Kimberly-Clark Corporation (NYSE:KMB) Q2 2023 Earnings Call Transcript

Kimberly-Clark Corporation (NYSE:KMB) Q2 2023 Earnings Call Transcript July 25, 2023

Kimberly-Clark Corporation beats earnings expectations. Reported EPS is $1.65, expectations were $1.48.

Operator: Good day, everyone And welcome to the Kimberly-Clark Second Quarter 2023 Earnings Call. At this time, all participants are placed on a listen-only mode and we will open the floor for your questions and comments after the presentation. It is now my pleasure to turn the floor over to your host, Christina Cheng, Vice President of Investor Relations. Ma’am, the floor is yours.

Christina Cheng: Welcome, everyone, to our second quarter 2023 earnings conference call. Before we begin, please note, today’s presentation will include forward-looking statements. Our results may vary materially from those expressed or implied in our forward-looking statements and you should not place undue reliance on any forward-looking statements. Please refer to our SEC filings for a list of factors that could cause our actual results to deviate materially from our expectations. Our remarks today refer to adjusted results, which exclude certain items described in our news release. We use non-GAAP financial measures to help investors understand our ongoing business performance. Please consult our press release for a discussion of our non-GAAP financial measures and reconciliations to comparable GAAP financial measures.

We have published supplemental material, which can be found in the Investor Relations section of our website. Participating in today’s call are Chairman and CEO, Michael Hsu; and our Chief Financial Officer, Nelson Urdaneta. Mike will start the discussion with our strategic priorities and provide an overview of our performance for the quarter. Nelson will provide a detailed discussion on our Q1 results and our outlook before we open the floor for Q&A. With that, I turn the call over to Mike.

Michael Hsu: Thank you, Christina. We delivered another solid quarter with 5% organic growth while cycling 9% growth in the year ago quarter. Organic sales were up across all segments with personal care and consumer tissue each up 4% and professional at 13%. Our growth strategy is working and our performance in the quarter reflects strong execution by our teams around the world. We continue to make strong progress in margin recovery. Adjusted gross margin was up 380 basis points and fueled a 17% increase in adjusted operating profit and a 23% increase in adjusted earnings per share. Given the strength of our first half, we’re raising our full year 2023 outlook to 3% to 5% organic growth and 10% to 14% adjusted EPS growth. Our categories remain healthy.

In North America, category sales were up 8%. And we continue to see robust growth in key developed markets including the UK and South Korea, which delivered double digit and mid-single digit increases, respectively. While category growth across the NEID. 0:00:25.0,P4 been more variable, we continue to see double digit increases in Latin America. This growth reflects the essential nature of our categories. As category leaders, we’ve remained focused on serving all our consumers and recognize that many are facing economic challenges. With our broad portfolio, offering value to premium options, we’re able to meet consumers where they need us. And we are well positioned with brands like Scott and Huggies Snug & Dry to serve the value oriented consumer.

Across markets, we’re strengthening our price tag offering. And that means enhancing large count packs and big box channels, and making entry prices more affordable and small format channels. More importantly, we’re accelerating innovation and cascading technology through our product offerings to ensure we’re delivering a superior value proposition to consumers. Growing market share continues to be a top priority. In the quarter, year-over-year market share performance was soft, reflecting the relatively early actions we took to mitigate inflation. In the last six months, price gaps have begun to normalize and we are encouraged to see sequential improvement in market share in key cohorts including North America, where we’ve seen improvement in five of eight categories.

Volume trends have improved, and we expect that to continue as we cycle inflationary measures and execute our strategy and commercial programs. Our enhanced commercial capabilities are enabling more real time decision making the drive sales, optimize brand investment and balance value and volume. Furthermore, we expect increased brand investment and improved supply fulfillment to strengthen our market share performance over the balance of the year. Our commercial programs and innovation are core to our strategy to elevate and expand our categories. We’re pleased with our launches in the first half and enthusiastic about our second half plans. Here are a few highlights. Huggies debut its newest Baby Butts campaign this summer, celebrating Huggies’ unique curved design, which provides greater comfort and protection for babies on the move.

Early results show excellent consumer engagement across our marketing channels. In China, we’re raising the bar on skin health through a proprietary design that whisks away the baby’s mess. Moving the mess away quickly from baby’s skin is key to reducing diaper rash. We believe this kind of innovation will further differentiate us from the competition. And as the reason Huggies continues expand its market leadership in China. Lastly, our Kotex Intimus She Can campaign in Latin America continues to resonate. We were recently recognized with a prestigious Cannes Lion award for this initiative reducing period stigma as part of menstrual education. In China, Kotex introduced Overnight, an overnight pad with a proprietary design that prevents leakage with instant absorb technology.

Overall around the world, we are seeing growth driven by the overnight segment. This a great example of superior product performance, coupled with effective brand strategy and communications to drive share gains and strong brand equity. Now I’d like to briefly address the impairment charges to intangible assets we recognize this quarter. We purchased Softex Indonesia to expand our presence in one of the world’s fastest growing personal care markets. Indonesia ranks among the top three markets for new birth and we expect continued economic development will create more demand for our products over time. As a second largest diaper player in Indonesia, representing over a quarter of the market, Softex has built a strong equity with local consumers.

The impairment charges we took this quarter, which Nelson will discuss shortly reflect our updated projections for the business. We have enhanced the team and taken actions to improve the business processes and our go-to-market approach. Indonesia remains an exciting growth market for Kimberly-Clark, and we’re committed to this business for the long term. Now as we enter the back half, we expect continued progress in our journey to restore and eventually expand our margins. We’re excited about our innovation and commercial plans and will invest more and more brands to improve our market share performance and growth trajectory. This is how we will elevate and expand our categories to deliver balanced and sustainable growth. Now I’ll turn it over Nelson for more details on the second quarter.

Nelson Urdaneta: Thanks Mike. Before I get into second quarter results, let me take a moment to discuss the divestiture of our Brazil tissue business and the impairment of intangible assets this quarter. We closed the sale of our Brazil tissue business in June, which enables us to focus even more on growth and personal care. As a result of this transaction, we recorded a pretax gain of $74 million and $30 million of related expenses, both of which are excluded from our adjusted results this quarter. I want to thank the many KC-iers who worked hard to complete this transaction. In addition, we conducted strategic reviews forecasting and integration assessments as part of our business planning cycle. Based on updated financial projections, a pretax noncash impairment charge of $658 million was recorded, primarily related to intangible assets linked to the Softex acquisition.

The charges reflect revise projections for certain brands, due to modified consumer shopping behavior, post COVID-19, inflationary pressures and increased competitive activity in the region. We are confident in the prospects of the personal care market in Indonesia, and we are committed to continue investing in this business. Let me now turn to our second quarter results. Net sales were $5.1 billion, up 1%. year-over-year, organic sales increased 5%. On a two year basis, organic sales growth was strong across all three segments, with approximately 7% average growth for the company. Effective revenue growth management delivered favorable price realization and mix benefits. While volume trends continue to improve sequentially. Net sales in the quarter were impacted by approximately 400 basis points of currency headwinds.

Turning to our segments. Personal care representing approximately half of the company’s revenue, grew 4% organically led by mid-teens growth in feminine care and mid-single digit growth in adult care. Infant care delivered broad based growth in the quarter with a majority of region’s growing mid-single digits. Operating profit for this segment improved 1%. Organic growth in consumer tissue was 4% led by a 7% growth in North America, where volumes have turned positive, up low single digits in the quarter driven by Viva and Cottonelle. Operating profit for the segment was up 12%. Finally, our KC Professional business boasted a 13% organic growth, all geographies grew and notably, volumes turned positive in North America after six quarters of decline.

Our focus on key commercial sectors, effective digital engagement and innovations in sustainability are fueling the momentum in KC Professional. Favorable product mix and cost savings drove significant operating profit improvement in the quarter. Earnings for the rest of the D&E, second quarter adjusted gross margin increased 380 basis points to 34%. Revenue growth management in addition to FORCE savings of approximately $80 million more than offset cost inflation and currency headwinds. Cost environment remains mixed. Although, energy prices have moderated in some market, they remain elevated in others. Labor costs are structurally higher now due to cost of living adjustments and a tight job market in certain key geographies. In addition, auto manufacturing costs, which cover labor were $85 million higher this quarter in line with our expectations.

Between the lines spending on an adjusted basis was 19.8% of net sales, up 190 basis points versus year ago. Driven by continued investments behind our brands and our capabilities as well as the impact from inflation on our cost base. Adjusted operating profit for the quarter increased 17% and operating margin improved by 190 basis points to 14.2%. Foreign currency was a 16 percentage point headwind on operating profit in the quarter of which five points were due to translation of earnings from our non-US Operations The balance was largely from transactional impacts. We have made good progress on our margin recovery over the last few quarters, and we remain committed to restoring them to pre-pandemic levels and expanding them over time. To achieve this, we are increasing our focus on productivity by building a long-term pipeline of opportunities that can generate significant end-to-end efficiencies.

Lastly, the adjusted effective tax rate for the quarter was 20.5%, compared to 22% in the year ago period. Strong overall performance, along with a lower tax rate resulted in adjusted earnings increasing by 23% to $1.65 per share. With the first half of the year, we generated $1.4 billion in cash flow from operations. Capital spending was $389 million, compared to $470 million last year. Year-to-ate, we returned $850 million to shareholders through dividends and share repurchases. Now let me say a few words about our outlook. With our continued momentum this quarter, we are raising our full year guidance for organic growth of 3% to 5% and adjusted EPS growth of 10% to 14%. As a reminder, our previous guidance was 2% to 4% organic growth, and 6% to 10% adjusted EPS growth.

The Brazil divestiture which was not reflected in our previous outlook is expected to impact reported sales growth by approximately 100 basis points. We continue to expect currency to impact full year top line growth by approximately 200 basis points. Based on the latest estimates for the year, we now expect input costs to be a headwind of approximately $100 million, an improvement versus the midpoint of our prior outlook of $100 million to $200 million. In addition, we continue to project approximately $200 million from higher wages and other manufacturing costs. Continued progress and gross margin recovery puts us in a great position to advance our commercial programs. We expect advertising spend to increase by approximately 100 basis points for the full year.

This brings us to a projected operating profit growth in the low double digit range, and an operating margin increase of approximately 150 basis points at the midpoint of our guidance range. We remain optimistic about the future and our ability to create long-term value for our stakeholders. We are also very proud of how our teams continue to execute our exciting growth agenda across the globe. With that, we will open the floor to questions.

Q&A Session

Operator: [Operator Instructions] Your first question is coming from Lauren Lieberman from Barclays.

Lauren Lieberman: Good morning. Hey, I wanted to just ask a bit about divisional margins. One thing that jumped out to me in the quarter was actually the margins in consumer tissue decelerated sequentially, they were down sequentially. And then also were up less than a year-over-year basis. So was just curious kind of what’s driving that, right. As you mentioned, there was some better volume performance in North America, the pricing is coming through, costs are easing. So just some conversation around consumer tissue margins and the path to recovery would be really helpful. Thanks.

Michael Hsu: Yes, no, absolutely. So a few things. I mean, we don’t speak about gross margin. But just to give you a context, Lauren, year-over-year, we did have a meaningful gain in gross margins on the segment, over 200 basis points. We on a quarter-over-quarter, you’re always going to see a few puts and takes depending on mix and elements that flow through. But net-net, I mean, we are seeing an upward trend, so I wouldn’t get too hung up on the overall movement quarter-to-quarter for the segment. Because overall, we are seeing an upward trend and recovery on the margins.

Lauren Lieberman: Okay, crystal, yes, okay, fine. Can I read into that though, when you think about reinvestment in the business and in other particular areas. I know you’ve talked a lot about innovation and potential for elevate and expand to apply in tissue as well as some of that exceeding these investments, or is it really just a matter of timing and mix?

Nelson Urdaneta: Yes, it’s a few things. I mean, one, obviously, we in North America have been doing the transition to the new artwork, and some of the upgrades that we’re doing in Cottonelle. So we’re a part of the thing has been, our transition on shelf is taking a little bit longer than what we had planned. So that’s playing a little bit in the mix. But overall, I mean, that’s progressing. And in terms of the elevate, we’re also having initiatives in the UK in Andrex where we’re doing some upgrades on the product line. And that’s coming through. So that’s progressing on that end. But Mike, I don’t know if you want to add anything else on that end?

Michael Hsu: Yes, Lauren. Yes, I mean, I think when we talk about elevating, that holds for all our businesses around the world, and certainly consumer tissue, personal care, professional, we’re happy to invest in all those. And it’s paying out as Nelson just mentioned, in the UK, organic growth was up double digits, share continues to be strong and robust on Andrex. And part of that is because along with some pricing, we have upgraded the quality over the last couple of years. And so we feel good about that, where we stand there. And really proud if you look at year-on-year, I think our between the lines investment we mentioned was up about 190 basis points over the prior year. And that reflects our commitment to the brands and our belief that we got great commercial programming to invest behind.

Lauren Lieberman: Okay, great, because the genesis of I guess the question also is actually like one topic that we’ve been getting a lot of questions of late is around pricing pressure in consumer tissues, some of the discussion, particularly in Europe and UK from retailers pushing back on pricing, or looking to roll back in consumer tissue. And we feel that a lot of questions about, a, if that would be an issue for Kimberly-Clark Clark and b, in specific to Europe and the risk of that dynamic materializing in the US. So just maybe you can add perspective there as well, I think you’ve said a lot in terms of reinvestment and share momentum, but any perspective on pressure to quote, give back pricing in that category in US and Europe would be helpful.

Michael Hsu: Yes, I’d say overall, Lauren, pricing initiatives, our net revenue management initiatives are on track, generally, across our business, personal care, professional and consumer tissue. We’re cognizant of the same discussions and similar pressure, and we will see maybe a little bit more promotional activity than we’ve seen in the past prior, maybe in the prior six months. But I think thus far, it’s, we’re not, it’s not showing up in the results, or dramatically impacting our results. For the quarter, we had a very solid quarter across Western Europe. Demand was up about double digits, our organic was up about double digits, volume hanging in there pretty well. And so we feel good about where we are, but also recognize that yes, it’s going to be a competitive environment.

And we have to be prepared for that. The great thing is as you’ve heard us talk about, we’ve invested in enhancing our revenue growth management analytic capability. And so we feel like, we’ll be able to make the right investments at the right time. That will be wise and not just overreact to things.

Operator: Your next question is coming from Javier Escalante from Evercore.

Javier Escalante: Hey, good morning, guys. I do would like to understand a little bit better. I think that you call between the line expanding the SG&A line which you do not break out. So if you can explain to us how much is this labor inflation versus more kind of like proactively investing in enhancing the products and the capabilities? And related to that and follow up to Lauren’s question. You just did a strategic review and essentially exited Brazil, low down Indonesia. What is if you step back the main difference between Kimberly-Clark and Procter is, is that this international tissue business? Could you explain the role of the internet international tissue business and whether the margin profile is materially lower to the consumer tissue in the US. Thank you very much.

Michael Hsu: Yes, maybe that’s, I do want to us start with between the lines and how you’re just so between the lines are big bucket for us, so it includes both the advertising and as you point out some of our general administrative costs, and so maybe Nelson comment?

Nelson Urdaneta: Sure. So yes, so to give you a sense, I mean, of the increase that we’re seeing in between the lines, about half of that would be on support behind the brands, the advertising and promotional activities. And it’s largely advertising, because of all the products that we’ve been not just launching, but upgrading and some of the campaigns that are underway. The other half really relates to a couple of things. One, we’ve been increasing investments behind certain capabilities. And that continues revenue growth management, our digital agenda, which includes upgrades that we’re doing to some of our systems, including the migration to S4 HANA, and some of the other capabilities that we’re laying on a multiyear basis across the enterprise.

And then last but not least, is labor inflation, which, again, hits on the overheads and some of the compensation increases, but really impact us in April, it’s starting in the second quarter, so that because of the timing of our merit increase.

Michael Hsu: Okay, and then maybe on the consumer tissue, or maybe it’s a portfolio question, Javier, I’d say, hey, we love all our businesses, and the segments that we operate in. Certainly and as we talk about elevate and expand, we’re elevating and expanding all those categories. And so we remain committed to that. That said, we are cognizant that performance of some businesses especially in consumer tissue is a little bit more variable. And so I think we’ve been on the record in the past, our consumer tissue in the North America is a little bit more profitable, and some our international businesses, but we have very strong profitable international businesses as well. And so the decision around exiting Brazil tissue, I think, is specific to the conditions in Brazil, what I’ve said in the past around portfolio is, hey, we’re going to look to add businesses most more, with a greater focus on personal care, I would say, internationally, where there’s a lot of growth opportunity.

Indonesia is one great example where while we just reduced our medium term expectations for that business with the impairment, we still see a very long and bright future in that country for us. And we remain committed to Indonesia for long term because at some point, it’s going to be in the top three of the largest type of markets in the world, and it’s probably around the corner for us. And so we remain excited about that. But that said, there are other markets that are more structurally challenged. And so Brazil tissue was one of those. And that was driven by, we would say, some policies that encouraged capital investment into tissue making. And so there was a lot of capacity coming in, and we felt like the Neve business and brand would have been in better hands with Suzano, than with us.

And so we made that transaction. So I think our, we’re looking at, we love all the sectors that we’re in, but we’re going to make decisions based on local market conditions and make sure our brands can be competitive for the long term.

Javier Escalante: So then, as a follow up, this is very interesting, but as a follow up, so we think that in countries where you have very large personal care businesses, and some sort of ancillary tissue businesses like Brazil, for example, that you may continue divesting, things like that, say it China or whatever, where you do have enough critical mass to run that business independently and do not need to have attach a low margin tissue business.

Michael Hsu: Yes, I guess it’s always possible, Javier, I wouldn’t overread into it. I mean we’re comfortable with our businesses and how they’re performing where they are. But that said, I think if I would probably say we’re going to stay close to local market conditions and make sure it’s something I’ve talked about internally with our management, which is businesses need to perform for us. And so while we love all our businesses, they do need to perform and performance as part of the game for us. And so that’s probably the bigger barometer for us.

Operator: Your next question is coming from Chris Carey with Wells Fargo.

Chris Carey: Hey, good morning, everyone. Can you perhaps just frame your expectations for price mix versus volumes for the full year or specifically for the back half of the year? And perhaps just related to that how you might be thinking about the spending to reaccelerate volumes. Mike, I heard you say promotions might take up a little bit. I don’t know if that was a comment on any specific region. But some context on how you see volumes trending from here. And the types of actions that you might be taking to drive a little bit better volume performance would be helpful.

Michael Hsu: Okay, Chris, let me start and Nelson maybe give me some more specifics around the volume versus price. But hey, we’re pleased with our volume trends. Certainly as just to refresh your memory, Chris, we moved relatively early on pricing, we move pretty quickly. And so a lot of our pricing went in last year maybe in the front half of the year, we should start to cycle the price element of the P&L as we approach the back half. And so what we would expect to see our volume trends improve, and we are encouraged, because we have seen sequential volume improvement overall in the business, and then specifically by sector, kind of as we’ve gone through the year, and so, we expect to continue to see that. That said, as I said on the call our market shares a little soft, we were up or even in just below 40% of our cohorts, our market category combinations, which is a little less than we would prefer, right, we want to be over 50%.

And so one is the big drivers behind that, Chris, I’d say a couple things. One is, we were quick on pricing. And so in the parlance of one of our general managers, we’re seeing competition, quote, unquote, scrape us a little bit and that means kind of lagging the price to take advantage perhaps on the share momentum side. And so that’s one aspect. The other aspect is we are cycling a host of one offs and supply challenges is also relevant to Lauren’s question when she asked about tissue margin, there’s a lot of noise in our numbers just because we’re now lapping the third order effects of the Texas storm, there’s still supply challenges, et cetera. But with that said, there’s a bunch of one off thing related to both supply and the cycling that affect the business and then we, to be true we definitely have some competitive issues that are I would say normal across our business.

And we’d like to see performance improve in a few markets. And that’s why we want to continue to invest. And we’re committed to investing more behind our brands, we feel great about the innovation that we have coming, generally globally, and we feel great about our commercial programs, and recognize that there’s better opportunities for us to be felt that our investment to support the brands. We are, Chris, I’d say we’re not really focused on driving promotion to kind of earn back that share. Maybe we would respond certainly to competitive conditions. But I’m much more focused on earning for the long term. And that means kind of driving consumers, or encouraging consumers to try our products, and then having them stay there because they liked the quality of our products.

And so that’s really our focus. Nelson, you want to—

Nelson Urdaneta: Yes, and then to add some flavor, Chris, on the outlook, and what we’ve seen, in terms of volume, I mean, at some perspective, I mean, we’ve seen continued improvement in our volume trends. If you step back Q4 of last year volumes were down 7%, Q1 of this year, volumes were down 5%. Q2, the quarter, we just closed volumes were down 3%. Many of the actions that we have to take to deal with the inflation go back to the first half of last year, the majority of them. So as we step into the third quarter of the year and the fourth quarter, we will begin lapping some of them, and what we would expect that this point of we’re projecting is the volumes to continue to improve on a sequential basis as the year progresses.

And the overall revenue growth management actions should decrease in terms of the impact they’re having on the top line growth. We’ve already seen that from a sequential quarter, Q1 to Q2, that came down. And then mix, we’ve been doing about a point, I would expect that to be the same as we progress.

Chris Carey: That’s really helpful perspective. Just one follow up from input inflation perspective. Can you talk about what specifically improved relative to your prior expectations? And if you have any comments on phasing clearly, we’re getting into it seems a bit deflationary into the back half is that Q3 and Q4, is that all head to Q4, or any context on the phasing would also be helpful. So thanks so much.

Nelson Urdaneta: Yes, so just to give you a context, I mean on a, we, the latest guidance that we have on costs on input cost inflation is that it would be at around $100 million. So that’s about $50 million better than what we were forecasting back in April, when we last talked. Through the first half, we are at about $190 million negative. So it’s an impact. So evidently, what’s going to happen is we’re seeing about a $90 million give or take benefit, as we go into the balance of the year. We will see some of that coming in Q3. And then the balance, obviously, in Q4, what we’re seeing is versus our prior outlook, the overall fibre complex has gotten a little bit better, and distribution costs have gotten a little bit better.

I will, however, just highlight that on a year-over-year basis, we’re still seeing pulp and the overall fiber complex inflationary for us. Even though if you take it as a whole, the latest outlooks have fiber being year on year down in the mid-teens, if you aggregate everything. So net-net that’s come down distribution is about flat now year-over-year for us. And then the only big cost bucket that’s down significantly continues to be the resin complex, which again, that’s down overall for the quarter 50%. So we’re projecting about 40% down.

Michael Hsu: Yes, I mean, Chris, the headline for me is the cost environment for us, has stabilized and that’s really, really good news for us after cycling, I mean, 2021 and 2022, where we had record inflation for us while it’s still modestly inflationary, we can operate very well in a stable cost environment. And so we’re seeing both input costs stabilized and also the supply environment while we still have some sporadic outages in supply it’s much improved. And so we’re bullish on the road ahead for us on the cost environment.

Operator: Your next question is coming from Dara Mohsenian from Morgan Stanley.

Dara Mohsenian: Hey, good morning. So, I just wanted to return to share for a bit I mean, your comments seemed more glass half full here in terms of sequential improvement in share. But if we look specifically at US scanner data, some fairly pronounced year-over-year share losses in Q2 in consumer tissue and diapers. So we’re just hoping you can put the US scanner data in context. And then second, plans to drive improve share trends going forward. Sounds like perhaps there might be a bit more promotion, but not necessarily big focus innovation ramps up is that sort of the plans to drive improved share from here? Or how do you think about the share trends in the back half of the years, specifically in the US?

Michael Hsu: Yes, Dara, yes, definitely, I believe the shares will improve. We feel very confident in our programming and our innovation that’s coming. And year-to-date, we feel really good about what that’s done in the marketplace. I would say, the recent softness is, as I mentioned earlier, Dara, primarily related to the relatively faster pace of our price advances last year. And so that kind of really is the primary effect. But I would also say, in North America, specifically we are facing a fairly tough comp, just to refresh your memory, I think personal care, in personal care we were up 14%, in the year ago quarter, and across both personal care and tissue market shares were a bit elevated, that was an artifact. And I think we’ve talked about this time a year ago, which was, we’re out of, our supply was tight in the first and second quarter of 2021.

And so we had the kind of restock impact and the kind of reselling impact in the year ago quarter, and we’re cycling that now. So we did see our shares were higher in the year ago quarter higher than they historically were. And I think that was related to the, I would say coming back into business in Q2 of 2022. But that said, we’re not satisfied with our share performance. And definitely want to be up or even in over half. And so we are committed, we feel very good about our programming, especially in North America, I mentioned our Baby Butts advertising in our product improvements in North America on Huggies, and so we feel good about where we are, and we’re going to continue to invest in the brands and make sure that we continue to touch base by consumers and encourage them to try our products and return.

Dara Mohsenian: Okay, great. And then on the innovation front, you sound excited there, any thoughts on if the contribution to sales growth should pick up significantly on innovation, as we look out over the next couple years versus the last couple years? Any conceptual thoughts there will be helpful.

Michael Hsu: Well, just to point out, Dara, I think I don’t have the numbers for this year yet. The last year, our contribution to sales from innovation was probably among the highest in the industry. And so we do track, we do have a couple internal metrics around, net incrementality. And then percent of sales related to the innovation. And so we felt very strong last year. And so we felt good about that. But that said some of the things that I just showed on the slides in our presentation this morning, we feel good about really good about the technology, and the product innovation on the premium side that we’re having in diapers, especially in China. In China, organic was up nearly double digit against the backdrop where the category is declining double digit, and so, and we’ve doubled our super premium mix over the last year or so.

And then as I mentioned, on the slides, we’ve launched two really exciting products over Cottonelle six funnel that features really a two zone liner, that one that handles the urine, and one that handles the solid waste, right as a as I like to say poop, and then we have something that we’re calling oxygen bar pro, which is really, really high breathability diaper, which moms in China really love and so we feel good about that. And we’re bringing technologies like those around the world.

Operator: Your next question is coming from Nik Modi from RBC Capital Markets.

Nik Modi: Hi, how are you? Mike, I wanted to just kind of stick on the innovation topic. I mean, I think the messaging for me has been very clear in terms of how active you’re going to be later this year, probably even going into 2024. But one of the common pieces of feedback I get from the retail community is that everyone is really going to be very, very active innovation, because there was a lot of products that was not launched during the COVID timeframe. So I just wanted to kind of get your reaction to that. And thoughts on that and could we potentially see maybe some unexpected levels of spending just because you’re going to have to compete with so many other active innovation pipeline and shelf space is finite? Thanks.

Michael Hsu: Yes, I mean, Nik, we feel good about our investment levels. I mean, they have ramped up significantly over the last five years. And again, as I just mentioned we’re up about 190 basis points year-to-date, between the lines of which Nelson you said about half is on the advertising side. And you really the model is we’re investing in the advertising, primarily to support the innovation. And so we feel very good about our programming. And as I’ve said, on prior calls, and Alison, our Chief Growth Officer has said at CAGNY presentations what we’re really focused on kind of big unmet needs, or internally, we’ll call those demand spaces where we feel like, hey, there’s important things that the consumers are looking for out of the category in a category like diapers, or adult care that may be around absorption or protection.

I mentioned skin health earlier, which is something that hasn’t been a big part of this category, where we think, is a very important part of the category, particularly as it relates to solid waste. And then comfort, fit, breathability are all big factors. And so those are kind of big areas for us to get better in where I feel like the categories can do a much better job over time. So and we shared a lot of our thinking around innovation with our customers over the long term, and they remain very excited. And we’re receiving very strong customer support for innovation. So I think your point, yes, is there going to be more innovation from other manufacturers and across the category? Yes. But our focus is on driving the big innovations that we have, and making sure that we invest materially behind those to make sure that we can drive the conversion in the minds of the consumer.

Operator: Your next question is coming from Anna Lizzul with Bank of America.

Anna Lizzul: Good morning. Thank you for the question. Just as a follow up to Chris’ question, I wanted to ask on how you’re viewing the health of the consumer. You’ve mentioned a bit of bifurcation this year between the low and higher income consumers on their ability to absorb price. And then the latest scanner data from this morning it implies, some volumes are continuing to decelerate while you’re getting on price. So as a result, I was wondering if we should expect softer volumes to continue in Q3 offset by better pricing, and just how you’re seeing these trends play out where the second half of the year between Q3 and Q4?

Michael Hsu: Yes, Anna, I would say consumer demand remains resilient. Our categories thus far remain healthy and demand has been robust, just pick up a few numbers, I mean, North American consumer across our categories, is not just the categories of high single digit. Western Europe, which is a big developed market for us, teens in Latin America, double digits, KC Professional globally was up double digits. And so, I would say the category overall demand remains pretty robust. Are we aware of concerns around the corner regarding related to the economy and economic pressures, for sure. And we talk about that all the time, thus far it has not materialized. In the second quarter, the elasticity impact has remained muted, somewhat muted.

Just to give you an example, on diapers in the category for the quarter price was up six, and volume was up one, so that would probably say the elasticity impact has not been as we typically model. And so I I’d say on that side it does reflect the essential nature of our categories. So, our volume trends as we kind of cycle our pricing from year ago we expect our volume trends to continue to improve and we think should improve in the back half, in addition, driven by the commercial programming innovation that we’ve been talking about. And so I think overall I’d say healthy, not seeing a whole lot of broad scale down tearing. We do see in pockets there is continued demand for premium and big development markets like the US like China, even in Brazil and Argentina, we’re seeing actually the premium tiers start to grow and the value tiers contract a little bit.

There are some pockets of down tearing. We’re seeing that in Southeast Asia, some markets in Latin America, and but we’re in to manage through that we’re going to continue to sharpen our value propositions. I mean, we’re very interested in serving all consumers as category leaders. We feel like we need to serve both in the consumers that are looking for premium products, but also the ones on the value side as well. And so we have a broad portfolio that spans value to premium. And we’re doing things like adjusting counts to make sure our large packs remain competitive and affordable. We’re sharpening our entry price points and small format stores, to make sure that consumers can afford to be in the category. And then probably most importantly, in my mind is we’ve talked a lot about innovation.

We are doing a better job of accelerating or cascading, that innovation through our tiers from premium to value. And so that’s kind of how we will manage through it.

Anna Lizzul: Thank you, that’s very helpful. And you also talked a bit about promotion here, I know, you’re not necessarily interested in getting back to pre-COVID levels of promotion, investing a little bit more in marketing with your current levels of marketing spend versus peers, potentially spending more, do you feel that your marketing spends here is efficient versus others in the industry?

Michael Hsu: Well, I’ll answer the second part first, Anna, we are, I would say we’re highly efficient on the marketing side. I mean, we’ve invested quite a bit over the last several years around revenue management analytics, marketing ROI analytics, and so we maybe to a fault, we’re perhaps overly analytical in terms of how we invest. But in general, I feel very good about the returns are getting we’re getting, which is why, which is also why it gives us the confidence to invest more. We recognize we’re not spending fully at the levels of some of our competitors. But we’ve made significant progress over the last few years, I think we’re up several 100, or a few 100 basis points in advertising spending over the last five years.

And so we’re, I would say, pleased with that progress, but not satisfied. And part of the whole reason why we’re very focused on being disciplined about how we drive both revenue, volume mix, innovation is that we feel like it’s important to continue and invest behind these brands. Because that’s the way that we can drive category growth and serve our consumers better.

Nelson Urdaneta: And, Anna, another point on the investment, keep in mind that we have three segments, and we don’t invest at the same level in each segment. So what we disclose is a total number for the company. So if you take as an example, KC Professional, the level of investment behind KC Professional is not going to be anywhere near what we’re doing on personal care. And if you look at consumer tissue, it will vary by market. So we look at that very closely. And as Mike said, we are very focused on return on investment and being efficient on those dollars that we spend per segment.

Operator: Your next question is coming from Andrea Teixeira from JPMorgan.

Andrea Teixeira: Good morning. How are you? Just first on the pricing. I have a question for both you Mike and also of clarification for Nelson. So on the pricing side, you’re getting obviously strong realization, but lapping the pricing that you mentioned like you’re ahead of your competitors. So what are you embedding into the second half? Just to be clear, it seems like the guide you, the new guide at midpoint implies about 3% organic in the second half? So how much you expect and it sounds as if you’re expecting an inflection in volumes at some point? I don’t, I mean, you said sequentially bad of course, you had negative in the quarter. So just to clarify, what you are expecting for the third quarter and potentially the fourth.

And then now so on the gross margin side, the $9 million benefit from prior outlook. My math is like about 45 basis points benefit for the year, your tax benefit from the impairment is another I think $0.05. So how should we be thinking of your EPS guidance raised? These 45 basis points benefits would go in flow through EBIT it seems I think you’re flowing the whole portion. So in other words, you’re not embedding additional promo pressure or marketing pressure in your Outlook. Thank you.

Michael Hsu: Yes, Andrea. Yes, thanks for the question. I don’t know if how well I can answer it all because we I don’t think we outlook kind of the components of price mix volume. However, I would say, am I expecting an inflection on volume? For sure. At some point, I don’t know when that’s going to be but at some point, I want volumes to be positive. And just to give you, refresh your memory pre- COVID, I think for the three years leading up to our — a lot of our revenue growth was primarily volume driven. And so I do expect us and this is why we’re investing in innovation and commercial programs. For the business to grow healthy long term, we need the volumes to be up. And so yes, for sure I’m expecting an inflection end of point.

Andrea Teixeira: During 2023, I’m sorry, to just to make sure.

Michael Hsu: Again, I said our volume trends are improving. I can’t give you the inflection point. And I’m not going to forecast or give guidance on an inflection point. However, I would point out the majority of our pricing initiatives were more front end loaded or front half loaded last year, and so we are starting to cycle those. And so I would expect our, the contribution of revenue from price to diminish and hopefully the contribution to revenue from volume and mix to continue to improve.

Nelson Urdaneta: So, I would point you, Andrea, to the following, we’ve seen sequentially in the last couple of quarters, an improvement of about 200 basis points in volume. So we went from down seven to down five to down three. Now, as Mike said, we’re not going to, we don’t forecast or disclose the next quarter and break down, et cetera. But clearly, you’re seeing that the volumes have been improving sequentially. And that has to do one with the pricing, but also with some of the innovation and the products we have been putting out in the marketplace, and the increased investments behind the brands. So yes, we are expecting volumes to improve continuously. I mean, that’s our expectation. We are expecting revenue growth, management realization to be less of a driver.

And again, that has played out over the last few quarters. And as I explained earlier, so that’s kind of the way to think about it as the year progresses. And yes, we will get back to positive volumes. That’s the plan on that end. In terms of the operating profit. Again, I’ll try to address the question. So your point around, what are we flowing? How is it going? We’ve got a few things playing out in terms of operating profit, I mean, one, we have a slightly better performance in the first half. And we’re flowing part of that flow because we know that’s coming through the actuals. But also, we’re having a better outlook on costs. And that’s also equating into better performance on the outlook for EBIT, which I believe that’s a question you had.

For EPS, there are a few puts and takes in the quarter. Yes, tax rate was a bit of a driver, but we’re still expecting the tax rate for the year to be in the 23% to 25%. So think of that more as a timing. We’re not moving away from the guidance in terms of tax. And then between the lines, there’s really not much of a bigger driver apart from that, that I would highlight at this point.

Operator: Your next question is coming from Jason English from Goldman Sachs.

Jason English: Hey, good morning, folks. Congrats on a solid first half of the year. A couple of comments so far or answers to the questions that have been posed to around market share have focused on competitors are lagging, your price increases. As you noted, those price increases have been in place for pretty long now, it’s not uncommon for competitors to lag pricing by a couple of months, but it’s not uncommon to have them lag for a couple of quarters and then follow. So I imagine your assumption, and our assumption should be that they’re just not going to fall. And if that’s the case, do you accept these market share losses, like you just got to live with them. Or should we expect you to have to close those price gap to try to regain that market share?

Michael Hsu: Yes, couple things, Jason. I think great point, thing I’ll say is generally at this point I would say we’ve seen list prices move but when I say quote unquote, scraping or let your word lagging, I’d say we have seen a little bit higher promotion in some markets, particularly in Latin America, in Brazil, for instance. We’ve seen continued promotional activity. So I think that has been what we’ve observed more and more commonly. The list prices had lagged for a period, at this point, I’d say a lot of the brands have had moved as well. And so overall, I’d say the tactic is around the promotional side. And as I’ve mentioned, Jason, hey, we’re going to be smart about it, it’s not the way that we think is the valuable way to build the business in these categories.

And so but we have invested in our GMK capability, we do know, the analytics, and we can make wise investments around promotion. That the bigger thing is, and I think to your point, yes, I’m not going to live with, we have to grow shares over the long term to sustain the business, just like we have to have volumes up. And so market shares need to grow. That’s why our goal is to be upper even in more than in about half or more. And that’s the goal. And so, but that’s also why you’ve heard us talk quite a bit about our innovation and commercial programs. It’s why we spent a lot of time with consumers talking about them and spent a lot of time with our customers talking about them, and we feel good about where we are. But I think you’re certainly pointing to the one area that I feel like we really need to improve, and we’re committed to doing that.

Operator: Your next question is coming from Peter Grom from UBS.

Peter Grom: Thanks operator. Hey, good morning, guys. Hope you’re doing well. So I guess I’ve kind of wanted to get some more color on what’s embedded in the outlook from a gross margin perspective. I think previously, the expectation was 230 basis points, you reiterated your outlook for an increase in ad spending of 100 bps this morning. So is the expectation for 250 basis points now? The premise of the question is that, it just seems that that would imply that gross margin improvement, would kind of taper off in the back half of the year, and just given what you’re seeing in terms of cost pressures, and productivity, that would seem somewhat conservative. So just, if you could help us understand the outlook for gross margin today, and any phasing in the back half of the year, that would be helpful.

Nelson Urdaneta: Yes, sure. Let me walk a little bit through the outlook and some of the components that we have. And as a reminder, Peter, what I stated at the last call was that our expectation was at least 230 basis points because it was a straight math. Obviously, we’ve reached a 34% gross margins in the second quarter, we’re very pleased with the progress that has been made, as we seek to recover back to the pre-COVID levels of 35% and then expand from there. So we’ve had two quarters of very strong gains in gross margin. And obviously, as we go into the back half of the year, I’d state two things. One, we do expect the half year-over-year gain in gross margins. We do expect that gross margins, margins as a whole, gross operating profit should expand as in the second half, but not at the pace that we saw in the first half.

So as you’re thinking about your numbers, that’s the way I would think about it. So we would exit the year definitely stronger. The implied number, yes, as you say, would be 250 on the gross margin. But that again, that’s at least, that’s the way I would characterize that. Because obviously, we’ve been expanding ahead of that year-to-date. As you think about the balance of the year, I’d also like to highlight a few things on the outlook on costs, we have not changed that the currency impact that we foresee. We only took down costs by about $50 million, we still expect the full year to be around the $300 million to $400 million of inflation in currency. And then in the other costs, we still expect around $200 million. It’s been playing out in the first half right around the level we expected.

So net-net, good progress on margins. We’re pleased with how that’s coming along. We expect to continue to make gains, but not at the same pace as what we did in the first half.

Michael Hsu: Yes, maybe, Peter, I’ll just add just the outlook as Nelson just teed up really does reflect the strength of our first half and our confidence in our underlying plan. As I mentioned earlier, our categories, thus far remained healthy. And demand has been robust. We’ve strong innovation and commercial lineup, and we feel great to be investing more than that. The cost environment has been stable. And so while it’s still a headwind, I’d say we’re seeing glimpses of reversion. And so that’s a good thing. But the other part of it, in our outlook embedded in it, and it is we do expect ongoing volatility. And so certainly as you’re well aware, there’s a lot of economic uncertainty in our major markets, soft versus a hard landing and the implications for consumer spending first and foremost.

We’re still dealing with a lot of political uncertainty, including the effects of the war. And then as I mentioned earlier, we still have some sporadic supply challenges, while it’s much improved versus where it was two years ago. We still have some outages and so there’s some inherent volatility, but overall, we feel very good about where the business is and where we’re going and feel very good about our outlook.

Peter Grom: Thanks. That’s really helpful. I guess maybe one follow up on that. I guess just given you mentioned some reversion in the cost on the horizon. I mean, I guess, based on where things stand today, how should we be thinking about cost pressures looking out to 2024? I mean should we expect that this could remain a tailwind looking ahead. And I guess the bigger question is, how does this really inform your view on when you expect to return to that 35% gross margin target that you’ve outlined?

Michael Hsu: Well, certainly I’ll start with, I don’t think I’m going to give you guidance on ‘24 yet, but I think definitely very pleased with our progress on margin recovery. Certainly, as you saw our gross and operating margins expand, I think we’ve done a great job with the revenue realization managing the cost environment, and so we feel very good about that. Our goal is to restore our margins to where they were back in 2019, our gross margins. I think we are making that progress, but we are not going to stop there either. So when I got into this role back in 2019, I said at that time one of our goals is to expand our margins over time. And so what we’re trying to do, Peter, is one, restore, and then when we get there then we need to expand and there’s not two parts of the plan.

There’s one plan. And so we’re going to continue to work that all the levers that we’ve talked about, both from a revenue management perspective and a cost management perspective, to drive ongoing margin expansion.

Operator: Thank you. That concludes our Q&A session. I will now hand the conference back to our hosts for closing remarks. Please go ahead.

Michael Hsu: Okay, thank you all for joining us for the call today. We look forward to seeing you in Q3, at the end of Q3. Thank you.

Operator: Thank you, everyone. This concludes today’s event. You may disconnect at this time. And have a wonderful day. Thank you for your participation.