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spk11: good day everyone and welcome to the fourth quarter and full year 2022 eastman chemical conference call today's conference is being recorded this call is being broadcast live on the eastman website www.eastman.com we will now turn the call over to mr greg riddle of eastman chemical company investor relations please go ahead sir thank you emily and good morning everyone and thanks for joining us on the call with me today are mark costa board chair and ceo
spk13: Willie McLean, Senior Vice President and CFO, and Jake Leroux, Manager of Investor Relations. Yesterday, after market closed, we posted our fourth quarter and full year 2022 financial results news release and SEC 8K filing, our slides, and the related prepared remarks in the investor section of our website, Eastman.com. Before we begin, I'll cover two items. First, during this presentation, you will hear certain forward-looking statements concerning our plans and expectations. Actual events or results could differ materially. Certain factors related to future expectations are or will be detailed in our fourth quarter and full year 2022 financial results news release, during this call, in the preceding slides and prepared remarks, and in our filings with the Securities and Exchange Commission, including the Form 10-Q filed for third quarter 2022, and the Form 10-K to be filed for full year 2022. Second, earnings referenced in this presentation exclude certain non-core and unusual items. Reconciliations to the most directly comparable GAAP financial measures and other associated disclosures, including a description of the excluded and adjusted items, are available in the fourth quarter and full year 2022 financial results newsreels. As we posted the slides and accompanying prepared remarks on our website last night, we'll go straight into Q&A. Emily, please let's start with our first question.
spk11: Thank you. For anyone who would like to ask a question today, you may do so by pressing star followed by the number one on your telephone keypads now. We will now go to our first question from Josh Spector of UBS. Josh, please go ahead, your line is open.
spk00: Yeah, hey, good morning. Thanks for taking my question. I guess first I wanted to ask, can you walk through your step up and your implied guidance from first quarter through the rest of the year? I guess mostly interested to hear how much you see this within your control versus subject to macro conditions changes?
spk17: Sure, Josh, and welcome. We expected that question. I think it's an extremely important one we've spent a lot of time on. First, let's just recognize we're in an extremely dynamic time in this world where it is difficult to predict some of the macro. You've got China in a weak situation but likely to recover. I've seen one article saying there's $2.2 trillion of cash out there with Chinese consumers to be deployed. and how that impacts both demand and energy. You know, Ukrainian war, you've got inflation at 40-year highs and what the Fed's going to do with it. So there is a lot of uncertainty. And the fourth quarter was incredibly challenging. As we look at Q1, you know, many of those challenges, you know, continue, whether it's the destocking and durables and BNC that still needs to work itself out, auto net recovering. And, you know, the stable market's fortunately getting past destocking, but not growing yet. We'll certainly see some raw material benefits in the first quarter, but not much in the way flow-through works. And seasonally, energy is high. So the first quarter has a number of challenges, not to mention pension and variable comp. So as we look at the step-up into the second quarter and through the rest of the year, there's really three key elements. To your point, the one that's most directly in our control is taking up $200 million of cost, net of inflation, And not much of that's really helping us in the first quarter. There's some in the non-manufacturing activities that we're executing on, but even that is being implemented through this quarter, and the operational improvements flow into inventory, and those benefits won't flow out until we start moving into the second quarter. So the vast majority of that $200 million gets spread across the three quarters, so that's a big step up, Q1 to Q2. The second one is how will spreads improve? Now, we've had tremendous success in being disciplined and successful in managing our pricing with just great commercial excellence across all parts of the company. It's pretty extraordinary when you think about the amount of inflation that we faced. Last year was about $1.3 billion in inflation, where at the beginning of the year, we didn't really expect that much inflation if you go back to our January call of last year. And if you look at it on a two-year basis, it's $2.4 billion inflation. If you even go back to 2019 to 2022, $2 billion of inflation. So significant amount of inflation, and we've caught up with most of that across that multi-year timeframe. We certainly kept up with it through last year. So as you go to each segment, the story is a little bit different. So advanced materials is probably the most important one to start with because it has a pretty significant tail When you think about it, they had one of the most challenging raw material and energy environments across our segments, with VAM and PVOH up 45 percent relative to 21PX, up 40 percent, energy up 70 percent. Now, they kept up with that inflation with 13 percent increases in price, but they didn't improve spreads. And if you go back to where we were at the beginning of last year, we had the intention of recovering spread compression in 21 of about $100 million. Now, we didn't get that, but we did keep up with inflation. And we're starting now into this year at a much higher altitude with the prices that we've achieved in keeping up with this inflation. So as we look at this year, we see that this segment is going to have a pretty substantial tailwind in raw material and energy. And we're not trying to be too optimistic about this. If we just use where raw materials have already come down in BAM, PVOH, and PX for the first quarter of this year, and think about the energy off of the natural gas forward curve for the year, that's actually quite a bit more spread tailwind than what we would have got last year, that $100 million, because of the higher altitude. So that's part of it. And again, that shows up as a step up as you move into the second quarter. There's a bit of it that flows through in the first quarter, but most of that is in the second quarter through the fourth. With fibers, a much shorter, cleaner story, which is you – Had a lot of challenges in inflation here as well, especially in energy. And the market, the customers have moved to being worried about security and supply. So we've been very successful in increasing prices last year as well as contractually securing much higher prices this year to make sure the margins are back to a sustainable level to support our customers. And that's, you know, a $275 million increase. outlook to earnings this year, which is a significant step up, in fact, enough to offset the spread normalization and chemical intermediates that we expect this year. And then A&P will have modest spread improvement as well, but not as much because they managed spread quite well last year, so they have less upside this year. So when you put it all together, that's a lot of spread improvement, and a lot of it flows in sequentially into the second quarter, so that's a big step up. The third segment is volume and mix, and this is more of a mix of what happens with the economy versus what's in our control. D-stocking at some point is going to end. We're assuming right now that it predominantly ends by the end of this quarter for durables and BNC, and so you get a step up of demand going from D-stocking levels, which are pretty severe, to something less than that. And the stable markets, we can already see are moving past that and have some amount of growth from those markets. Importantly, innovation is something in our control, and we've had a lot of success last year despite our challenges in the economy and securing a lot of new business wins that are going to help this year. And again, that doesn't really happen during destocking, so you've got to wait to get that passed to you to start seeing some of that benefit. And then, of course, there's China recovering. But we're being very conservative and not assuming much of that in our sort of outlook that we've provided until we see more proof of it. So the bottom line is there's a lot of step up across these three factors. Many of it is in our control. But as you look at the guidance we gave you for the year, given the outlook for the first quarter, I think it's appropriate to sort of look at the lower half of that guidance for how we're going to perform until we get past this quarter and have more insight on all these factors.
spk00: Thank you.
spk11: Our next question today comes from David Begleiter with Deutsche Bank. Please go ahead, David.
spk06: Thank you. Good morning. Mark, just on Fibers, can you talk to the sustainability of this higher level of earnings going forward?
spk17: Hi, David, and thank you for the question. It's one of the bright spots of the year and one we're excited to talk about. Fibers has obviously been on a tough journey since 2014. when the market structure loosened up for a variety of factors. But the situation has evolved and changed over time. First is on the demand side. We historically thought about demand declining in the 2% to 3% range, but what we've seen in the last few years is it's only declining around 1%. And partly that's driven by the strength of the heat-not-burn segment of the marketplace that is growing at 15% a year, offsetting some of the other decline on the cigarette side. China is also stabilized to being pretty much flat to slightly up in demand over the last several years. So you've got stabilization demand, the heat-not-burn market growing, and the heat-not-burn devices require quite a bit more tow per smoking experience than a cigarette. So that's also helping. If you look at it in the last decade, we've only been down about 10% in demand as you sort of put all these factors together. And we uniquely at Eastman also have the benefit of the textile growth, providing stability and margins to our business. On the supply side, there's also a lot that's changed in the last decade. So you can see about 15% of capacity has been shut down and repurposed. That's assets that have been retired, the impacts that Russia's had on capacity in their country, as well as us repurposing some of our assets towards the textiles growth. And the move to like the slim cigarettes, especially in China, as well as CO2-free cigarettes, has actually had a significant impact on the effective capacity. It's much more difficult to make those products, so you lose a lot of capacity, at least 10, maybe 15% of capacity is lost with that. So the industry has gone, when you put those factors together, to being pretty high in capacity utilization, where the conversations and the focus with our customers is how we are a reliable, secure supplier. for their needs. You have to remember the value of tow and the final price of a cigarette is a very small percent. So making sure they have it to sell their product at very high margins is incredibly important to them. And that's now the focus. So that's allowed us to get quite a bit of price up last year, so already good momentum, seeing some of that benefits already in the fourth quarter of last year that indicate the trajectory we're on for this year. So we do view these factors as sustainable. TAB, Mark McIntyre, And and improving the earnings, you know quite a bit, so I would say this year is going to be at least 10 and $75 million when you put all those factors together. TAB, Mark McIntyre, And the other thing that it does is give us a much more solid base for overall say most extreme and very strong cash flow to support the investments for making in the circular economy, not just the polyester side, but we have a huge number of. opportunities on the cellulosic side with our recycling capability to take plastic waste into that product, also being biodegradable, is allowing us to realize a lot of growth in our NIA textiles we told you a lot about. You're going to hear a lot more this year around the Venta for food service that has a huge market opportunity to replace polystyrene and the microbeads. So the cellulosic stream is shifting to being pretty attractive and sort of, when you put it all together, growth businesses.
spk06: And just on cash flow, you mentioned an increase to $1.4 billion this year due to a number of actions you're taking. Can you just unpack those actions you're taking and specifically working capital release this year?
spk18: David, good morning. This is Willie. I would highlight, to your point, basically in 2022, of course, the inflationary pressures consumed another roughly $300 million in working capital. As we look at 2023, we see quite an absence of that inflationary pressure, as well as we optimize the inventory for the new demand levels. We think there's at least $300 million on that front that we'll benefit from on a year-over-year basis. Also, if you think about cash earnings, I would say you need to look at higher cash earnings year-over-year as we normalize for the pension, and also as you normalize for the variable comp coming back to normal. Those two items should put us at 1.4 or above, and higher taxes will bring us back down to the 1.4 level. So that's a high-level bridge for you.
spk06: Thank you very much.
spk11: Our next question today comes from Alexey Yefremov with KeyBank Capital Markets. Please go ahead, Alexey.
spk15: Thanks. Good morning, everyone. The price of virgin plastic has been very volatile lately. So has the interest in recycled content that you're negotiating changed at all given lower virgin plastic prices and perhaps weaker demand?
spk17: So good question. We haven't seen any real change in people's interest when it comes to recycled content. If you think about it, you know, the brands have set out very aggressive goals in 2025 and 2030. And the pressure out there for why they set those goals is just increasing, not decreasing when it comes to plastic waste. So consumers are very sensitive to this topic. There's obviously a lot of environmental NGOs putting a lot of pressure on this, and politicians both in Europe and in the U.S. are doubling down on sustainability, climate impact, plastic waste, and the policies that they're putting forward. In Europe, you've got extensive policy around plastic waste reduction and recycling that was passed a couple of years ago, and the rules are being implemented now that requires you to have 30% recycled content in your packages if you want to put them on the shelf in 2025. and taxes for whatever doesn't have recycled content in it. So there are significant economic drivers in Europe that are driving brands to be committed to that. In the US, the NGO pressure, the social media pressure on brands is pretty high. And you now have at least five states already passing some version of legislation that's driving change like what's going on in Europe. And some of those are quite big states like California. So the policy pressure and all the requirements to do it are there versus pay a tax. And from a brand, it's easier to be sustainable than pay a tax from a choice point of view. So the brands have these commitments. The other challenge I've got is the mechanical industry is not remotely capable of supplying the recycled content that's needed by this 2025 timeframe back into food grade. A lot of material gets recycled down into other applications like textiles and park benches, etc., but to get it back to food grade at that quality, mechanical recycling just can't meet these goals. So the need for our capability is very much there. The brand engagement is very strong. And, you know, we've seen tremendous success already on the specialty front, as we've shared with you with the thousand opportunities that we're pursuing with customers around our first plant here in Kingsport. But on the PET side, like the Pepsi contract that we just accomplished, you know, we see that you're an essential part of actually solving this crisis. Thanks, Mark. Yeah, I just forgot to mention one thing. On the RPED, if you're looking at short-term demand and it's dropping, that's actually not about packaging. It's the carpet people and the textile people having such low demand and they were also buying clear bottles, and they're not buying those clear bottles anymore for their feedstock. And so that's why short-term demand is coming off as purely what's going on in the durables and building construction sector. It has nothing to do with packaging.
spk15: And just to follow up on advanced materials, Mark, do you need raw materials to come down from where they are today to get to your targets of being meaningfully out versus 2021, or are you assuming – sort of current spot raw material prices prevail for the rest of the year?
spk17: Yeah, on the spread assumption that we've got and how advanced materials improves, we're assuming that we, you know, don't have another inflation crisis like we did last year, right? So van and PVH prices were extraordinarily high because the van producers, half of them in the U.S. were unable to operate for five months. So we had prices for some periods of the spring and the summer were double because of that extreme market tightness. And we had to buy a lot of very high-priced material from the spot market out of Asia to continue to supply our customers. So getting rid of all that market tightness, which is where sort of VAM and PBO prices have now gone to some degree. I think there's still more coming down, but we're just using where we are today. for this quarter in how we project spread improvement versus last year. Same with PX. We're not assuming a dramatic improvement relative to where PX is now. You could look at 6 million tons of PX capacity coming online this quarter in China, and PX prices could get lower, but that would be upside. We're not banking on that in our outlook. We are assuming energy costs get lower, and as I said, we're using the forward curve on natural gas for that. But that's what's in the sort of outlook we're giving you for this base case. You know, could things be higher? Sure. But that would require, you know, pretty soon to move up in oil from the sort of $80 to $90 range we're in. And I think we feel good about this base case given sort of the world that we're in and the macroeconomic challenges that we face right now.
spk15: Thanks a lot.
spk11: Our next question comes from Michael Lighthead with Barclays. Please go ahead, Michael.
spk05: Great. Thanks. Good morning. First question, just on the circular plastic build-out, a bit of inflation so far, and you still need to break ground on the second and third facilities. So can you just talk about what you're doing today to help make sure we don't get further CapEx creepier over, say, the next year or so?
spk17: Sure, so there's a lot that we've been doing, you know, to manage a difficult capital construction environment last year for the Kingsport plant and have done a great job in keeping those, you know, costs under control. A little frustrated by the challenges in getting craft labor to get the plant, you know, sort of completed here, but the cost control is working well. And we're confident we'll get this plant up and running early summer. When it comes to the next two projects, There are a couple things we're doing. One is some of the commentary we provided in our prepared remarks about how we're building these plants. So we had a design for building these plants where we were always going to start out with 100 kmT of capacity, but designing them up front to expand to be 50% bigger when you add it on the second phase. We've switched to taking a more standardized approach to sort of say, look, we're going to build identically what we're building here in Kingsport in France and in this second U.S. project with Pepsi. So a very standardized approach to leverage all the engineering, procurement, construction approach to sort of build a replica of what we're doing here in a very efficient manner. So that's one way we're going to help keep the capital costs down. Now, to be clear, we're still spending capital at the site to make sure the infrastructure is in place for what we will do is double the capacity at each of these sites over time after we get the first modules up, if you will. So we're actually sort of expanding what we think we can deliver between now and 2030, doubling it versus go up 50%, but we're taking a more standardized approach. And this also allows us to take a lot of insights we have around how to improve the technology on energy efficiency and feedstock robustness into that second phase in this more modular approach. So there's a variety of benefits. The other thing we haven't really factored into our capital estimates yet is a slowing macroeconomic environment should create some deflation in the construction industry. We're already seeing it in the price of steel and pipes and things like that. Some materials are going to get cheaper. I don't think the cost per labor hour is going to go down, but I do think we're going to have more availability of resources, higher quality resources, so productivity will improve. and materials and equipment will probably come off in price. So that will help also keep control on the capex numbers.
spk05: Great. Thank you for that detail. And then second, just on Fiverr and the new contract there, if I remember, most of your tow business was moved to long-term contracts a few years ago. So is this new pricing just reflective of a portion of your current business? So we'll see further resets over the next two years? Or is this a big reset for almost all of your business here today into 2023?
spk17: It's a big reset for most of our business. So about two-thirds of our business is on contract. A lot of that is multi-year. Some of it is annual. And even with what is not on contract, it's pretty firm agreements when it comes to volume on an annual basis. So the nature of when all these contracts started to turn over happened to be last year into this year that gave us the opportunity to have these negotiations and increase these prices. That's why you're seeing this all happen now as opposed to a year ago when the market was already starting getting tight, but we didn't have the contractual flexibility to make these changes until now. Great.
spk10: Thank you.
spk11: Our next question today comes from Vincent Andrews with Barclays. Sorry, Vincent Andrews with Morgan Stanley. Please go ahead, Vincent.
spk05: Okay, thank you. Good morning, everyone. Mark, could you talk a little bit more about, I guess, two things. One, I was struck by the consumer durables comment in advanced materials where your volume was down 40%. That just seems like an enormous number. So could you just talk a little bit more about how that's actually impacting advanced materials business and what the sort of cadence of improvement is going to be? And then also, could you just sort of detail a little bit your assumptions about the auto business for 23? I think I read that you've got expectations for a sequential decline from 4Q to 1Q and some modest growth overall in 23. But is there anything changing about the customer mix of your products for 23 in terms of the cars they're building and the tech that's in them or anything like that? Just given it seems like the automakers are starting to focus on different things in a more recessionary environment.
spk17: Sure, so both very relevant, important questions for us. The consumer durable business is incredibly important markets where we sell our trade at very high margins and have had tremendous growth over the last decade. What I can tell you, and we've been doing a very deep dive on what's going on in the fourth quarter, as you would expect, it's entirely market-driven. When you look at some of what's going on in the specific parts of the market we're in, which is small appliances, housewares, electronics, that part of the durables world has just been declining really for quite a long time. So the underlying market started declining in the second quarter of last year modestly. And then as people started switching to travel and leisure versus buying a lot of durable goods, you saw that in the announcements from Walmart and Target if you go back to May. And what we didn't really, you know, fully appreciate is just how much, you know, overstocking the retail sector was doing and ordering from everyone who could supply them because they were so short of material and then suddenly it all showed up and they had a lot more inventory to get out. And with inflation being so high, you know, the consumer durable sector is the first thing people stop buying. And you can see that in the semiconductor data. You can see that in the electronics, you know, where they're dramatically down. So when we look at what's going on in the end market, you can see a lot of evidence at the primary demand level, demand being off, but not nearly as much as us. So the retail sales data will show our direct end markets might be off 10%, 15%, and we're off 40%. So the rest of that is, by definition, destocking. And that's because of these retail inventory channels that are so overstuffed. It just took a while to get that in momentum to try and pull down production through the entire chain. So it's a challenge. And it's continuing into the first quarter. And we expect it to be equally challenging this quarter as the fourth. But at some point, it's going to end. And from what we can see so far, we think we will get this under control mostly by the end of this first quarter. And then you've got a big step up in demand with the stockings over to sort of lower demand than what is normal, but still a lot better than 40% down. And that's part of the step up in earnings for advanced materials as you move into the second quarter. On the auto side of demand, we're being, I think, conservative, probably a little bit more conservative than what the consultants would say about demand being slightly down in the first quarter and not improving much for the year. So if we're wrong about that and production improves more, that's a lot of upside because those are very high value markets that we serve in our earnings. But the shift in the market, to get to your question, Vince, is really important. That shift is very favorable to us. So We've now got about 10% of our sales going into EVs at very high margins. You have to remember that each EV is about three and a half times more value for us than an ICE car. There's a lot more class in an EV car and a lot more functionality they're putting in it from acoustics to solar rejection to HUD's up display, et cetera. So the value capture there is tremendous on a mixed lift basis. So the EV trend, and we're aligned with the top players on this, with our with our products um is a significant you know opportunity i would also say heads-up display in general not just in evs but all cars have a lot of growth momentum it was a big mix-up with last year and even though down market and we we think that trend is going to continue and accelerate into this year as they resolve the semiconductors there's a lot in the hud um there's a lot of times if you were trying to buy a car last year They wouldn't let you order the HUD because of semiconductor limitations. That's going to resolve, and so we see the HUD market, you know, picking up. I'd also note that that's in the layers. The paint protection business in the performance films business is doing fantastic. Very strong growth, very high margins. So we've got a lot of mixed uplift relative to the underlying market in auto that helped us offset some of the challenges last year and certainly will be a significant lever versus last year into this year.
spk05: Thanks so much.
spk11: Our next question comes from Jeff Sikorskas with JPMorgan. Please go ahead, Jeff.
spk02: Thanks very much. Of the $200 million in cost savings, how does it split between SG&A and cost of goods sold?
spk18: Good morning, Jeff. Thanks for the question. I would highlight we have two major pillars within this. We've highlighted roughly 125 million of this we'll be taking from our operations, which would include manufacturing and supply chain, and then 75 million, I'll call it more in the non-operations, which would be SG&A and primarily. So I'll break it down a little bit. So on the 125 million, what gives us confidence is we expect more efficient operations as we run at lower rates due to moderating demand. As you think about the supply chains, as well as our planned and unplanned schedule last year, we expect significant improvement. I also think we've demonstrated, even back to the COVID environment, that we also leverage a pretty variable cost structure when it comes to leveraging overtime, contractors, and we're already taking the action at the end of the year, starting in the Q1, to change that cost structure to the current demand levels. And we're very focused on operating at the most efficient level from an operations standpoint as we assess the demand environment that Mark has highlighted here. On the supply chain and the network optimization, We see $30 to $50 million in that space as you think about us having to air freight, use inefficient modes on a year-over-year basis, so a substantial increase on that front. Also, as you saw in the prepared materials, we expect to have roughly 25 million lower maintenance year-over-year. We're also looking at our asset footprint, and as you saw, some restructuring charges there as we look on a go-forward basis. So that's on the manufacturing front. On the non-operations, I would highlight we've already reduced discretionary, and we're starting that here in Q1. So as you think about external spend versus our workforce reduction, that's about 50-50 from a cost impact on a year-over-year basis.
spk02: Okay. So these are net reductions. So does it mean that SG&A should go down $75 million all in in 2023 exclusive of the $110 million left in pension expense? And can you Can you explain what the event was that caused the $110 million lift in pension expense?
spk18: Okay, so let me break that into a couple of parts for you, Jeff. So, on the pension, I'll hit that first. That will not impact SG&A or manufacturing. It's separate on our income statement within the event. There's two drivers, as you think about, pension and they're equal. So the pension interest to cost, we had lower discount rates. You can think about 200 basis points on the interest cost in 2022. That will increase to over 500 basis points. So 300 basis points change on the interest cost. Our assets are lower year over year. As you think about the market basically being down about 20%. versus our assumed return of about 6%. That's about $50 million each is what I would roughly say there. On the SGA question, our bearable comp will be normalizing, so that will be a headwind on a year-over-year basis that we expect that to be substantially offset by the $75 million.
spk17: So, Jeff, one way to think about sort of a waterfall across the businesses and the cost actions is the cost reduction actions are sort of equal to offsetting both the pension costs, the return to variable comp, and inflation. We put all that sort of together. So sort of fixed cost structure, if you will, is flat. The fibrous improvement offsets the normalization in CI. So you have to have a point of view that the two specialty businesses are able to deliver earnings growth over the annualized FX headwind for this year. That's another way to sort of think about how we get to sort of flat EPS, including pension, is those specialty businesses have to offset basically inflation this year and growth relative to last year.
spk02: And we've given you a waterfall on sort of where that growth comes from. Is the pension expense cash or non-cash?
spk18: It is non-cash, so there's no impact on our cash flow.
spk17: That's why we built the guidance, what we did to talk about growing earnings off the segments.
spk10: Thank you.
spk11: Our next question today comes from Frank Mitch with Fermium Research. Please go ahead.
spk07: Yes, good morning, and Willie, I'll give you a shout later on and talk about how Fermium can help on your pension plan asset returns. Mark, you mentioned in the prepared remarks that you're going to keep the cracker down through the first quarter. Can you talk about some of the factors and the outlook that you're seeing on the CI side of things, and should we expect that the cracker will come back up in Q2?
spk17: Yeah, our expectation is the cracker starts to come back up in Q2. Anyone can do the math on sort of cracking spreads right now. Last year, remember, our crackers are a bit different. where they're highly oriented towards propane versus ethane. And we're trying to make as much propylene as we can and as little ethylene as we can, you know, with the investments we've made in, you know, switching into RGP, which we're doing as much as we can, because the ethylene market is very economically challenged for basically a cash cost on bulk ethylene. But as the propylene markets are starting to improve, you can sort of see that through January, you know, the spreads, you know, the crackers are recovering. As we go through this quarter, that feeds into our expectation that that is likely to continue or hold, and we bring the cracker back up. Demand right now continues to be challenged, so we don't really need as much of the output, which is why it's easy to sort of make this decision in the moment for both the demand and a cracker spread point. But we expect demand to get better in the second quarter as well as the spreads to continue to sort of stabilize at these better margins. So that's sort of how we're looking at it at this stage. You have to remember that propylene prices are well below any sort of historical norm to oil. They're very depressed. If you go around that analysis, it's pretty extraordinary. So we're really just trying to get back to a more normal relationship to the price of oil on propylene.
spk07: Terrific. Thank you. And if I can ask about the second methanolysis unit in the U.S., you indicated in your remarks that You've made progress on permitting, but you haven't selected a location as of yet. Can you just talk about how that process plays out? I mean, I don't doubt that communities would welcome, you know, a methanalysis unit in their locations, but can you talk about a little more color there?
spk17: Sure. So, first of all, we're really excited to, you know, have this relationship with PEPC that baseloads this facility and gives us the confidence to move quickly on this project. We are looking at multiple sites. As you might imagine, we're looking at existing sites we own and whether we can leverage all that brownfield and existing infrastructure cost down in Texas. But we're also looking at some other brownfield sites in some other states that could be attractive and evaluating the capital efficiency of each of these sites, the feedstock benefits of each site. as well as the incentives that different states are willing to provide to promote investing in circular economy and playing a role in solving this environmental challenge. And the engagement, frankly, across the states has been really high. And as you said, I think they're all quite interested and excited to sort of participate in this kind of a green project. But we haven't finalized that. I'm hoping within the first half of this year, we'll have that finalized and then start moving very quickly on the, you know, so not just incentives, but the permitting and the site development and everything else. The advantage of our new sort of standardized approach in building these plants allows us to start the engineering now without knowing what the site's going to be. So, you know, we're already spooling up engineering for this site and designing it. And then, you know, we'll do, you know, from what is, you know, what we call inside the battery limits, the actual operating units of this plant, the sort of infrastructure will obviously be dependent on which site we finally select.
spk07: Very helpful. Thank you.
spk11: The next question comes from Kevin McCarthy with Vertical Research Partners. Please go ahead, Kevin.
spk03: Yes, good morning. A couple of questions on your capital deployment. So in the prepared remarks last night, Mark, I think you mentioned your methanolysis Investments in the aggregate would cost $2.25 billion, which is up about 10% relative to your prior projections. Can you talk about how that flows through? Is it going to be rateable over the next five years or some other shape? And then related to that, are your returns... still the same? In other words, are you able to perhaps extract a larger premium to offset the higher project costs? And I guess more broadly for Willie, do you think CapEx will run 700 to 800 million over the next several years? Or again, is there a different shape to that as you execute on these investments? Thanks very much.
spk18: Kevin, thanks for the question. Yes, I would highlight, you know, here in 2022, we've already invested approximately $300 million as we think about our circular investments that we highlighted in the prepared comments. So, as you think about, you know, approaching $2 billion over the next, you know, three to four years, in 2022 or three, we're increasing our CapEx budget to $700 to $800 million. That includes a step up on a year-over-year basis. And, yes, as you think about a normal, I'll call it a large capital curve, it will definitely be over $800 million through that time horizon and probably would peak, you know, around 1 to 1.2. Okay. And then we market. As I think about capital allocation. Sure, go ahead.
spk17: You're talking about the returns? We didn't answer that question.
spk04: Yeah, I was just going to follow up on that. I think in the past you talked about 12% plus.
spk17: Yeah, so on the return front, to be clear, what we announced in the prepared remarks today around the design of the facilities is the same as what we had in our economics back in 2021 innovation phase. So the first phase was always going to be around this 110,000 tons of waste being processed. And so the $450 million EBITDA has not changed, and we feel more confident in it as we're actually securing prices with contracts and securing feedstock, both its availability as well as what it's going to cost supporting those economics. The capital cost being a little bit higher than what we had talked about, that sort of 10% increase that we discussed in our prepared remarks, don't affect the returns. We said our returns were above 12% for the second and third project, above 15% for the first project. We said greater than. We have room to absorb some of these challenges because you always expect them to happen, frankly, when you're doing these kind of capital construction projects, and we always want to make sure we have robust plans for the economics to deliver returns.
spk03: Okay. Very helpful. Thank you.
spk11: Our next question comes from Matthew Day with Bank of America Merrill Lynch. Please go ahead, Matthew.
spk08: Good morning. Thank you. Wanted to miss this, but if we're looking at the Kingsport Methanalysis Unit, can we just walk through the progression from cost to profit? You know, how much commissioning cost is in 2023 numbers? What do we think for how that moves to profit in 2024 and getting back to the full run rate earnings on that facility?
spk18: Yes. So I would highlight, as you think about the startup, we're talking about roughly $35 million, including I'll call it the depreciation as it starts up in the back half of the year. So as we think about the first project, You should be getting to a more normalized run rate of growth in 2024. And by the end of 2025, we would expect to be close to the full run rate of the plants, which we've highlighted could approach roughly $150 million per project.
spk08: All right. On that end, would that mean that 2024 is just neutral, or would you see EBITDA? Just a question. You don't really talk much about buyback for next year. I know CapEx is going up, but it still seems like maybe you'd have $200 million, $250 million after dividend cash flow. Do we assume that goes to buyback? I mean, your leverage is fine. Can you do in excess of that?
spk18: Yeah, so definitely we expect 2024 to be accreted from our Kingsport Circular Methanolysis Project. So We're confident in the progress. You'll see revenue here in the back half of 23. That turns into earnings and growth in 24 and approaching those run rates as we expect these plants, given, of course, the market excitement that's around that and the 1,000 weeds that we're already working on. As you think about on the capital front versus share buybacks, So, yes, we're on a capital allocation. Our priorities remain the same. We increased the dividend here in the fourth quarter for 2023. Also, as we think about $700 million to $800 million of CapEx. And we're looking at prioritization of bolt-ons versus share repurchases. We're going to always fully leverage our cash flow to give shareholders return. So there is that capacity, and we will put the cash to use.
spk17: We always have this debate around best uses of cash on a principal basis. When we look at the circular platform, the capital we're deploying there has substantially better returns and valuation potential for the company than buying back stock today, and we think that's the appropriate way to deploy the capital versus buybacks on that front.
spk08: Sure, but that's not contemplated in the earnings guides, right? What is it? What? Any accretion from like a deal or a buyback or anything like that? That would just be upside.
spk18: So just to highlight, obviously we executed a billion dollars of shared buybacks in 2022, both from our operating cash flow and the divestiture proceeds. So we will have what we call an EPS accretion as a result of the four-year benefit from that. Right now that's primarily offset by higher interest expense.
spk08: Understood. Thank you.
spk11: Our next question comes from Mike Sison with Wells Fargo. Please go ahead, Mike.
spk09: Hey, good morning, guys. Mark, just one question. You spent a lot of time over the last several years transforming the portfolio to more specialty assets. And when you think about the performance of the second half, kind of the start to the first quarter, what can you point out to folks that that demonstrate that maybe the performance has these special characteristics, or maybe it's more the bounce back in the second half, and clearly your multiple isn't where it should be if that's the case. Just curious what your thoughts on that.
spk17: Sure. So, first of all, we think we've made tremendous progress in improving our portfolio over the years. We've obviously divested a lot of commodity businesses, acquired some great specialty businesses. In the past, if you go back to that 2011-12 timeframe as well through the acquisitions to 2014 and the divestitures more recently and optimizing portfolios, I think we have a very good track record in portfolio discipline. I think last year, as you look at it, was a uniquely challenging year for two reasons that you have to consider in judging a history and a future of this portfolio. Obviously, The fourth quarter, it turns out, was the entirety of the earnings decline from a volume and mix point of view. So we were actually flat in volume and mix leading up to the fourth quarter, and the entirety of the volume mix decline was driven there. And because of some of the very unique operational challenges we had last year, those limited our ability to deliver growth, especially in advanced materials. So those two factors sort of constrained what was, you know, on track at the beginning of January before the Ukrainian war and rapid inflation and everything else was going to be a really impressive year of earnings growth. So I wouldn't sort of over-torque on trying to interpret too much into 2022. You know, our challenge and our proof point will be if we deliver this performance that we've just, you know, sort of suggested in our outlook discussion today, You know, in this kind of challenging economic environment, that's a really strong endorsement about the quality and strength of the portfolio to manage, you know, through these challenges. There's no question, you know, we create a lot of value in markets that have economic sensitivity, whether it's BNC or durables or auto. You know, auto all last year was at recession levels, right? You know, 80% below 2019 is not a good year for auto demand. and we managed to actually still do reasonably well in that business on the volume mix side. So I think we feel really good about, you know, the quality of the portfolio from a volume mix point of view and its ability to deliver innovation and growth through all kinds of, you know, platforms, not just the big circular platform we've been talking about, but Cellulosix, you know, has probably $200 million upside when we go forward over the next three, four years. And then the interlayer's business, as I discussed earlier, has a tremendous amount of growth. PPF is great. CodingAddis has a lot of sustainable introductions to the marketplace. Semiconductor, a leverage we have in hyper-resolvents. So growth innovation is very much there, as especially business should have, to deliver good results. Margin stability actually is, you know, on the spread side, quite good. When you look at the portfolio and how it combines together to deliver steady spreads at the variable margin level, and we've demonstrated very good commercial discipline. So what you really got last year is a manufacturing recession in one quarter and a huge currency headwind for the year, and then some limitations on how much growth we're going to have with some one-off operational issues. So I don't think there's any lack of differentiation in this portfolio or quality of it. And I think, you know, as we get through this year and start delivering, you know, pretty significant growth next year, assuming we put this recession behind us, is going to be, you know, very attractive for owners.
spk12: Great. Thank you.
spk11: The next question comes from John Roberts with Credit Suisse. Please go ahead.
spk14: Thank you. You had an ethylene propylene flex project for Longview. Has that been delayed? And if you had had that in place, would you have still shut down the cracker?
spk17: So we're not yet constructing that project. We are completing the licensing and the early engineering work around being able to pull the trigger on that project as soon as we feel it's appropriate. You know, we have a lot of requests for capital across our portfolio. Back to the valuation discussion I just commented on, it's not just circular that has a lot of capital opportunities for very attractive returns on investment. Our whole specialty portfolio has those opportunities as well. And, you know, while certainly the current economic challenges are there, we don't, you know, see, you know, a lack of growth opportunities across our portfolio on the specialty side. those you know get priority call on capital relative to the ethyl propylene investment it's one that we will for sure do when it's at the right time but we're going to have to be thoughtful about how we manage our overall capex budget um and to answer your question if e2p was in place uh yeah we would not be uh we would not have uh you know left this cracker down remember we had it down for maintenance we just didn't bring it back up um after we completed the planned maintenance um and uh And we would certainly have been down for the maintenance in Q4, but would have been switching to E2P right now.
spk10: Thank you.
spk11: Our next question comes from Lawrence Alexander with Jefferies. Please go ahead.
spk16: Good morning. Two quick ones. First, on the renewables capacity, will that inventory build show up on your P&L, or will it be separate? And can you give a sense for the magnitude? And secondly, on the end market comments that you're hearing from customers, I guess it looks from your presentation as if the overall theme is an industrial recession driven by destocking to recalibrate, but underlying demand is pretty stable outside the construction markets. How confident are your customers on that, and when do you think they need to – and how much warning do you think you would have if they need to recalibrate?
spk17: So, I'll let Billy take the first question.
spk18: I'll take the – Sure. On the Kingsport Methanolysis Project, obviously, we've built out a supply chain. We already have the key raw materials and recycled materials here. as part of our inventory here at year end as we're preparing for startup next year. So you can think about there's no significant impact of transitioning from fossil fuel feedstocks to recycled content as we go from 22 to 23. As we think about our projects, second US project and the project in France, again, we could have different operating models in the regions, but those are not significant working capital bills.
spk17: When it comes to your in-market question, you need to think about in-market exposure in three buckets. The one that's most impacted by this sort of manufacturing recession is durables and building construction, the 40 percent down in durables as we talked about earlier. 30% down in building construction in the fourth quarter and AFP. So those markets are being very heavily impacted. And that destocking relative to the retail data is pretty significant relative to in-market demand, which is still quite weak. So there's that. We do think destocking, by definition, has ended at some point. It's hard to say exactly when, but we've told you what we're assuming, and you can factor what you want to believe into the models. When it comes to auto, auto demand is already at recession levels all last year. So that second bucket, which is a huge driver of profit for the industry as well as for Eastman, probably has limited downside and more upside as we go through this year, even though we are going into an economically or already in an economically challenged area where consumers have discretionary choices on where they want to spend money. So we do think that's going to, you know, sort of be stable and sort of modestly improve. And within that mix, I should have also said earlier, you know, we are levered to the luxury market with all of our products because they're very high value products that we're selling. And that part of the market is likely has held up better last year and certainly going to, I think, hold up better this year in sort of these economically sort of expensive times when it comes to interest rates. And then the third bucket, which is about half of our revenue, is what we call our stable markets. This is medical, consumables, ag, food, feed, all these sort of markets that are water treatment that are very stable. Now, we saw quite a bit of destocking even in these stable markets in the fourth quarter across the entire company as people were trying to get rid of high-cost inventory, generate cash for themselves. So that was a big part of the headwind too, you know, less than a percent basis, but, you know, happening everywhere. as part of the challenge. There we see, you know, that destocking playing out because their markets are stable, so there's not a lot of destocking they can actually do. So, you know, that starts to really help stabilize as we go through this quarter into second, you know, the overall revenue base across the company.
spk13: Thank you. Let's make the next question the last one, please.
spk11: Of course. Our final question today comes from a line of PJ Juvica with Citi. Please go ahead.
spk01: Yes, hi, good morning. Thank you. And thanks for taking my question. So, Mark, on methanolysis, you mentioned your capex is up 10%, but you don't expect a huge change in the returns you expect. Are you passing on that increased cost to your customers? And also, you know, the plastics are cyclical, and so if you want to get steady returns there. Are your customers willing to take the cyclicality of the plastics and volatility so that you can have steady margins?
spk17: Yeah, so I think from a spread point of view, the way we're contracting into the P&T market is with what we call our circular contracting model. We're going to provide steady spreads between the cost of feedstock and energy and the price of materials. From a spread point of view, we expect to have quite good stability, think air gas company kind of model. Demand, of course, is still subject to in-market demand. When it comes to the volume, there's always going to be some variability, but we're going into packaging, into consumables, so the variability in that volume on an annual basis, year over year, is pretty stable. I don't have a lot of volume concerns there. You know, when it comes to the specialty side of this circular platform, you know, we're not changing the in-market, you know, sort of structure in both demand or how we do pricing. We're just adding recycled content as another dimension of differentiation to Triton and all the other copolyesters into cosmetics and everything else we're selling. So we'll still be sensitive to demand changes when it comes to the circular platform that we'll be capturing you know, higher margins, you know, relative to what we, you know, currently realize in these products and growing total volume quite fast, right? One of the reasons we win the marketplace is high value growth driving mixed upgrade against fixed cost leverage, right? That is very true in good times, and this will lead to much more accelerated growth from these kind of products to give you fixed cost leverage. But unfortunately, you may have downtimes like the last fourth quarter and the first quarter of this year where that mix is a headwind. But when you look at the upside in our stock as you get through this, not just for circular but for just market recovery, there's a huge mix-up side for our company as you go into the back after this year in 2024 when you think recovery is coming, which we demonstrated coming out of 2020.
spk01: Mark, you know, the air gas or the industrial gas model hasn't really worked in plastics. You know, what gives you confidence that this would work this time? Is it because this is such a specialty product and the consumers want it or the customers want it that you can have that kind of contract structure?
spk17: Yeah, so as I said, especially, you know, it's just our current model. But when it comes to the PET, that's where the industrial gas model concept applies. And yeah, it's a unique offering, right? We're the only large-scale company on the planet especially North American Europe, who's offering recycled content from hard to recycle plastics. And when you get to the food grade industry, mechanical can't remotely meet their needs. And someone has to plug that gap if they're going to hit their targets. And we are way ahead of our competition in being able to provide that service. And that's exactly what an air gas company does to provide a service to convert a product into a highly needed input. And that's sort of where we're at today, and that's our confidence as we go forward into these three projects. And that's why we continue to maintain this discipline of not building these kind of facilities unless we get these kind of contracts. Because I'm not getting back into, you know, as you said, PJ, the traditional plastics business of high, you know, margin volatility. We just won't do that.
spk12: Okay, thanks again for joining us today. We really appreciate it. I hope you have a great day.
spk11: This concludes today's call. Thank you for your participation. You may now disconnect.
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