Back-to-school was very strong. In fact, it’s from a sell-through standpoint, it’s the strongest that I remember at my time here. The sell-through was up approximately 5% for the season. The overall industry back-to-school was roughly flat. So clearly we did better than average. And then when I look at the details by customer, it was pretty broad. Most of our customers grew and their sell-through with us. It was led by the Five Star brand. We had much better placement than last year and a much stronger end-user demand for our key products. We had a couple of accounts that declined based on just their time and place in the industry and their focus on private label, but the majority and especially the growing customers, including major mass marketer, mass merchandiser, and e-tailors have grown. So the season was very, very strong. And then just to tie it into the sales, as Neal mentioned, the sell-in – lot of the sell-in for that sell-through happened in Q2, we had 9% growth in Q2, and then we had some replenishment in Q3 with 3% growth. But the overall season was very, very strong with plus 5%.

Got it. And so with that in mind, there’s the inventory levels are in good shape. You don’t see a destock kind of as we go in fourth quarter or first quarter next year.

No, and that’s a very important point. What we’ve seen actually over the last couple of years is an emphasis by our customers to exit the season clean. So they are trying to sell-through more than they buy, because they hold some inventory going into the season. But yes, we feel that exiting the season we’re in very, very good inventory shape.

Got it. And then just switch into – quick to Foroni just help me understand, it seems similar to the product you have with Mead. I thought there was some option to kind of expand that internationally. So is this more of a different product line or is it more of just it was easier or faster to buy the leading player versus kind of move tangentially into the market.

No, it’s a similar product line. Really the driver for the purchase is the brand. Foroni is a very strong 100-year-old brand in Brazil with very strong consumer allegiance. They are number two player in the market next to us. We are number one player in the market with Tilibra. So this allows us to have number one and number two strongest back-to-school brands in Brazil. We’re going to continue to push them as two separate brands with separate lines and separate assortments and we try to create some synergies in the backend.

Got it. And then last one for me, you talked about incentive comp in the fourth quarter not being released. I just didn’t fully understand. Is that because you’re not hitting your targets or is it because there was a bigger than normal release last year?

It was last year. Last year, we were not hitting our targets. We released a significant incentive comp in the fourth quarter. And this year, we are anticipating not doing the same thing. We’re anticipating hitting our targets.

Okay. So when you say release you mean last there was a reversal, this year there is not. Is that the way to think?

Right.

Perfect, okay. Thanks so much.

Thanks, Bill.

Thank you. And our next question comes from William Reuter with Bank of America. Your line is now open.

Good morning. With regards to the – you guys, sorry, morning, the mix of products, which I guess was a little bit dilutive to margins. I guess, can you talk about that was it some of the new products that are not up to scale at this point in terms of units?

No. The mix was driven primarily by our heavier participation in private label this back-to-school season than last season. As we’ve talked before, we are fairly tactical with our private label strategy with bid on products, where we can make dollar gross profits and if it’s a loss, we don’t bid on it. So given all of the inflationary pressures this year and late last year and the tariffs, we participated in more opening price point private label business this back-to-school, which drove revenue, but also diluted our margin. So that’s really the mix issue that we’re talking about.

That makes sense. Do you think that there is a – it sounds like if you hadn’t participated in this, then your branded product sales would have been down a little bit or I guess they were down a little bit. Do you think that there is a strategy from a lot of your customers to shift their mix of products that they offer more towards private label? And I guess do you expect that to continue?

No. The branded product sales were actually up this season. So if I look at our growth in North America, it is roughly 60%-40%. 60% of that growth was driven by the branded products and may be 40% by incremental private label. So we’ve done well with branded products, and I mentioned Five Star, which was the fastest growing brand during the back-to-school season of the Top 10 brands. As far as the private label strategy from our customers, as we’ve talked before, it’s very customer-specific. Given the change in ownership with a couple of our customers from public to private and private equity backed, there is a little bit of an increased push for private label from those specific customers. Our strategy remains unchanged. Private label today is around 7% of our global business. And then depending on the year, there’ll be plus or minus a couple of points, as I mentioned, as we’ll bid on profitable business and we will not participate in unprofitable business.

All right. It sounds – that makes sense. And then just lastly, I think when you had talked about List 4 tariffs, previously you mentioned, I think $28 million impact. I guess how do you expect to contend with this next year? I guess what do you expect the net impact of those List 4 tariffs is going to be? That’s all from me. Thanks.

Yes. I think when you’re talking about $28 million, Bill, its 2018 and 2019 combined and that also included inflation. If you look at tariffs, the number is small, it’s roughly half of that. And we anticipate roughly a similar impact that we saw in 2018 and 2019, with us anticipating in 2020, unless things change, and as you know, things can change on a daily basis when it comes to tariffs. Right now, we plan to have price increases on January 1 to offset the tariffs that we know of that are coming on December 15. Obviously U.S. is in negotiations with China, so some of that may change. And if it does change, we’ll react to it. If the tariffs go down, we will reduce our pricing – our price increases and if the tariffs continue to go up, we will have to pass those increases through.

Okay. So I guess what that would mean is that 2020 impact would be about $14 million, but more or less you expect to offset that with price, the tariffs are in place, so you’ll end up in the same spot on a margin basis?

2020 is about half of that, it’s about $6 million to $7 million in tariffs.

Okay. All right. That’s all from me. Thank you.

Okay. Thanks, Bill.

Thank you. And our next question comes from the line of Joe Gomes with Noble Capital. Your line is open.

Good morning.

Good morning, Joe.

Just wondering if you could give us a little bit more color on the e-tail segment? What kind of growth are you seeing there? What percent of overall revenues is e-tail now making up for the firm?

We track e-tail sales for U.S. specifically, because that’s where we get the sell-through information, and right now or in Q2 – sorry Q3 e-tail was roughly 15%, 16% of the quarter. The growth was very strong. The growth is teen percent growth. E-tail continues to take share during the season, both for back-to-school and back-to-college. We have very broad participation in e-tail literally pretty much every SKU that we make get sold through e-tail. There’s nothing that today at least. They’re not willing to carry. So it’s a very successful channel for us. It’s margin accretive for us. And we love e-tail and we continue to focus on it.

Great.

And it’s a lot less developed internationally.

Okay. And kind of switching gears for a second here, just kind of want to revisit Australia, New Zealand in the Pelikan acquisition, that market has been under pressure here for our, at least for two years that I’ve been following the company here. Are we getting close to a point, where we might have to start considering whether there is going to be write-downs on this business?

I’ll let Neal answer that write-down question. I’ll let him answer that question.

Not that we anticipate at the moment, Joe.

Okay.

Just to give you additional color on Australia, New Zealand, Joe. It has been a tough market. You’re absolutely right, for the last couple of years, both because of a weakness in Australian economy as well as industry specific issue, where you have both consolidation – de-consolidation is happening on the part of a couple of commercial customers. And those customers are reducing their footprint as well as just competitively and not doing well. And they’re big customers and when they don’t do well, obviously that affects our sales. But the biggest impact we have felt in Australia is on the legacy ACCO side, not on the Pelikan, Artline side. So legacy ACCO has historically participated more in trade products, not end user products and more in commodity categories, as opposed to well-known branded value added categories. And that is the part that has suffered the most during the last couple of years, both private label that we historically made for our customers that they are choosing to source directly, as well as the some of the commodity categories, which are just declining. The Pelikan Artline, a part which we have acquired has done relatively well compared to the legacy ACCO part.

Okay. That’s very informative. Thank you. And then just one last one from me. If we looked at what the nine-month free cash flow number is little over $50 million and looking for full year and the $165 million to $175 million. That suggests, call it, $110 million to be generated in the fourth quarter. And what is your guys early thoughts as to, if that all happens as to how you would allocate that money in the quarter.

So firstly, Joe, that’s very consistent with the free cash flow generation that we had last year and normally see in the fourth quarter. So to-date, our free cash flow is only $6 million lower than the prior year. And that’s really all driven by paying higher taxes earlier this year, which we anticipated. So we’re very confident on hitting our free cash flow target for the year. It’s something that we put a lot of time and effort behind to make sure that we achieve it. And it’s driven by the seasonality of our business. In terms of how we would deploy that cash, obviously we would continue with what we traditionally do in terms of deployment of cash. So year-to-date, we’ve spent a significant amount on stock repurchases and on dividends. We’ve obviously announced an increase in dividend. We have an ongoing stock repurchase program. But one of the big things that we would tend to do in the fourth quarter is pay down debt, because we then seasonally added again in Q1 and Q2. And so it’s part of our cycle and it replenishes our ability to make future acquisitions.

Okay, great. Thanks, guys. Appreciate the time.

Thank you, Joe.

Thank you. And our next question comes from the line of Chris McGinnis with Sidoti & Company. Your line is open.

Good morning. Thanks for taking my questions.

Good morning, Chris.

I just want to – not to keep on the North America and back-to-school, but was there anything specific around Five Star, was it new product introductions or market share gains that are in the sense of shelf space that helped drive some of them, that strong sales?

We launch new products with Five Star every year. There are new colors, new materials, new innovations that we introduce. It’s literally thousands of SKUs for the back-to-school season. We’ve got great placement with major retailers this year. Also last year, we introduced a new demand generation campaign focusing on the teens, which are the primary buyers of the Five Star brand and that campaign continued this year and obviously it resonated with the consumer. So it’s all of those things combined that drove a very, very successful back-to-school season.

Okay. Thank you. And then just quickly, can you just maybe touch on TruSens? I know it’s still pretty early on, but just kind of what you’ve seen since you launched in the first quarter?

Yes. TruSens is our air purifier brand we introduced it in February in the U.S., and then in Q2 we started to rollout across the rest of the world. We are incredibly pleased with the ramp up, almost every week we are hitting new records in sell-through in the U.S., and we have – we are very optimistic it’s going to become a multi-million dollar brand for us. So far incredibly excited about the launch and the opportunity and we’re going to be expanding that product line in the future.

Great. Thanks for taking my questions and good luck in Q4.

Thank you. Thank you, Chris.

Thank you. And our next question comes from the line of Kevin Steinke with Barrington Research. Your line is now open.

Good morning. Hello. So you mentioned that, you’re encouraged about initial read on the back-to-school season in Brazil. Maybe if you could expand on – a little bit more on what you’re seeing there and then maybe in contrast you mentioned back-to-school in Mexico was a little disappointing and maybe a little more color on the factors behind that performance.

contraction in Q2. We don’t have the numbers on Q3 but in Q2, so contraction: So the economy is not doing well. What we’ve heard from all the retailers is that the back-of-school overall in Mexico was very soft. And then we’ve done commensurately with how everybody else has done. So let’s say, it’s definitely a more disappointing season in Mexico that we use to back-to-school does not represent a huge part of our business in Mexico. And it’s mostly drives our new acquisition, the Barrilito acquisition, and it was a little bit softer than we had last year.

Okay, got it. And I believe you said you expect international segment sales to be flat for the year. I believe that’s down from what you were expecting on the prior call, just in terms of growth, but is Mexico a key factor there or any other factors that maybe change the outlook just a bit for international.

Yes. Mexico was down a little bit versus our prior expectations and Asia is down versus our prior expectations and Asia is down both strength in Brazil is consistent with what we’re expecting. And then Australia – Australia’s performance is also consistent with our expectations. So it’s really Mexico and Asia that declined our view of the fourth quarter is lower than we had before.

Okay, thanks. And you mentioned Europe softening economic environment there. Is what you’re seeing the impact you can find a certain countries are expect like the UK or is it you seeing something more broad-based there, in terms of economic impact?

It’s a little bit broader than the UK, our biggest country in Europe is Germany and German economy has softened both in Q2 and Q3. In Germany, obviously is a big trading partner with the rest of Europe. So it does affect several European countries. I mean, we’ve seen some weakness also in Eastern Europe as well as countries that are in and around Germany and UK, obviously with the Brexit uncertainty was weak as well. So the economic softness in Europe that we’re seeing is broader than just one country.

Okay, thank you. And then lastly for me, just maybe talk a little bit more about the dividend increase and the thought process behind that and your view of a dividend policy going forward.

Yes. As you know, Kevin, we implemented our dividend the beginning of last year. And our – when we issued the initial dividend was said that the strategy is to grow it over time prudently. We want to reward our long-term shareholders. We have a return and when we looked at our future projections of cash flow, we felt it was time to increase the dividend. We’ve been repurchasing a lot of shares. So if you look from a total cash outlay, the cash outlay per year that we projecting even with increased dividend for the company is about the same as we paid in dividend in all of 2018. So it’s not a increase portion of our cash flow, but on a per share basis, it’s a nice 8.3% increase in dividend for our long-term shareholders.

Okay, great. Thank you very much.

Thank you.

Thank you. And our next question comes from Hale Holden with Barclays. Your line is open.

Good morning. I have a couple of quick – thank you. I have a couple quick ones. Following up on the European comments you just made, you also made in the text you did some commentary around U.S. corporate clients pulling back around uncertainty and I understand you’re not giving guidance. But in general, are you thinking a little bit more conservatively on the go forward given what you’re seeing from Europe and more specifically U.S. corporate clients commercial.

I think that’s fair that we are a little bit more cautious when we look out forward. As Neal mentioned in our prepared remarks, the U.S. consumer continues to do well and we have not seen any weakness from the U.S. consumer. But certainly outside of the U.S. and if you look at commercial or industrial customers, they are becoming more cautious. So yes, I’d say our tone is a little bit more cautious when we look out to the future.

And then on the price increase that you’re taking in January, I mean, have you, I guess, socialize that and had initial discussions on it. Do you expect any pushback around it?

We have communicated the price increase of the intention of a price increase to all of our customers. We are working through the details now. There’s push back every time we do any kind of a price increase. So it’s normal business commercial negotiations that we do with our customers. That’s nothing unusual this time around.

And then my last question was the commentary around leverage being down on a year-over-year basis at the end of the 2019. Is that adjusted for the recent acquisition in Brazil and the $50 million of financing there or is that including that.

So on a reported at all pro forma basis, it should be lower than prior year.

Perfect.

The acquisition that significant in terms of that’s impact.

Right. And you’re going to find that with the revolver, right?

We did.

Great. Thank you so much. I appreciate it.

Thank you, Hale.

Thank you. And our next question comes from the line of Karru Martinson with Jefferies. Your line is now open.

Good morning. In terms of the price increase on January 1, is that going to – is there a typically a pull forward of sales and perhaps a little bit of a deep present for the first quarter that we should be looking at?

You know, it depends, Karru. Historically, I would have said yes about nowadays, given what we – patterns that we’ve seen over the last couple of years, it depends. We have not seen that, for example, last year when there was a very significant price increase in January, we have not seen any pull forward in December. So I can’t really comment on that, we’ll see when it happens.

Okay. And realizing that the tariff backdrop can change on a day-to-day basis. Where do we stand now on the alternate countries of supply? What sort our exposure to China and where have we moved manufacturing to?

Yes. We’ve been very aggressive in trying to move our supply chain from China, where it makes financial sense. And it makes sense for most products, where we don’t have tooling or just heavy capital investment in China. So a lot of our paper skews, we have been very aggressively moving to other Southeast Asian countries or low cost countries. Some of our – even some of our tooled products, we are moving to countries like Taiwan. So I expect that our footprint – manufacturing footprint in China will be significantly lower next year than it is this year and then it was past year. So we certainly are not waiting for the tariff pallet policies to be clarified before we move – our supply chain. And regardless, these moves are semi-permanent. I don’t want to have a say permanent, but even if the tariffs already appealed, we don’t envision moving the manufacturing back to China, because cost in Vietnam and Taiwan are also becoming very, very competitive with China, even the inflationary increases that we’ve seen in China historically.

Okay. And in terms of the inflation, you talked about $14 million over the 2018, 2019 period. What’s the outlook for raw materials and I would assume that’s built into that January 1 price increase.

Yeah. Outside of tariffs, the expectations for material inflations, I fairly muted next year. We don’t see the kind of inflation that we saw in 2018, which was very, very high, some of it bled over into 2019 as well, especially into the first half of 2019. So outside of tariffs, the inflation expectations, I fairly muted. And we are being fairly surgical with our price increases in the U.S. to only increase prices on those products that are exhibiting increased costs. Outside of the U.S., the inflationary pressure is coming from the strength of the U.S. dollar. So we are definitely going to be adjusting our local currency pricing in both EMEA, as well as in international countries to account for the fact that the U.S. dollar is a lot stronger today than it was 12 months ago.

Okay. Thank you very much guys. Appreciate it.

Thank you.

Thank you. And our next question comes from the line of Hamed Khorsand. Your line is open.

Hey, good morning. So first off, I just want to get an understanding of the pushback you’re seeing in Europe. Is that across the board? Is there a specific area in Europe that’s creating the lower numbers for you?

So there is a couple of things going in Europe, Hamed. The primary reason is the economic weakness that I talked about, and that’s pretty much across the all of EMEA. It centers around, Germany and the UK. But as I mentioned, it’s pretty much affects all of the EMEA. The other thing with EMEA is just compares versus prior year. Last Q3 Europe grew over 3%. It was a very strong quarter a year ago and that was driven by GDPR and the launch of the shredders that we had in EMEA and there were two factors there. One is just increased shredding and focus on privacy coordinated with the GDPR launch, as well as just the channel fill. Because a lot of our customers were carrying shredders for the first time. So it drove us very significant increase in shredders last year. This year, the sell-through was going well and the sales are going well. But from a year-to-year comparison perspective, the sales of shredders are down, and that’s another contributor to the 2.3% decline in EMEA this quarter.

Okay. And then in the U.S., you were talking about your commercial customers being little bit cautious. Are those the same customers you were targeting as far as getting them as a direct customer?

No. I’m talking about the big contract stationers and the commercial arms or office products superstores. The independence, the small independence that we are trying to buy from us direct continued to do well.

And then with these commercial customers, do you have a insight into, if there’s too much channel inventory out there?

I don’t believe there is more – there’s a lot of inventory, but they’re just buying less because they are preparing for the future. So when you look at competitive channel dynamics, everybody is trying to compete with the most efficient resellers. And the most efficient resellers carried very little inventory. So we see that our historic legacy customers and trying to compete with these modern, efficient resellers try to carry just in time inventory and when they think the demand is going to be down in the future, they reduced their purchasing.

Okay, great. That’s it for me. Thank you.

Thank you, Hamed.

Thank you. I’m not showing any further questions at this time. I will now turn the call back over to Boris Elisman for any further remarks.

Thank you, Sydney. In closing, we’re very pleased that the businesses from well in the first nine months of the year, driven by North America strong back-to-school results. We remain confident about our future and continue to position the company for growth and strong returns for our shareholders. I look forward to speaking with you again after we report our full year results. Thank you.

Ladies and gentlemen, this concludes today’s conference call. Thank you for participating. You may now disconnect.