Hi, good morning. My name is Jeff Zekauskas, I cover chemicals for JP Morgan. It's my pleasure to welcome you to the 2023 Industrials Conference. Kicking off the conference is Eastman Chemical. Willie McLain is representing Eastman Chemical, who's the Chief Financial Officer. Willie has been CFO at Eastman, and previous to that, he managed the finances of Eastman's Asian operations. Also in the audience is Greg Riddle, who's the head of Eastman's Investor Relations. This morning, the format we'll follow is a fireside chat format. Welcome.
Thanks, Jeff. glad to be back, at the Industrials Conference this year.
It's always nice to see you. Maybe the place to start is in the fourth quarter of 2022, so many areas were characterized by destocking. Eastman was also touched by that phenomenon. Is the first quarter very different in your opinion? Or how do you see destocking trends going into the new year?
Yes. As we look back at Q4, I would say it was broad-based destocking, so there wasn't an end market or segments that were immune. In that case, you know, not only the stable, but building and construction durables. I would highlight that Eastman's portfolio is approximately 50% stable end markets. You think about things like personal care, food, feed, and ag. Those markets, I would say as we progress into Q1, destocking is substantially played out, and we would expect to be back to normal end demand. As you think about building and construction, it really depends on the regions of the world and, you know, that's a market, especially here in North America, that we're still waiting to see how long that takes for destocking to play out. Automotive, has been, I would call it, at low levels. If you think about being, you know, 80% of 2019 levels. We had expected the year to start slow, primarily because of China. I would actually say that's started out, a little bit slower.
Mm-hmm.
The durables market, that's probably, you know, as we think about Q1, that market has played out probably a little worse than we had expected. As I wrap up end markets broadly, there's some puts and takes. It's probably a little more negative than we had expected, but that's probably what's least in our control. As I think about end market demand, we're still waiting to see what is the Q1 to Q2 recovery. We think most of destocking is behind us in Q1.
Mm-hmm.
Now the question is: What's the pace of recovery into Q2 and the back half of the year?
Mm-hmm. China has changed its COVID policies. You know, I think many people thought that what there would be is a very, very slow period and then maybe a more rapid acceleration in demand.
Mm-hmm.
You know, how does Eastman view that? When you look at your Asia Pacific business, you know, we've obviously gone through a slower period. Is there a quicker ramp or there's a slower ramp or how do you view that?
Yeah. I would just highlight for those in the room and listening online, roughly 10% of Eastman's revenue is in China.
Mm.
About half of that is consumed within China, and half of it is re-exported. A big segment that we're looking to from consumption in China is the auto OEM space for Advanced Materials segment. What we're seeing there early on is Q1 is playing out to be a little more tighter, I'll call it. The production levels have not returned yet. We do expect those to improve in Q2. You know, I think there's been a hope since October of last year that the reopening was gonna occur. Honestly, I believe that, you know, China has seen the impacts of over-acceleration, and they will probably, I'll call it moderate, but they will still achieve the growth rates, is my belief, for the full year.
The Europeans have been struggling with very high natural gas prices. Maybe in the third quarter of last year, they were $60 an MMBtu, and then maybe they were $30 in the fourth quarter of 2022. Now they've come down. Have you seen any change? Europe's been weak. You know, have you seen any or noticed any change in the tone of European demand generally?
On the European front, I think, we were all maybe expecting a dark winter.
Yes.
The dark winter didn't occur. They were able to build enough inventory. I think, you know, maybe confidence comes out a little better. We're starting at a very low base in Europe, I think there's maybe consumer optimism.
Mm-hmm.
We're at a low base. Again, I think things are gonna play out better than we had expected, you know, exiting, 2022. The pace of recovery and, the level of, I'll call it consumption, is still, an open question.
Mm-hmm.
I think Europe has bottomed, at least if there's not another shock, as we talked about, over dinner last night.
It's not getting any worse.
It's not getting any worse right now.
When we think about Eastman's overall demand profile beginning the year, the general environment that we're contending with is one of relatively slow growth or maybe even some contraction. Is that fair?
Jeff, what I would highlight is we said there were three key factors for Eastman, for both the transition from Q4 to Q1, but also broadly for the year.
Sure.
First was achieving the cost actions that we've set out, we've implemented those here in Q1. That was gonna be $200 million of cost savings, and that was gonna offset our pension headwinds as well as the variable comp, and that's in our control. I think we've affected that well. Two, it was around, you know, the price cost, price over raws and energy. What I would say is we're off to a more favorable start on managing that. I would say our commercial teams have been disciplined, and that's across all of our segments. The fact that energy has been seasonally low in the U.S. and has played out more favorably in Europe.
Mm-hmm.
Those tailwinds more than offset the headwinds of work that we've seen, or the balance of different segments on the end market demand. You know, as I look at that holistically here in Q1.
Mm-hmm.
I'll keep it specific to Q1.
Sure.
We expect to be above the high end of the range that we gave in our Q1 guidance of $1.05-$1.25. Lots of uncertainty out there. Effective management of the things that are in our control and taking advantage of a lower raw material energy environment.
Mm-hmm.
I would note, you know, on that price cost, you know, that's gonna play out more substantially in CI and Fibers. Also we will see some of that, in our Specialty business as well. It just takes a little longer to flow through.
Your original guidance was $1.05-$1.25, and in general, demand seems to be maybe a little weaker than you expected.
Mm-hmm.
Raw material spreads or raw material gross costs seem to be a little bit lower. Is that fair?
I would say, the discipline on prices, and pricing overall. I think our commercial teams have effectively managed that.
Mm-hmm.
Plus the benefits of, raws and energy.
I think your cost reduction effort this year is $200 million. Can you break that into its different parts? You know, is this a new initiative for Eastman, or are you lapping difficult comparisons last year? In other words, is this very difficult to achieve, or is this relatively easy to achieve because of the different challenges you faced last year and fewer challenges this year?
I would highlight, ultimately productivity and efficiency as part of Eastman's culture. I would also highlight, too, that 2022 was an unprecedented period.
Mm-hmm.
If we think about the level of supply chain complexity, the tightness of resources, both, you know, trying to hire resources.
Sure
As well as, working with our contractors. As you take a step back, you have to look at, the economic environment that we expected for 2023 and reassess what do we need to run Eastman most efficiently. I'll highlight two lenses. The first being, I'll call it our non-operations. You can think about that as primarily our SG&A, and supply chain. On that front, we have taken a reduction, as well as we've reduced our discretionary levels. It's about half and half, and that's gonna be about a $75 million benefit.
Mm-hmm
In 2023. On the operations front, as we planned this year, we expected volume to be down year-over-year, because of, I'll call it, the Q1 levels of performance. Also we don't expect as constrained supply chains. Reducing overtime, reducing our contractor variable workforce, as well as reduced planned maintenance because we had deferred some maintenance as a result of COVID.
Mm-hmm.
We have now ran that cycle and have caught up. On that front, we expect, you know, an additional $125 billion to bring that total to $200 million. It's a combination of productivity and the environment at which we were operating in 2022.
Is it fair to say that, when we think of the $200 million, maybe there's $35 million or $40 million, which probably has to do with severance and lower headcount, and maybe the other ones, you know, call it $160, maybe half of that has to do with not having to pay extra air freight or not having to pay unusual costs in last year's environment, and then maybe the other $80 is more efficiencies of one kind or another? Is that fair or not really?
I think as you think about we reduced our positions around the world about 3% of our over 14,000 employees. Ultimately, I think the full year run rate as you've described.
Mm-hmm
So call it, in that $40 million-$50 million.
Yeah.
As we think about supply chain logistics, I would say that's another $40 million-$50 million.
Mm-hmm.
The other pieces are coming from that variable set of choices, the variable contractors, the overtime, the discretionary spend.
Mm-hmm
As well as the maintenance.
You know, really, Eastman under-earned in 2022, because, you know, there were so many bottlenecks or difficulties in getting, you know, reasonable shipping terms or, you know, getting the kinds of materials that you wanted. Is that fair?
What I would highlight is ultimately, Eastman as well as, our peers and customers and suppliers were facing, unprecedented inflation.
Mm-hmm.
You know, unprecedented levels of, you know, demand.
Mm-hmm.
With that, you know, we had headwinds on the supply chain, as you've highlighted.
Mm-hmm.
Contractors, on all those fronts.
Do any of your segments particularly benefit from your cost reduction efforts? If you had to distribute the $200 million across your segments, how might you do that?
I would highlight, you know, Eastman has three large segments.
Mm-hmm.
That would be Advanced Materials, Additives & F unctional Products, and Chemical Intermediates. Each of those segments have, you know, key asset streams that we utilize the integration to then take that to produce the Specialty products. I think you can think about the majority being spread, you know, fairly, ratably across those three segments.
Mm-hmm.
Also our Fibers business as it's connected to our cellulosic and acetyl stream.
Mm-hmm
Will benefit, a portion of that as well.
In my opinion, a good piece of the growth in Eastman for 2023 comes from Advanced Materials segment. Do you think that's fair? What are the factors that are really Advanced Materials, profits and profitability?
There's a couple of factors. In 2022, we had, I'll call it major destocking within Q4 with the durables end market business. Additionally, in first quarter of 2022, we had a steam line incident that primarily impacted Advanced Materials, Specialty Plastics business. Also, we see opportunity on the volume and mix front, as we recover and exit the destocking here in Q1.
Mm-hmm.
Two, that business has done a tremendous job keeping up with the level of inflation over the last two years. There's still opportunity as we faced unprecedented ban PDOH due to just supplier outages in 2022.
Mm-hmm.
I think for much of the year, that set of supply chains, you know, couldn't produce, from multiple suppliers. We see that as being a tailwind in 2023.
Mm-hmm.
Also, as we think about we kept up with inflation in 2022, but we still hadn't fully captured what had occurred in 2021. Advanced Materials, we see roughly $100 million of price cost expansion to where we're back at the margins and earnings that that business and the profile that we provide to our customers deserves. I would say price cost followed by I'll call it normalization and recovery to our volume mix.
Is that $100 million in price cost a subset of the $200 million in cost reduction, or that's additive onto it?
That's additive to that.
That's additive.
Maybe the way I would frame that, Jeff, so to take a step back.
Sure.
As we think about the $200 million of cost actions, like I said earlier, that offsets the pension, as well as the variable comp. As you think about the normalization of our CI margins, that's being offset by the return, to appropriate margins in our Fibers business.
Mm-hmm.
As you look at the portfolio, to that extent, we're net neutral.
Mm-hmm.
The growth in 2023 over 2022 comes from Advanced Materials business, and the Specialty recovery there.
Advanced Materials, there's a very large auto component. When you think about your overall auto demand.
Mm-hmm
In 2023 or those particular product lines, do you think it will be flat or up or down? If you can assess that so early in the term.
What I would say is, on a full year basis, we expect growth, on a global basis. Part of that will be driven by what we view as recovery, in Asia, driven by China.
Mm-hmm
In the second half of the year. Two, as we see our innovation continuing to pay off as we have premium products such as acoustic interlayers, head-up display with the EV market, solar control. I think the one thing that we can all agree on when you look at a typical EV, you see more glass. To Eastman, that's an opportunity for growth.
Mm-hmm.
Mix upgrade.
Mm-hmm.
In cars now, you expect the acoustics to put out the road noise. You also expect all those electronics to perform extremely well.
Mm-hmm.
You want them to recognize your voice, so that when you use your voice commands, the car responds. Also, you want the climate to be controlled. With all the glass that's been used to give the elevation and headroom and space, that's where we're bringing both colors and the solar control.
Mm-hmm.
As we continue to see growth, we see opportunity. We've been able, and we continue to invest also in our Performance Films business. That's a great business. As you think about the cost of an automobile, we want to protect that investment.
Mm-hmm.
Paint protection is another area that we continue to show earnings growth, mix upgrade, even in a, I'll call it a fairly depressed auto market since 2019.
Sure.
We get some growth, I'm not saying that we're as, you know, optimistic as some of the consultant reports, we have always been a little more conservative on that recovery. We expected China to be down in Q1. I'm excited about, as autos recover, that will be a great tailwind, and it's because our innovation will get magnified. It won't only be a mix upgrade, it'll have the volume behind it.
Do you earn much more on an electric vehicle than you do on an internal combustion engine vehicle? Is there any way to easily conceptualize that?
I think the conceptualization is, you know, the visual that I gave you. One, we've got more area to cover.
Yes.
Part of that is you can also see it. It's not like you have to go break down a car to understand, you know, what is the opportunity. I would say it's probably a little over three times the opportunity, as we think about both the premium mix, as we also think about, you know, the square meters or the square feet of coverage.
Three times the opportunity per car?
Yes.
In Advanced Materials business, there's also, the Tritan polymers. Can you talk about Tritan's sort of longer term trajectory and then maybe some of the challenges that it faced in 2022 and early 2023?
Well, I think Tritan is also one of the reasons I'm confident that we're gonna be successful with the circular economy investments.
Mm-hmm.
As we think about the track record, the trajectory, we developed a new monomer for polyesters. For those that don't know, polyesters compete on three attributes today. That's clarity, temperature, and also chemical resistance. Eastman's gonna be adding a fourth dimension, and that's called the circular aspects of sustainability. Competing on those three dimensions, we've been able to grow a business from basically concept to over $500 million . As we think about the growth that we've seen in Advanced Materials business from 2011 to 2021, it had grown from roughly a $300 million EBITDA business to over $700 million, and we expect to get that back on track this year.
Mm-hmm.
In a more conducive environment. Our second plant sold out first, faster than the first, and we're investing in the third plant that we expect to bring on later this year.
Mm-hmm.
With that, we'll also be connecting it to our methanolysis facility, and we're growing into new markets that enables us to go into spaces like medical, cosmetics. These are brands and packaging that want to be associated with sustainability. It's not only polyesters are the future as you think about wanting to be sustainable and the sustainable options.
Mm-hmm.
It's another vector of growth that will accelerate, I believe, Tritan into the future.
Your first molecular recycling plant or your methanolysis plant for sort of late 2023, 2024 is really a Tritan facility. Is that fair?
What I would say is we need, intermediates to supply our Tritan facility, and we had a choice of building a fossil fuel or a sustainable solution.
Mm-hmm.
We can improve the greenhouse gas footprint, plus compete economically long term, by using methanolysis.
Mm-hmm.
That was the key decision. Part of this is consumers. Each of us in the room and, you know, online today are demanding different solutions. We don't wanna see the waste, we don't wanna have the landfill, and we also want to improve the air we breathe.
Mm-hmm.
We can do both of those economically. As CFO, we could have done this 10 years ago, but now with consumer demand, with brand demand, with governments all pushing in that direction, this is the right way to compete long term, and it's in a Specialty set of product lines. The first plant is about our Specialty business that has a decade track record of taking our technology, knowing what customers' needs, and then developing solutions through applications that our customers are successful. There's space for a win-win here, and that's the conviction that I have, is we're not years away or quarters away, we're months away from starting to commission this plant and bring it up in summer of 2023. That's exciting.
The economics of the first methanolysis plant are in some way similar, maybe more attractive to the economics of your traditional Tritan plants. You know, that is what you're doing is you're selling a polymer that has a better environmental footprint that's functionally identical to the polymers you've been selling in the past. Is that correct?
That's correct. You know, depending on the solution, we can have 50%-80% on the high end of better carbon footprint.
Mm-hmm.
We're taking steps out of the process.
Mm-hmm.
Additionally, as we look for different sources of energy. Two, to your point, this is opening up other areas for polyesters to be successful because now we have a solution that has a purpose, and brands wanna be associated with that purpose because that's where they're taking their companies as well. We've talked about, you know, we use Stage-Gates and funnel processes as we drive our Specialty businesses. We have over 1,000 leads with brands, existing customers, but many new customers.
Mm-hmm.
We shared an example last night around Black & Decker hand tools, electric tools, and they're wanting a sustainable solution for how that tool is put together. Those are markets, as you think about other places that you're using lightweight material that has all the attributes that I highlighted.
Mm-hmm.
We're gonna bring a polyester solution that's sustainable, and no one else has that today.
When I think about the new, the new Tritan capacity that will come from the methanolysis process, I could see how you would price it at a premium because it has a different carbon footprint, and there are customers that want that. At the same time, the Tritan volumes in 2022, maybe they were down 4%-5%, something like that. This year, you know, maybe Tritan volumes are challenged because of the weak overall economy. The, the tension in late 2023 and 2024 is that in general, there's a weaker environment for different functional polymers. Maybe that market will rebound because we go up against, you know, destocking phenomenon. At the same time, you'll have better characteristics. You know, is that a fair way to characterize it?
When that capacity starts up, does it replace polymer that you're selling, that customers have right now, and they want a better environmental footprint, or is it much more new customers, or it's difficult to tell so early in the process?
One, I would highlight what we're seeing on the durables front. Eastman's exposure to durables Advanced Materials is not in large appliances. It's more in kitchenwares. It's also going downstream into medical devices. As we think about the 1,000 leads, many of those are into new spaces, like I mentioned, cosmetics. As I think about the opportunity, the potential, Tritan is a small component of the overall polyester opportunity. What excites me is how we're gonna be able to win more than our share as we go into the future and have the sustainable option.
Mm-hmm.
You know, as we were approaching a trade war and COVID.
Mm-hmm
We had just finished our second Tritan plant.
Mm-hmm.
There was uncertainty. We drove it to success, through that end market application growth...
Mm-hmm
The innovation-driven growth model.
Mm-hmm.
When you have that capability of you can offer something new.
Mm-hmm
Or you can offer attributes that your competition can't, and on top of that, you can make your customers successful, that's a brand that people are attracted to. While I do agree with the exit of Q4 and what we're seeing in Q1.
Mm-hmm.
We believe early Q2 that destocking is substantially behind us in that Specialty Plastics business overall.
Mm-hmm.
From that point, it's about, you know, creating our own growth, because that's what's created the success of the last 10+ years.
Mm-hmm
That's what I have confidence in that commercial team and business team of doing.
When you bring up your first methanolysis unit, my memory is that it's 80,000 tons. How long does it take to utilize that capacity? You know, can you do it in a year? Does it take two years or three years? How quickly can you ramp up to high levels of utilization?
Uh-
I get it. The environment's uncertain, you know.
I would highlight, we're gonna be able to process, I think it's roughly 110,000 of, recycle or of polymer that's gonna be recycled through that process. Based on the customer's needs and demands, that can turn into, you know, 100,000 kt-150,000 kt of polymer, as we think about the different blends that can be there.
Different blends. Mm-hmm.
Ultimately, as you think about the first facility, it is that, it is the true integrated into our Specialty polymer business.
Mm-hmm.
The other business model that we have and we're looking towards is providing sustainable solutions to large packaging companies.
Mm-hmm.
I would highlight, you know, the announcement of our PepsiCo contract as a baseload customer to our third facility overall, but second in the U.S.
Mm-hmm.
That's a business model that's based on providing a solution. It's not about a product. To me, it's about a solution, that we have the know-how, the, and the technical capability to help them meet their sustainability goals, to be able to meet the attributes that they need, because mechanical recycling has a finite life. Ultimately, with methanolysis and breaking it back into, you know, at the molecular level and then rebuilding it has an infinite life.
Mm-hmm.
We can also take advantage of those hard to recycle polyesters. That enables us to provide a solution to the brands that need those capabilities as they have to hit milestones.
Mm-hmm.
You know, in different parts of the world, there are already, you know, with waste, there's gonna be taxes.
Mm-hmm.
If your product doesn't have a certain content, then ultimately you will have a tax to pay with that if you can't meet that content level from recycled.
Mm-hmm.
As we think about, I'll call it the keys or the drivers or influencers to push in that direction, plus we have the solution, that's where we're looking to create those partnerships to make this long term. It takes the supply chain, it takes producers and innovators like Eastman, and it will take governments. Things are much more advanced in Europe because of, you know, the supply chain there.
Mm-hmm.
We have confidence that we can both grow a project in France as well as a second U.S. project. We're making steps, you know, through this year to ensure that, you know, we have the conviction to move forward there on all fronts. We're checking the commercial lens.
Mm-hmm.
The operational lens, we will have that insight later this year. We're proving technically that we can produce the product today. We're building out a supply chain where we have over 75% of the feedstock that we need for our first U.S. project, and we're making strong progress in Europe, like with brands like Interzero.
Mm-hmm.
This is a mechanical recycler where we can create synergies. We're excited about ultimately achieving those milestones, and then accelerating that success from there.
The economic models for the second and third methanolysis plants, is it fair to say that those models are pretty different than the economic model for the first plant? In that the first plant is much more the selling of a premium version of your core interesting polymers, whereas the second and third plants, they seem to have more of a return on asset component or more of a return on investment component, or is it not yet clear?
No, I think you've described it, which is the first business model is our Specialty Plastics business model.
Mm-hmm.
The second is providing a solution that ensures that, one, we have a return on the assets, two, that we have consistent earnings over the long term.
Mm-hmm.
It's about good returns.
Mm-hmm
And, you know, at consistent levels. Ultimately, that's what we think, our investors, are looking for, which is that consistent long-term growth and business models, that give you confidence in the level of earnings and cash flow.
Mm-hmm.
Cash flow is something that Eastman has been known for. We believe that we can build all three of these plants with our operating cash flow.
Mm-hmm
As well as have opportunities for bolt-ons and then, return value to shareholders.
You know, when you look at Eastman over a longer period of time, do you expect the methanolysis investments to accelerate Eastman's longer term growth rate of EBITDA? It's really hard to tell because what you're doing is you're taking, you're focusing on this set of growth opportunities rather than a different set?
What I would highlight is, as we think about growing Advanced Materials, you know, I think we've been clear about we are differentiated in where we're investing. It's in Advanced Materials business, as well as we're looking at bolt-ons and organic growth in our Additives & Functional Products business. We're disproportionately investing there. As we think about, I'll call it the circular solutions business model, I think both Mark and I have been clear, we'll look at and assess, you know, what's the best way to maximize shareholder value. You know, if that needs accelerated capital, there are different pathways to achieve that. This is about transforming Eastman, the value for our shareholders, and how we're viewed as a Specialty company in the long term.
I think we've been disciplined with our portfolio. We will not stand still with the portfolio as we go forward. We will continue to look to transition it to more and more Specialty through both organic growth as well as through, you know, leveraging our operating cash flow for add-ons.
When you think about the spending that you'll allocate to the methanolysis plants, has that changed? You know, that is, have you run into inflationary factors or has your original assessment of how much capital you have to lay out, has that changed or have you made modifications in terms of the scale at which you're building?
I think, as we highlighted, you know, on some of our recent calls, obviously we're looking at how we make these in modular so that we can get the economies for a phase one and a phase two.
Mm-hmm.
You know, overall, as we updated how much capital that we think, it'll take to build these, it's increased a modest, roughly 10%, as we went from roughly $2 billion- $2.25 billion.
$2.25 billion. Mm-hmm.
You know, as I think about we're getting ready to finish the methanolysis facility as well as a Tritan facility. You know, as I look at that gives me confidence as we build plants 2 and plants 3. The only new thing that we'll be building is the infrastructure. Ultimately, we can build infrastructure and have built infrastructure all around the world. As you think about that, we're de-risking the scope and the capital with the first project at our largest facility in Kingsport. We get that scale benefit because we get to take advantage of the infrastructure. That's why the returns are also greater than 15%, and while the returns will be a little more modest at greater than 12% as we think about France and a second U.S. facility.
When you talk about sort of phase one and phase two of the different capacity expansions, does that mean that the amount of phase one is smaller than you originally expected, but the total capacity is the same because it will come on in two increments? Is that fair or no?
No, I would highlight that the first phases are still at the original intention levels. Part of this is also how do we, as we've constructed the first facility, how do we think about, you know, the efficiency of the economics for expansions and integrating that as we build the first phase.
Okay. We very much appreciate your thorough explanation of both, near-term prospects and future opportunities, and we look forward to seeing you next year.
Appreciate the opportunity, Jeff. Always great to see you.
Okay. Thank you very much for your attendance.