London Feb 27, 2020 (Thomson StreetEvents) -- Edited Transcript of Mondi PLC earnings conference call or presentation Thursday, February 27, 2020 at 9:00:00am GMT
Good morning all, and welcome to the Mondi Full year Results Presentation for 2019. And as you know, I'm Andrew King, and -- although, I know most of you know me very well, this is obviously the first time I have the privilege to deliver these results as your CEO designate. So I thought with that in mind, I would first start with a few reflections, what I think has been important in driving the performance of the group over the last number of years. And I guess, more importantly, what I believe is the -- important for the future performance of the group. I'll then go back to a review of the 2019 highlights and then finishing up with some more thoughts on the strategic positioning.
As we see on this slide, I think, firstly, most of what you hear will be very familiar to you, and I make no excuses for that. I've obviously been with the group a very long time and have very much been part of the formulation of the strategy of the group. And I think we've had a very clear view of what works for us, what doesn't work for us. And importantly, I think we know a lot of this will sustain us into the future as well.
Of course, within any framework, you also have to have -- be agile, be responsive to circumstances as they change. Clearly, there's a very fast-moving world at the moment that we have to respond to. But I think the core principles of what I'll be taking you through, I think, have served us well, and I believe will continue to serve us very well into the future.
As you can see, firstly, we think sustainability is at our core. It's been within the DNA of the group for many years now. The real focus, obviously, over the number of years, has been really about how we do things. The impacts our business has on the environment around us and the work we've done to mitigate any negative impacts, and in fact, improve the environment and the communities in which we work.
I think we've been highly successful as a group in achieving that. And of course, now that whole agenda has broadened to also the products you produce and impact that, in turn, has on the world around us.
And I think, again, here, we're in a fantastic and unique position, really, which we always summarize in our motto, Paper where possible, plastic when useful. We're a major player in the corrugated value chain, as you well know. We're the biggest paper bag maker in the world. We have a significant presence in the specialty kraft paper grades. And of course, we will be a clear beneficiary of the shift to more sustainable-based solutions.
Obviously, what also makes us unique is the fact that we do have access to the customers, technology, know-how, afforded by our plastic-based packaging business, which, in itself, see significant improvement opportunity, particularly in terms of driving more recyclability of the paper-based products.
Of course, our Packaging business also benefits from the other -- some of the other key trends we see in the world at the moment. Clearly, e-commerce is an ongoing trend, which continues to drive growth, particularly in the box side, but also more interestingly now also on the bag side, the increased -- the issue around increased brand awareness, which hasn't gone away and continues to drive growth in packaging grades.
So in short, I clearly see us on the right side of many of these key industry trends. Of course, it goes without saying that our focus on being -- our cost-advantaged assets has always been a core tenet of what we are. We clearly believe that being low-cost delivered to your chosen markets is one of the key value drivers, particularly in the upstream pulp and paper business. This remains very much core to our business. And I think there's more to come in terms of what we can do in this area.
Clearly, I believe a key strength as well that's been identified over the years is our consistent and disciplined thinking around capital allocation. We, of course, seek to grow our business. We believe we have lots of growth options. But of course, that always needs to be done with a razor-sharp focus on value creation, and this will not change.
Of course, as you well know me by now, I do like a strong balance sheet. I think that gives you optionality through the cycle to invest. In addition to that, we have the privilege of very strong cash generation through the cycle. We'll, obviously, come on to that when we look back at the 2019 results, but that, in addition -- gives you additional flexibility to really take a potentially countercyclical perspective when others can't move.
Ultimately, of course, you can't do this without the right people. We are very fortunate in terms of the depth and experience of the talent we have in the organization. I see it very much as my job to continue to nurture and develop the many talented people and obviously, fostering within that a culture of diversity and inclusion within the group. We, obviously, have very -- plenty of experienced people in the group, and I look forward to working with them as we take the business forward.
With that, I return then back to the highlights of 2019. And as you all well know, without being aware, 2019 did see a downturn in this pricing cycle for most of our key paper grades, impacted, obviously, by the general macroeconomic slowdown. Against this backdrop, we did deliver a very strong performance with EBITDA at EUR 1.66 billion, margins of 22.8% and a ROCE of 19.8%.
Strong cost control and the good contributions from acquisitions and CapEx, project completed mainly in 2018 mitigated our margin pressures. On the strength of this performance and reflecting the confidence in the future of the business and the strong cash generation that we see, the Board has recommended a 9% increase in the full year dividend.
On the corporate front, we were obviously pleased during the year to complete the simplification of the group structure into a single-headed plc, giving us more transparency as an organization, streamlining of the cash flows within the business and, of course, promoting the liquidity of the Mondi shares.
As already mentioned, we -- I do believe we're uniquely positioned to help our customers' transition to more sustainable packaging. And I'll come again on to that in more later -- more detail later in the presentation.
Obviously, we're also very happy with the progress we've made towards our 2020 growing sustainably commitments, and we've also just recently updated our climate commitments based on science-based targets.
If I look in more detail briefly at the underlying EBITDA development. You'll see the impact initially caused by the downturn in the pricing cycle. I'll come on to more color on that later on a business-by-business basis. But the main contributors to negative price variance were the lower containerboard prices following the highest seen towards the end of 2018 and lower pulp prices. Kraft paper prices provided a positive offset, although, again, these did come under pressure over the course of the year.
You'll see the big negative volume variance, but this is partly a reflection of the more challenging trading environment, particularly our bags business and volumes under pressure in the Middle East and North Africa region, more specifically, and some downtime taken to manage our inventories in the kraft paper and specialty fine paper segments in the second half of the year. The larger impact, however, is due to the long-planned -- longer planned maintenance shuts during the year and the proactive portfolio optimization decisions taken over the past 18 months. And that includes the containerboard and fine paper machine closures in Turkey and South Africa, respectively.
This was offset by good volume growth in our corrugated business and the contribution from major projects completed in 2018, mainly increasing capacity in kraft paper and pulp.
Input costs were generally higher year-on-year, although we did see some cost relief going into the second half of the year. Wood, energy and chemicals came off over the course of the year, while paper for recycling was down both year-on-year and sequentially on the second half versus the first half. Current expectations are for further input cost relief into 2020.
As you can see, the net effect of acquisitions and disposals was a positive EUR 45 million variance, largely due to the full year contribution from Powerflute and the Egyptian bag plants, which we acquired in mid-2018. The forestry fair value gain was EUR 28 million higher than the prior year, driven by higher export timber prices and net volume increases in the period. It is worth noting, though, that the bulk of the gain in the current year was recognized in the first half. Based on current market conditions, we would expect the 2020 gain to be significantly lower as timber price increases are expected to be more muted.
If I then give you a brief overview of the contribution by business units. You can see on the right-hand chart, we do provide a breakdown of the contribution by business units to the group EBITDA. And on the left-hand side, you can see the movement by business units in the EBITDA contribution. In the next number of slides, I will then give you more detail by business unit.
Taking first in Corrugated Packaging, you can see it continues to deliver very strong margins and returns despite the pricing pressure that I've already mentioned. While all the containerboard grades were affected, the mix of products we have with significant interest in specialty segments of white top kraftliner and semichemical fluting does reduce our exposure to the cycle. By way of illustration, the benchmark price for recycled containerboard was down on average around 18% year-on-year, while high top kraftliner and semichemical were down around 3% over the same period. Similarly, of course, our low-cost position, augmented by strong cost control and our ongoing profit improvement initiatives means we continue to generate strong returns and cash flow even in a cyclical downturn.
Encouragingly though, we are now seeing an improvement in market conditions, with inventories now at more normal levels and strong order books. On the back of this, we have initiated discussions with our customers around some price increases.
When looking at the downstream business, we are very pleased with the performance of our Corrugated Solutions business, achieving 3% organic box volume growth and margin expansion as price retention was strong in the face of declining paper input costs.
I then go on to Flexible Packaging. You can see it enjoyed a very strong year, with underlying EBITDA up 18% and record margins. As mentioned, we were able to increase kraft paper prices in the early part of the year. Given the longer contract nature in this market, pricing is naturally stickier than in the containerboard grades and much of the increase in the early part of the year was a catch-up on the prior year in turn.
Over the course of the year, we did see some pricing pressure as the general economic slowdown impacted demand, and we started to see increased competition from certain swing producers. This continued into the early part of 2020, affecting the annual price negotiations, such that we do start the new year at lower levels than those achieved on average for 2019. Pleasingly, we are making very good progress in developing our specialty kraft paper segment, seeing good volume growth as we tapped into the growing consumer preference for fiber-based packaging. Continued growth in this segment is also being supported by our CapEx projects in Steti in particular, and the various initiatives to replace plastics.
The downstream paper bag business achieved good pass-through of the higher kraft paper prices, but did, at the same time, see volumes come under pressure, most notably, as I mentioned already in the Middle East and African markets, which are heavily exposed to the construction and cement sector. Encouragingly, although early days, we are currently seeing something of a pickup in the order situation in bags. From a structural perspective, in addition to some of the exciting opportunities to replace less sustainable packaging solutions, we are also seeing increasing opportunities for our bag products in e-commerce, as I already mentioned earlier.
Consumer flexibles demonstrated its defensive characteristics in the face of the economic slowdown, continuing to evolve its product mix and benefiting from ongoing innovation focus. They're also supporting the introduction of our paper-based products to the traditional plastics customers, while developing a range of recyclable plastic solutions fit for the circular economy.
Moving then to Engineered Materials. As you can see, again, delivered an improved performance with EBITDA up 9% at EUR 122 million. Although we are very clear that this was also flattered by a one-off gain of around EUR 9 million in the period. I was pleased very much to see an improved performance from our personal care components segment, in line with our expectations as they gain volumes by increasing the share of wallet. We, nevertheless, do expect further pricing pressure going forward as the key product in this segment does mature. Our extrusion solutions team is working on a range of sustainable coating solutions, which we do see as an exciting development in supporting our sustainable packaging initiatives.
Finally, then in terms of the business unit review, our Uncoated Fine Paper business, as you can see, continues to deliver strong returns and cash flows despite the more challenging market conditions, as we benefit from our highly competitive cost positions of our plants and our emerging market exposures. While uncoated fine paper prices were generally flat to modestly up year-on-year, pulp prices were significantly down, impacting our net long position in pulp. For 2020, we estimate that that position is around 400,000 tonnes per year. We have seen some recent stabilizing in global pulp prices, with potential for upward momentum. That said, the impact of the coronavirus, particularly on demand in the key Asian markets, is an unknown that could negatively impact the outlook if it's effects were to persist.
And maybe then just briefly, a more general comment on the coronavirus. As a group, so far, we have seen very limited direct impact given our limited exposure to those regions most directly impacted to date. However, it's clearly a very fluid situation, and we are closely monitoring things, including the impact on our supply chain and, of course, our customers. Ultimately, we believe the bigger concern is, of course, the impact on the macroeconomic growth outlook more generally and how this may affect demand for our products. But, of course, this is extremely difficult to assess and the situation is not unique to Mondi or, in fact, our industry.
As already mentioned, we're very pleased with the very strong cash generation that we achieved in the year, and it remains very much the strength of our business. As you can see, we generated EUR 1.64 billion of cash from operations in the period, roughly the same as the prior year despite the drop in EBITDA. This was supported by a reversal of the cash outflow from working capital seen in the prior year, with the year-on-year swing amounting to around EUR 150 million, an important buffer in an economic downturn. This cash was partly deployed to -- in support of our ongoing CapEx program, with capital expenditure for the year of EUR 757 million or 187% of the depreciation charge as we continue to invest in growing the business.
We are guiding to a further EUR 700 million to EUR 800 million spend in 2020 before this is expected to drop back to the EUR 450 million to EUR 500 million -- EUR 550 million level in 2021 as spend on the current major project pipeline does taper off. We are, of course, looking at further opportunities to leverage our cost-advantaged asset base, which could impact 2021 and beyond, but these remain currently at a very early stage.
As I mentioned right at the start, we do continue to prioritize the ordinary dividend in the context of our 2x to 3x cover policy. As such, the Board has recommended a final dividend of EUR 0.5572 per share, giving a full year dividend of EUR 0.83 per share. This represents an increase of 9% on the prior year dividend. And as I mentioned already, reflects both the strong cash generation of the business and the Board's confidence in the future.
If I then go back to some thoughts around the principles and in terms of our strategic thinking. And firstly, somewhat unashamedly some trumpet blowing about some of our past successes. As you can see, we're rightly proud of the fact that we've delivered improving and growing EBITDA and improving returns very consistently since our listing. And more than that, we've also done it in the context of ensuring a sustainable future for the business.
As you can see, I've picked some highlights being, for example, our safety record over this time. And similarly, the greenhouse gas emissions targets that we've achieved over the last period of time, very much in line with our thinking to contribute to a better world.
Our strategic framework. Again, this is a chart that should be very familiar to you. And again, I think it really encapsulates the key messages around what we think is important as a group, centered very much around our desire to drive value-accretive growth on a sustainable basis. We have our 4 pillars as outlined in this diagram. And I'll just pick up on some of the key areas to mention going forward.
Our growing sustainably model, as I mentioned already, is very much core to our business. It's -- we see it as a fully integrated approach to sustainable development. On this slide, I've picked up 3 key areas of focus, being sustainable products, climate change and our people. The first focus is very much on our output and the impact this has on the environment.
EcoSolutions encapsulates our approach, which, again, I'll come on to a bit more detail later. Our impact on the environment -- on the climate is clearly critical. Here, we are very proud of the significant progress we have made over the years in reducing specific CO2 emissions although we recognize there is obviously a lot more to do. And as I've already mentioned, we have established science-based targets for carbon emissions out to 2050, with clear milestones along the way. As I mentioned right at the beginning, people, of course, are our greatest resource, our safety culture, which has been a long journey is well embedded and we are the industry leader in this regard, but there's always, of course, more to do.
Something, I think, is a real differentiator for us is also our Mondi Academy that does great work in training and developing our people contributing to best practice sharing across the group.
I went well on this slide, but suffice to say, we have seen significant external recognition for our sustainability initiatives and believe we are really making a real contribution to the UN sustainable development goals.
Come back to EcoSolutions, which is very much focused on how we can help our customers meet their needs for more sustainable packaging. I know a number of you who were with us in -- on our Steti site visit end of last year, would have heard a lot about this. But just to recap, this approach we see encapsulates the 3 concepts of replace, reduce and recycle. We include here a few examples of some recent developments from us in each of these areas. And of course, we do see this as an ongoing area of opportunity for us as a business, and we've created a dedicated unit comprising experts from across our packaging business to drive this initiative.
This is a very busy slide, but I think in short, what we see is a really unique opportunity to deliver sustainable solutions for our customers. As you can see, we provide solutions based on substrates, ranging from pure paper across to the pure plastics and a combination -- and many combinations thereof, depending on the individual needs of our customers. This is a platform that simply none of our competitors has available to them.
Looking then specifically at the focus for growth into the future. And clearly, looking at on a business-by-business basis. We do see the biggest opportunities for growth in our packaging businesses. We like all the packaging businesses we're in, and we continue to support their growth.
We are already, as I mentioned earlier, on the right side of the key growth drivers of sustainability, e-commerce and increasing brand awareness. We'll continue to focus our growth CapEx and acquisition spend on developing these businesses. That said, we will, of course, look to continue to invest appropriately in our other businesses.
We look to continue developing and strengthening the strong niche positions we already enjoy in Engineered Materials, with a particular focus on those that enjoy integration benefits and other synergies with our packaging applications. For example, as I think I've already mentioned, our extrusion solutions and release liner activities do offer paper integration benefits and also specific technical competencies, mainly in the areas of functional paper development that offer intriguing possibilities, particularly for our EcoSolutions team.
In Uncoated Fine Paper, the message remains very consistent. We will continue to invest to maintain the competitiveness of this business, while at the same time, leveraging the underlying asset base, comprising some of our most cost-competitive mills to develop in our growing packaging markets.
An area for which I think we are rightly very well known is around our cost-advantaged assets. I remain true to the belief, as I already said, and I can stress again that in the upstream pulp and paper businesses, in particular, the key value driver is relative cost position delivered to your chosen market. Here, we, of course, have a great legacy with around 80% of our capacity in the bottom half of the relevant cost curve. This is driven by location of the assets, but also by a relentless drive for performance, which we see as a core competence of the group. I outlined, here on the slide, some of the key processes that do contribute to driving performance. But ultimately, it is all about the culture of the business, and this is something, of course, I'll be working extremely hard to maintain.
Our willingness to invest in cost-advantaged assets through the cycle is another area that has driven strong returns and will continue to offer opportunities into the future. Again, though, we are very clear that these investments need to be very selective and only in assets that one has confidence will offer a sustainable competitive advantage. We do not invest expansionary CapEx in more marginal assets. This is something I fundamentally believe in.
As already mentioned, we generate significant cash through the cycle, given our industry-leading margins. This, together with our strong balance sheet, provide strategic flexibility and options for future growth. In this regard, our priorities have not changed. I see investing in our own assets as an ongoing priority with further options to leverage our cost-advantaged asset base currently being explored.
Similarly, we see ongoing shareholders distributions as a key pillar of our investment case. We believe protecting and growing the ordinary dividend within the context of our cover policy is a priority.
M&A does remain a future option for growth. Our breadth of packaging exposure provides significant options, but always, as I've already made clear, with a razor-sharp focus on value-accretive growth. Similarly, we'd always look at this against the alternative of increased shareholder distributions beyond the ordinary dividend.
Finally, then the outlook. I think you've already had a chance to read this. I'm certainly not going to go over it again. But suffice to say, we do look to the future with confidence, and, obviously, I am very much personally excited by the opportunities I see in front of us.
So with that, we can go to questions. I think we do have microphones for the floor. You'll have to bear with me because I'm juggling, but I'm going to be standing as long as you haven't worn me down, in which case, I might sit, but that's not a challenge. Lars
Lars Kjellberg, Crédit Suisse. As you enter this year, of course, you -- there is multiple headwinds. We call that pricing, et cetera, and demand uncertainties. Mondi in the past, as you demonstrated, have shown a great capability to offset headwinds, in a way there's structural improvement on your cost base and continuous drive to improve. Can you share with us what sort of offsets you potentially have in 2020? Did you get some of these? I'm referencing, I guess, maintenance costs in the CapEx projects and whatever cost takeout you may have. You also mentioned the multiple opportunities you still see to continue to develop the business, considering that you reinvested so much in your asset base would be interesting to see what you think of the matter? And also, the final point, I guess, you talk about countercyclicality. You, obviously, in the -- some of the downturns you've seen, you've been investing through that and, of course, both in Swiecie minority itself and at some stage opportunistically. What opportunities do you see in this sort of countercyclicality and to leverage your balance sheet?
Thank you. I think, obviously, as you say, the first, in terms of the, call it, the self-help, I think, is the summary of what you're asking in terms of the first. Very specifically, in terms of the CapEx guidance, in terms of the contribution from CapEx projects, we're suggesting you can expect around a EUR 40 million incremental operating profit in 2020 from CapEx projects, and that is largely the optimization of the projects which have already commissioned. So there's not a lot of execution risk around that. It's clearly the Štetí project, which we commissioned, a very successful EUR 335 million investment in modernizing and upgrading Štetí that was running through 2019, and then we're looking for a full year contribution in 2020. So very excited by that.
Similarly, the Ruzomberok pulp mill upgrade commissioned at the back-end of 2019 now, and we'll be looking for, again, a full year contribution from that. Obviously, we're in the throes of now investing and in -- well, building the new paper machine in Ruzomberok by the end of the year, that should be commissioned, which will, in turn, use some of that pulp, which is currently on the pulp dryer and being sold into the open market. So the mix will then change going into 2021. But in 2020, we will have an immediate contribution from the additional pulp in Ruzomberok.
And then there's a series of other projects, including ongoing debottlenecking of our Syktyvkar operation. And importantly, also, some ongoing investment in our converting operations, where we are expanding, for example, in the Czech Republic and also in our German industrial -- or heavy industry-focused business. We're putting in a new plant, a new bag plant in Colombia and very much building on that strength that we have in terms of global network in our bags business. And that's -- I think there's more opportunity around that. But in the short term, that's very much the focus there.
Similarly, you, I think, alluded to the fact that on the maintenance side, we had a particularly high number last year in terms of the maintenance cost effect. That was a combination of factors partly driven by project implementation in Slovakia, for example, but also driven by technical requirements in Syktyvkar and the like. That was -- we estimated it was around EUR 150 million effect. It will be coming down to around EUR 100 million is our guidance in terms of the 2020 effect. So those are immediate, as you said, offsets.
I think in terms -- and otherwise, obviously, on input cost front, not necessarily our own doing, but of course, the cycle also does help in terms of mitigating the pressure you see on the top line with some input cost deflation as well. We're seeing in Central Europe, wood costs, as an example, are coming off. There's a lot of calamity wood around, which is going to be an effect for a period of time now, and that is, obviously, helpful from a wood cost perspective. Paper for recycling, clearly, it's off again, exactly how long and for, et cetera, is anyone's guess, but at this stage, it's clearly helpful. And then energy, chemicals and the like, obviously, with the general commodity price cycle have typically shown some cost relief, if anything. So we're seeing some of that. Clearly, in addition to that, we redouble our efforts. I know there's always a sense that we've done so much in terms of our own cost take up, but we think there's always more to do. We always feel we are proactive in making what can be tough decisions at the time. As you know, we took out at a paper machine in Turkey this year, we felt it was the right move to make because of the cost structure there, and we've taken fixed cost out as a consequence of that. We've also done some other restructuring to take costs out of the system. And that's an ongoing thing. And as I mentioned in our -- in the presentation, it's part of the DNA, it's part of what we do and we'll continue to do that. It's not about a one-off big bang kind of restructuring because we're in the fortunate position of being very strong as a group in that respect, but we will continue to drive those opportunities.
I think you mentioned about the opportunities for growth. I think I've alluded to some of the things we've already in train. I've mentioned the fact that I don't believe we've exhausted in terms of the opportunities around our asset base. It has to be very focused on what we believe are those assets which have real inherent competitive advantage through the cycle. I don't think I want to go into too much detail on some of the longer-term opportunities. Suffice to say that anything we do in terms of major projects into the future is unlikely to affect, firstly, definitely 2020 CapEx even probably 2021. So that's why I'm reasonably confident in the guidance I've given on the 2021. I would like to find opportunities to, frankly, increase that CapEx level because I -- but it takes time to just take these longer-term projects. But we -- as by way of illustration, as you know, we stopped or postponed that potential new paper machine at Štetí. We do have excess pulp capacity, which we're selling into the market at the moment, but we have capacity to look at some specialty kraft paper applications there. Some of our other big operations are still not optimized in terms of what future opportunities they can bring. So I think there's a huge amount of opportunity. But as I keep emphasizing it, the spend is at those operations, which we know will see us through the cycle or come what may, and that's what's most important to us.
In terms of countercyclical opportunities, I don't think I would ever profess to have -- be able to call the cycle that would be naive. I think we have -- we look to invest through the cycle. I think that's the best you can do. Clearly, you try and balance your -- your real opportunity is to be taken more in the lower end of the cycle than the upper end. Similarly, asset valuations don't necessarily follow pricing cycles, et cetera. And there's still a lot of cheap money out there chasing assets. And so one has to be very judicious in terms of how you look at those opportunities. But I think the important thing is strategically, we have a lot of options within the framework that we operate in, you have to be somewhat opportunistic, and we are alive to those opportunities, and we will see if we can take advantage of them.
It's Barry Dixon from Davy. A couple of questions. Andrew, just in terms of more short-term issues, you might just give us some sense in terms of what the demand environment is looking like, particularly in the packaging side of the business, both on the corrugated and flexibles, given the strong performance that you had on corrugated in -- particularly in 2019 and how that demand outlook is looking?
Secondly, you might give us some sense as to how price negotiations are going around the containerboard side and the likelihood of succeeding in those and the time frame?
And then thirdly, just going back to the capital allocation strategy and maybe just a follow-on from Lars, you've identified the 2 packaging divisions as the areas for growth, and you've identified, I suppose, the sort of the drivers in both of those in terms of sustainability, e-commerce and brand building. When you look at -- and you think about capital allocation, where do you see the gaps in those 2 businesses in terms of where you need to spend either organically or through M&A to fulfill that sustainability, e-commerce and brand opportunities?
Okay. Yes, I think, firstly, in terms of the demand picture, as you rightly say, on the corrugated side, we are very pleased by the performance of our Corrugated Solutions business last year. Clearly, we are regionally focused. But as I mentioned, we did a -- got a 3% year-on-year box growth, which is -- which I think is a very strong performance. It's partly a reflection obviously of the markets in which we operate, which have been very strong. But at the same time, I think we've also exceeded the market growth, which is very encouraging. And that's really been an extreme focus on customer service and obviously, a lot of innovation work that we've been doing with our customers. We're seeing a lot of growth on the e-commerce side, and that's extremely encouraging, and we continue to support that very actively. We've got some specific initiatives around that. And of course, we're investing in support of that growth, and that's extremely encouraging. And certainly, we started the year, again, very strongly on that side.
In terms of the flexibles business, I think, obviously, it's -- there are different components to that. As I mentioned already on the consumer flexibles side, that's proving extremely resilient. And simply put, you would say you've had very little effect of the downturn in terms of the visibility on the volume numbers and stuff, and that's very encouraging. It's in the bags business, where we said that the 2019 was more difficult. Now Europe, Europe is relatively stable, marginally off. Where we are seeing the weakness it is particularly in our Middle East and North Africa markets, which are very important for us. North America has also been a weaker point in 2019. What is encouraging is if I look at the order situation, now it's early days in the year, but the order situation going into 2020 is actually -- is up versus the comparable period last year. As I say, it's early days, and one shouldn't over-interpret that, but it is encouraging.
Now as I mentioned, particularly in those export markets, a lot of it is cement driven, and one is going to be watching that. And, of course, the macroeconomic issues that affect demand for construction, et cetera, are important. But it shouldn't also be seen that these are homogenous markets. There's any number of different factors which affect the portfolio as a whole. Simply put, it was a bit softer last year, started off more encouraging this year, but it is early days in that side of things.
Price negotiations. I mean, as you say, as we've gone out with price increases, both on the recycled side and more laterally on the unbleached kraftliner. We believe this is very well supported. As you would expect, we're seeing inventory levels normalized to even slightly lower. We're seeing very strong order books, and that's always a firm foundation to go out with price increases. It's early days in that process. So it's extremely difficult to give you firm guidance, but we believe it is well justified, and we are in discussions with our customers at the moment.
In terms of capital allocation, I think the short answer is I don't see gaps, per se. I see opportunities, maybe I'm sounding like a CEO here. I think -- no, I think we do see a lot that we can continue to drive in our own business. And of course, if we can supplement that by bringing in capability, both whether it be on in terms of geographic reach and/or technical know-how that can supplement what we have, we would be very open to looking at that. But as I say, I don't think there's any one area where we are subscale for that matter. I mean, clearly, our bags business is extremely strong, and we'll continue to leverage that by incrementally growing. But realistically, the capital you can deploy in what is, ultimately on a global basis, a fairly niche market is relatively constrained.
On the plastics space side, we have an extremely strong position in Europe. It -- you have to look at it more on a market-by-market basis. There's often very generic descriptions of what is the flexibles market. For example, we are extremely strong in the segments that we operate in. Can we broaden that out potentially, but it has to be something that we are very confident that we know about, and it contributes to our wider business.
Justin Jordan from Exane. Firstly, Andrew, I just want to say on behalf of the analyst and adviser community, congratulations on your appointment as CEO. I'm sure we wish you every success in the coming years ahead. I've got 3 type of questions. Firstly, one, quite short-term and two, sort of medium term. Firstly, the short-term one. I guess, if we think back to the Štetí Capital Markets Day a few months ago now, you talked or you've actually demonstrated, I think, it was in e-commerce for a large global e-commerce guy, and you highlighted several potential replacing plastic with paper-based packaging for things like pasta. Is there anything that you can say today in terms of how those trials progressing or recent orders or wins on that sort of theme of sustainability?
Secondly, on, I guess, your Slide 24, it's pretty clear that the sort of the key growth divisions going forward are I suppose, the Corrugated and Flexible Packaging, which is clearly very obvious. What does that mean for the Uncoated Fine Paper business? Clearly, I fully catch, but it's globally very cost competitive. But given the sort of structural headwinds, especially in that business, should we view that as essentially a cash-generation engine to fund the growth in the other 2 core long-term growth divisions?
And then thirdly, I guess, building on that, when we think about your '21 CapEx guidance, the EUR 450 million to EUR 550 million, which, if I may blunt, turns you into a free cash flow machine. Arguably, does that give a think back to your May 2018 special dividend, does that open up the opportunity for potential further special dividend in '21?
Thank you. Normally a compliment is followed by difficult questions. No. I think on the -- I mean, in terms of the wins, I won't go into specific details on that, but I do think, both on the e-commerce front, we showed you the MailerBAG, for example, the MailerBAG that we're using, we are pushing that very heavily with our e-commerce customers, and it is getting a very good reception. It is a naturally -- it's an obvious product because it displaces all their shrink wrap and stuff that you might be getting in your -- that your book comes in. Now a very neat, sustainable, recyclable, renewable, everything, paper bag, and that is getting a very good response. And so we are very encouraged by that. Similarly, on the sustainability side, we are doing a lot of work, as you heard from all of the products that you were taken through in Steti. And that is an ongoing focus. Again, it has to be seen as a portfolio. I'm very encouraged. If you look at our numbers in terms of the growth around our specialty kraft paper, more broadly, which is pretty much going into those functional papers, but, obviously, also going into all the simple shopper bag and the like, you are seeing genuine growth in that business, and they've done extremely well and continuing to develop that portfolio and that market, frankly, because in some ways, it's a totally new market that one is developing there. So lots of good progress there, and we will continue to devote a lot of energy to driving that.
In terms of the fine paper business. It's a great business. We have a extremely strong position, as I've already mentioned. The core assets there are all mixed-use assets. In other words, they produce both fine paper and pulp, which is not necessarily used for the fine paper market, a lot of pulp, for example, from South Africa, is sold into Asia into the tissue markets and these and the like and also, obviously, making the containerboard grades as well. I see the future of that business being -- we will continue to drive and remain highly competitive in the fine paper market. I believe you could -- you should be a good owner of any of your assets, and we'll continue to invest appropriately to keep them competitive. But, of course, the shift in terms of the growth CapEx is very much towards those growing packaging markets. By way of illustration, obviously, the latest project in -- is in Slovakia in what is what you call a traditional fine paper mill, but it's making that hybrid containerboard products, using that fantastic cost base we have there, but to leveraging the growing packaging markets, and I think we'll see ongoing opportunities of that. But at the same time, the core fine paper business remains highly competitive, and we'll continue to invest in it as appropriate.
In terms of the cash, I fully agree that we are highly cash generative. I think you've heard me say that a few times, and I'll continue to say that by definition, CapEx, as I alluded to, would come down in 2021, in the absence of anything else. I made it very clear, though, we do see a lot of opportunities in the group, and we would certainly be looking to support the growth of those businesses, but it has to be very clearly measured against all the alternatives. And one of the alternatives is, of course, returning the cash to shareholders, and we're measuring ourselves against those benchmarks, should we say, all the time. I think our shareholders would see it is incumbent on us to look for those growth options that can create value for them, and that's what we, as a management, are tasked to do. But at the same time, we're very open if those right opportunities don't arise in the right order, as we showed back in -- on the back of the 2017 results. We're also prepared to look at other distributions if that's the right approach.
David O'Brien from Goodbody. First of all, just you mentioned that box price retention has been good. Look, I know it's going to be quite specific to the given company given the variabilities around those businesses. But can you give us your experience in terms of how much the box prices increased through 2018 and where have they traveled since then? And I guess, pressure continues to stay on the pricing rates there. When should we think about them passing (inaudible) and is that solely dependent on any success on the containerboard side? And around the containerboard price increase, so quite simply, can you just explain to us what has changed since May last year, given the demand is about the same? Like, have inventories come down that materially? And could you quantify where they've come to give you such confidence around an increase being put in place?
On the flexibles business, it's clear as well that there's some pressure coming. If we look at the margin profile '18 into '19, it's from 17% to about 20% EBITDA margin. Are we going all the way back to 17% in 2020? Or do you think you can hold the line given some of the mitigating items you mentioned?
And finally, Engineered Materials, your return on capital employed of 13.8% and it clearly lags the wider group level. What are the medium-term goals there? What is achievable, given some of the pressures you noted on one of your key products?
Okay. I think, firstly, on the box prices, I think you mentioned about 2018. I'm not sure if that was a -- so clearly, box prices -- I mean, if one looks back at the history, we saw containerboard prices go up very sharply through 2018 and then topped out back-end of '18 before they started to come off a bit. Box prices were following that. The converters saw margin squeeze through 2018 as they were constantly chasing the box -- the containerboard prices up. And then through 2019, effectively, that flipped on its head, as you saw, containerboard prices coming off, and box prices held up very well. That's not to say box prices weren't coming off in absolute terms, but relative to the containerboard price reductions, they were obviously holding up. And I think that, in some ways, exceeded expectations if you look at the market more generally. So we did see margin expansion through the -- in the converting business, albeit in absolute terms, box prices, as I say, I emphasize, have been coming off to some extent.
I think the question for 2020 remains very much around the containerboard side. Clearly, we are seeing, and I'll come on to why we believe the containerboard price initiative is justified. But if you're seeing containerboard start to to flatten out and increase, then I think there's every justification for box prices not following it further down, but if anything, stabilizing and potentially recovering. But it is very much, in my view, a function also of the containerboard side. I think, frankly, 2018 was a difficult year for converters, 2019 was the opposite. What is the sort of long-term sustainable margin for the converters is probably something in between.
On the containerboard side, I mean, what has changed since last May? I mean, one thing is the prices are low. As you know, since May last year, prices came down. I mean they stabilized in the third quarter, and then there was further price erosion into Q4 and a bit into the beginning of this year. I think, clearly, what we see on the ground right now, as I say, is a very strong order situation. We are booked out. Generally, as we understand, inventory levels across the industry are reasonable to low and we've went out, as you said, we were one of the first out, I believe, on the recycled increase. It appears that there's been others who have followed on that, and we are in discussions with our customers. I cannot give you more clarity than that, as we've already discussed earlier.
In terms of the flexibles business and the margin pressures you mentioned there. Yes, I mean, we're very clear that on the kraft paper side, we are seeing prices having come off. So we saw pressure through the course of last year, but because of the contract nature of a lot of the kraft paper business and the bags business, there's always a bit of a lag effect between where the spot price is and where -- what you're actually achieving, and there's a lead effect as well. So what happens now is, obviously, we've had to reprice kraft paper to nearer spot prices on the annual contract business that is now in the market and priced in. And the bags, because you're negotiating your contracts at the similar time, they would be repriced on that same basis. So that is clearly in the market. We are making very clear that, that means that we start the year in kraft paper and as a consequence, also the bags at lower pricing than we achieved on average last year and that does need to be factored into the margins.
In terms of mitigation on that, there is, as I mentioned, input cost relief pretty much across the piece, and that affects the flexibles or the kraft paper business, in particular. We also do get some buffer from the bags business because you would naturally expect that we retain some of the benefit of the lower paper prices. Our flexible plastic business is clearly unaffected by that, and we believe there's ongoing growth in there. I think, importantly, on the bags side, last year was a tougher year in terms of volume. We certainly see some pickup in that. As I mentioned already, the order situation is improved, and we are very much driving that to recover some of that lost volume that we saw, and, of course, that has a benefit in terms of margin recovery. So I think there's a number of things, but in the short term, absolutely, that margin is under pressure relative to where it was in 2019.
In terms of Engineered Materials, I think in terms of return on capital, I mean, clearly, firstly, it's a slightly different business. We recognize that in terms of the structure of that business relative to, for example, the paper businesses. We made it very clear that we would expect some further margin pressure this year in that segment in the personal care components area, in particular. We're clearly working in other areas to develop other products to offset that pricing pressure there, but it's not going to fully offset it. So we're very clear that the margin is going to come under more pressure relative to the 2019 expected -- outcome in that Engineered Materials. But as I mentioned earlier, I think we have a lot of interesting dynamics when it comes to, as I say, the release, the extrusion coatings and the other technical film applications when it comes to looking holistically at some of those sustainable packaging solutions that we are driving as a business. And so we need to continue to invest in those and drive on that. It's not going to be a near-term issue, but more as a longer-term dynamic. I think I'll take one more from the floor and then we've got a couple on the wires.
Cole Hathorn from Jefferies. Andrew, just following up on how to get your customers to buy into the model of paper where possible and plastic when useful. How is the buy and being with them putting through all their 2030, 2050 goals? And what will accelerate that shift? Do you really need to see EU legislation or something like that on taxes for them to come to you and say, "We want to be the first-mover advantage and first mover, you are the best place to provide us with those solutions?"
Yes, I think -- I mean, clearly, legislation helps. And I mean, we've seen it most obviously in the bags business where the shopper bags and there's an EU-wide push to reduce plastic, single-use shopper bags, and that, of course, different jurisdictions have applied different regulations, be it from taxing to bans on single-use plastic shopper bags. And of course, that has immediately created a big demand push, which is fantastic for us. And hence, the reason we're investing again in our Steti operation to provide that additional source of paper to meet that supply. I think beyond that, clearly, there are also initiatives to -- for wider taxes on certain plastic applications, we would generally support that. We think it is appropriate because the big challenge with all of this is internalizing that cost to the environment of the plastics solution or the less sustainable solution, should we say. And of course, tax is one way to achieve that.
But I think as importantly consumer preferences and consumer awareness is of massive and shouldn't be underestimated as a massive push here because, as you know, most of the big FMCG groups have put out big statements around improving the sustainability of their packaging, and they're now looking for support and how to achieve that. Again, we are having numerous conversations with all our customers in supporting that, and they are genuinely very interested in all the solutions we have to offer. And as I say, that is where I believe we really do have a unique offering because we are -- we can offer the full suite of substrates. And as I put on that one slide, paper is -- we'd be very happy to supply papers, the solution to everything, but it isn't. And very clearly, there are a number of applications where our plastic products do serve a vital role. I mean the issue of food wastage, which I think will become more and more of a prevalent sort of discussion around the environmental issues. Around 1/3 of the food at the farm doesn't make it to the fork. I mean that is a startling number. You could feed the whole of Africa and Europe combined with what is wasted. And so you could imagine anything that can reduce that food wastage has to be hugely environmental benefit. So we have to get the balance right between driving the pure paper-based, and we think there's fantastic opportunities, but also recognizing there will always be a place for those plastic solutions, which can improve food freshness, give you the right level of convenience, et cetera, so you don't waste the food. And that's -- there's a balance there, and we have, I think, a lot of opportunities and, as I say, are fantastically positioned to provide all of those solutions.
I've got 2. Looking at Slide #7, I'm looking at the rocky chart and obviously returns came down in 2019 on the prices. But let's say, breaking out 2018 as kind of a bumper, it was like 19% to 20% flow. Do you also see that as a flow internally, like 19%? And is that kind of a threshold where you would step up your self-help if it kind of drops below? And my question is more pointed to 2020 because you get some of these projects on stream, and obviously, it's capital employed where you're going to have ramp up, and maybe just some thoughts around these dynamics.
Okay. I think in terms of the self-help, we're not determined -- we don't determine our actions there based on the returns we're getting at any one point. We think driving our self-help initiatives is something we should be doing all the time. Obviously, the focus in what you're doing is determined by the environment around you at any one point in time. And of course, in an economic downturn, you can also force more through in terms of your supply chain, and that's something we, obviously, will continue to focus on doing so.
But at the same time, we think it's the right thing to do to continue to invest, as I've already said, through the cycle. We see a lot of opportunities that we shouldn't be shy to be investing in the right assets even if in the short term, it's more margin or ROCE dilutive to a 20-odd percent return. I mean, if we are confident that we can deploy capital at levels that comfortably exceed our cost of capital, we should be looking at doing that, obviously measured against all the other alternatives, the uses of that cash, and that's something we'll continue to always strive to do.
Yes. So the next one would be what's actually preempting you from -- what's actually holding you back from kind of moving some of these additional opportunities forward? Like you mentioned excess market pulp capacity, where you could look at specialty kraft paper. It's a market where you have absolute leadership in the shopper bags. Is it more a bit of a concern on the cycle? Is it management capacity? Is it that you need to finish the ongoing projects first and then, obviously, think about new ones? Or is it the extended engineering times that's required?
All of the above. No, I mean, clearly, you have to prioritize, and we have a big CapEx program. When you're spending EUR 700 million to EUR 800 million a year, it's a lot of work. It takes a lot of internal resource and we are -- and you have to prioritize around that, and we believe we get that right. And you don't want to take undue risks from a technical delivery. But at the same time, yes, you have to be aware of the market. Very specifically, for example, coming back to that Steti machine. We postponed that machine because we saw other capacity coming in the market at the time. And we thought we're not going to lose this option by holding back for a while and seeing how things unfold. And it might make sense to come back and to revisit that. So these are the things you have to consider. So you're not -- you never look at things in isolation of the overall market dynamic. But very clearly, at the same time, we do have the luxury of being able to invest through the cycle and that's something we will continue to strive to do.
And also, congrats on the new role, again. Just maybe a philosophical question. Your thought process around industry consolidation in Europe in containerboard. We've spoken about it before, but maybe just to refresh on whether you see any merits for it? Is it something that you would be interested in participating in your new role? Or is it still something that you'll keep -- that you prefer to grow organically?
As I said, I think -- thanks, Brian, for the question. I think we've come back to our priorities. We think we have fantastic options to continue to grow our own business. But similarly, M&A is an option for us, and we must be alive to those opportunities, and we will continue to seek them out. I think consolidation in itself is -- has some attraction, but it must be seen in the light of the value creation you can have. So what do you pay for that and you must be very clear that you can drive real synergy opportunities from such a consolidation and it creates a real competitive advantage. So all of those things you have to always be considering. So it's not something we've ever ruled out. At the same time, we're very clear that, that must meet our valuation criteria.
Okay, cool. And then on -- now to the price increases that you've announced, there's a lot of new capacity coming on back-end of this year and most of the capacity is actually back-end loaded. Is there a risk that you'll have to give up some of these price increases when the new capacity hits the market?
I think we're very confident in the position we have at the moment, and we'll continue to discuss with our customers the current price increase. I think what the future might hold is determined by a whole bunch of different factors. I think, yes, there is new capacity coming on, but there's also good growth in terms of the structural growth dynamics in the corrugated space, which we believe are not going to go away anytime soon. We've also got the conundrum around China. Obviously, it's a topic at the moment for other reasons, but I think we still see that, that issue of the Chinese import ban on the OCC side coming through. It's by all intents and purposes coming through at the end of this year, that has to have an impact on global trade flows for containerboard, one way or the other. So all of these factors need to be considered. So I think looking specifically at the capacity additions in Europe in isolation is always the wrong thing.
Just one quick one to clarify on box prices. Is it fair to then conclude that if the containerboard price hikes do go through that box process will be quite stable year-on-year?
I think, as I said earlier, Ross, I think, clearly, containerboard price increase would be supportive to box prices.
I think that's a function of the math, isn't it? So we will have to understand what the implications for the containerboard prices are in turn that will impact the box prices. But exactly what the year-on-year effect is a question of the timing of these price moves. I wouldn't want to speculate on that just yet.
All right. I think we've got time. If there's one more question from the floor? Sorry, Wade. In fact, we don't have time, but we'll make time.
Wade Napier from Avior Capital Markets. Andrew, you've previously spoken about your ability to sort of create a specialties component within the containerboard business with white top and fluting and now are you sort of speaking of specialties within kraft paper. Given price declines in kraft paper, have specialty kraft paper prices decoupled from your standard grades used within construction materials? And then can you just remind us what percentage of that kraft paper business is specialty grades?
And then my second question would be within the Uncoated Fine Paper business, there was a lot of moving parts with the closure of Merebank PM -- one of the PMs there and Neusiedler. What was your underlying sort of demand within that business? And how do you see that market playing out in 2020, given sort of price weakness in the back half of last year and can you give us some color there?
Sure. Yes, I mean, just to be very specific, there are -- and I know the word specialty can be used in different context. So we talk about containerboard, there's the normal grades or the sort of universal grades of unbleached kraftliner recycle and then you have the niche or specialty applications like white top and semichem.
On the kraft paper side, we typically differentiate between the sack kraft paper grades, which is typically what goes into your industrial bag applications. And then the specialties, which covers the range of applications from the MG, the MF, these type of -- these sub grades. In terms of quantum for our business, it's around 300,000 tonnes of our 1.2 million, 1.3 million tonnes of total kraft paper production. The pricing dynamic is different. And similarly, the supply-demand fundamentals are quite different at the moment. We are seeing -- on the sack kraft side, as I mentioned, it's really -- there's a demand-side weakness that we saw in 2019, and we'll have to see how that unfolds because that is very much more construction driven, particularly in those, as I say, export markets of ours. On the specialty segments, a lot of that does go into these niche packaging applications for more retail-type of applications and then all the other specialty applications, for example, release paper and these like. So it is very different, the differentiated markets. And -- but more generally, the demand picture is very strong in that area. And it's -- we're seeing good growth. There's also competition there as well, as you could imagine, it is also attracting competitors into that space. So you are seeing that dynamic play out. But the real pricing pressure has been much more on the sack kraft side coming into this year.
In terms of the fine paper picture, I mean, just to be clear, the only real moving parts, if you call it that from last year in terms of a structural change from our business was the closing of that one paper machine in Merebank. Outside of that, it's business-as-usual in the context. I think what you're alluding to is the fact that we did take some downtime in Neusiedler because Neusiedler is very much a focused specialty paper, I'm using the term and again, in the fine paper segment, you have the premium grade products and really Neusiedler is a premium grade producer, and it's very important that it focuses on that. And so that's the focus of that. If that market is softer, we're certainly not going to be producing commodity grades at that Neusiedler operation. So we're always agile when it comes to how we manage that portfolio.
In terms of overall market, because, again, being the low-cost producer, we are very confident we can make money on every tonne we produce at our big integrated operations. The question for us is the longer-term structural dynamic. Clearly, fine paper is a product generally, in structural decline in the mature markets. It's much more stable in the emerging markets. But that's what we plan for as a business going forward.
I think we will close it there. Thank you very much for your attention and coming out today on what is a cold and wet day here in London, but thank you on the webcast as well for your attention, and I'll bring this to a close. Thank you very much.
Post time: Mar-11-2020