Smurfit Kappa Group Plc (OTCPK:SMFTF) Q4 2022 Earnings Conference Call February 8, 2023 4:00 AM ET
Company Participants
Anthony Smurfit – CEO
Ken Bowles – CFO
Conference Call Participants
Lars Kjellberg – Credit Suisse
Justin Jordan – Davy
Charlie Muir-Sands – BNP Paribas
David O’Brien – Goodbody
Cole Hathorn – Jefferies
Operator
Good day, and thank you for standing by. Welcome to the Smurfit Kappa 2022 Full Year Results Conference Call. At this time, all participants are in a listen-only mode. After the speakers’ presentation, there will be a question-and-answer session. [Operator Instructions] Please be advised that today’s conference is being recorded.
I will now like to hand the conference over to your speaker today, CEO, Tony Smurfit. Please go ahead.
Anthony Smurfit
Thank you, operator, and good morning, everyone. It is good to be with you all. And I’m joined, as you know, by Ken Bowles, our CFO who I think most of you know well at this stage. As usual, I refer to the disclaimer concerning future expectations with your permission I will take as read. So you all know Smurfit Kappa’s vision which we put in place some seven years ago, and I as I say is no doubt familiar to all of you by now.
The vision which has evolved guides our total approach to business, ensuring that we are able to deliver for all of our stakeholders, dynamically and sustainably delivering is central to that vision. And in the next few slides, we’ll take you through what we have delivered, but more importantly, how we have delivered.
Turning to the next slide, in your world of finance, you have a tendency to say that past performance is no guarantee of future success. It is no different in our business. However, as in your world, it is a good indicator. Over the past number of years, you can see that our stable management team has delivered for all stakeholders and against all the key performance indicators outlined in this slide. I’m naturally proud of what this team has delivered as we continue to embrace and live our core values.
As a management team, our objective is always to manage for continuous improvement. Our past delivery and our future potential is demonstrated by the success shown in the numbers on this slide. More importantly, we are both excited and ambitious for our future, which is best reflected by the capital plans and actions we have taken both internally through investment and externally through acquisition. Our performance has been and will continue to be driven by a number of factors, one of which is our capital plan.
On this slide, you will see that in the past 24 months, in the group, we have approved €2.3 billion. This includes mail efficiency projects, corrugated projects and converting equipment projects, together with our contribution to the environment and the pursuit of our own sustainability goals. These investments that have been made and are going to be made are a platform for continued future success in growth and efficiency of the group.
As we say on the next slide, simply put, Smurfit Kappa will continue to deliver going forward. Quality people are and always will be at the heart of our performance. As owner operators, we treat capital as a scarce resource, ensuring it is deployed in a measured way to deliver today and tomorrow. Our leading market positions and integrated model ensure security of supply both internally and externally. Innovation is also a key driver, partnering with our customers to define and in many instances to anticipate their packaging needs.
Our market position as the number one or number two operator in most of the markets in which we operate, allow us to, together with our innovation to service our customers with the most advanced applications in our business, allowing us to capitalize on all market trends. Our product’s own positioning for today’s world as the most sustainable, biodegradable, renewable and environmentally friendly packaging medium will continue to drive medium to long-term demand growth.
Together with our geographic balance, our leading integrated business model, as illustrated on the next slide, will drive future performance. The integrated system provides us with two consistent profit streams and it optimizes operating efficiency. Importantly, an integrated system reduces costs in areas such as transportation forever and continually optimizes our stock levels.
A key component of the integrated model is also security of supply, and this helps drive capital allocation decisions. A good example of this is that we expanded – as we expanded our corrugated business, we became short in paper. So in addition to internal investment in existing paper mills, we identified and acquired 2 world-class paper mills in Reparenco and Verzuolo, adding nearly 900,000 tonnes to our systems. That was delivering in action.
Turning the page, I’ve always said that the commitment of our people to our core values of safety, loyalty, integrity and respect is what truly differentiates our company from all others in the sector. The average tenure amongst our management team is 22 years, which demonstrates the experience and commitment of them to SKG. But it is a two-way commitment. We continue to put in place the most advanced bespoke programs for training and development to ensure our people become part of the culture that so differentiates us. As a company, we are passionate about maintaining our culture through openness and meritocracy.
Turning to the next slide, innovation is, of course, at the heart of everything we do. We have a growing network of 29 experience centers across our business. These innovation centers are fed with new ideas by our over 1,000 connected designers, giving our 4,000 sales professionals across the world and across our 36 countries, unique access to irreplaceable ideas and applications that have been developed. Just one such idea more recently is illustrated here on the Click-To-Lock detergent pods, which demonstrates there is a world of plastic ready to be replaced by our sustainable corrugated packaging.
To show you how we’re intertwining our investment plans, innovations and sustainability and cost reductions, there are three examples I’m going to show you that demonstrate how far this company has progressed. And of course, how far we are going to continue to progress as we affect our future plans. First example on the next page is one of our mills, which demonstrates continuous improvements through investment and innovation. This mills productivity for manhour has improved enormously as we’ve expanded capacity on the existing footprint and attacked our costs.
We’ve also made this mill fit-for-purpose, producing ever lighter weight paper and reducing our carbon footprints. This example also illustrates how the Smurfit Kappa across our recycling system has improved its output. When Smurfit and Kappa came together, we produced 3.2 million tonnes at 22 mills, whereas today, throughout our investment and acquisition, we produced 4 million tonnes at 15 mills. Another important statistic is that we are completely self-sufficient in lightweight containerboard, whereas at the beginning, we had practically zero.
Turning to our corrugated system, on the following slide, this example of one of our – just one of our 243 corrugated plants demonstrates how we’re investing to improve security of supply for our customers, capacity in our corrugators and efficiency and quality within our converting machines. This specific example illustrates the kind of improvement we’re seeing and we’ll continue to see going forward in the corrugated system in general.
Within Smurfit Kappa, we have a number of specialty businesses that are allied with our core business. One such business is our Bag-in-Box operation, which I’m immensely proud of and which has grown from practically nothing to number two in the world. This business is replete with potential, and it is a highly sustainable product to replace both glass bottles and heavy plastic containers. We continue to have ambitious growth plans for this operation.
With that, I’ll now hand you over to Ken, who will take you through sustainability and our financials.
Ken Bowles
Thank you, Tony. Good morning, everyone, and thank you all for taking the time to join us.
As Tony mentioned, 2022 has been another fantastic year of continued delivery for the group, both operationally and financially, which I’ll speak to in a bit more detail shortly, but also in terms of delivering on our sustainability agenda. We don’t see ESG as separate from our financial performance. They are clearly linked as a circular economy business, with an ever-improving environmental footprint, our leadership and sustainability is clear.
On this slide, you’ll see the progress we have made as outlined in our 15th Annual Sustainable Development Report. These achievements in the areas of climate, water, waste, Chain of Custody certification and people are a key pillar of Smurfit Kappa’s strategy for the future and a testament to the work we’ve done over many years. These results can only be achieved by investing time, effort and financial resources to foster the change required to become the leader in sustainability in our industry.
We began the year strongly with SBTi validation of the group’s emissions reduction targets and reached a number of other important milestones, including the completion of a large-scale sustainability project at our Zulpich paper mill in Germany, which significantly reduces the mills CO2 emissions by over 55,000 tonnes, that’s a 2% reduction for the group.
At our Nettingsdorf paper mill in Austria, we launched a district heating project, which will save approximately 21,000 tonnes of CO2, while also providing heat to local businesses and schools and 20,000 homes. This project followed on from the recent installation of the heat recovery border at the mill, which eliminated 40,000 tonnes of CO2 per year.
The group also announced a €100 million investment to sustainable biomass boiler at our paper mill in Cali, Colombia, which will reduce our global Scope 1 and Scope 2 CO2 emissions by approximately 6%. This ambitious project is the latest example of the circularity of our business as we find another use for our organic waste and transition away from fossil fuels. Out of time, when many others talk about their sustainability ambitions for the future, Smurfit Kappa is delivering today.
We are pleased to be both listed on so many ESG indices and score strongly across the leading third-party certification bodies. Furthermore, we were especially pleased with the recent recognition of our work by Sustainalytics. We awarded SKG, the Industry Top Rated badge, ranking it in the top percentile out of over 100 companies. In addition to again achieving the Regional Top Rated honor.
Through our leadership in innovation and backed up by the group’s better planet packing portfolio of sustainable products, SKG continues to help our customers deliver on their own sustainability goals. One of the many examples of the work we do with our customers can be seen here on this slide. This project use the new design to market factory, which provides customers with a tangible packaging prototype that can be tested with consumers and subsequently refined before moving into large scale production.
In this example, the request came from Danone, a company with clear ambitions around sustainability itself, who wanted a sustainable packaging solution for its popular outflow drinks range. The brief was eliminate the plastic, safeguard the supply chain and enhance the product to appeal on shelves. The results, over 730 tonnes of plastic eliminated and over 1,800 tonnes of CO2 reduced.
Turning the page, in 2022, in addition to the group’s established programs in education, well-being and the environment, the Smurfit Capital Foundation invested at over 40 projects across 18 countries to improve basic care, education and health facilities to positively impact the lives of underprivileged people in the communities in which the group operates.
Some examples include; in Germany, where over 60 employees volunteered their time to supplement the financial donation by the foundation to construct the therapy writing project for children. In Brazil, €250,000 was donated to upgrade the infrastructure of a childcare facility. In Argentina, the foundation contributed to the construction of a new mother and child ward at the Dr. Raul Caccavo Hospital. And in Ukraine, a basement was refurbished to facilitate the safe schooling of young children in Kiev.
So turning now to our financial performance and the group’s full year 2022 results, Tony talked a little bit about our performance earlier on, and let’s, look at that in more detail on that. Our overall performance in 2022 against every metric is a result of many factors, not least the dedication and commitment of the 48,000 employees who work relentlessly to achieve that performance. It is also a result of our multiyear investment programs and the returns that we are evidently achieving through them.
Group revenue was over €12.8 billion for the year, up 27% on 2021, or 23% on an underlying basis, with the rise reflecting success with box price recovery initiatives. Group EBITDA for the year was up 38% to €2.355 billion. The group EBITDA margin improved from 16.8% in 2021 to 18.4%. The results reflect the resilience of the group’s integrated model, box price recovery and the benefits of our capital spend program, partly offset by higher year-on-year energy, labor, distribution and other raw material costs.
Pre-exceptional EPS was up 62% in the year to €4.441 per share. And the group’s return on capital employed increased from 16% in 2021 to 21.8% in 2022. As always, the group is focused not only on the here and now, but also what to come. And so this year, we’ve taken an exceptional charge of €223 million.
Over half of that is related to the planned disposal of our business in Russia, but we’ve also taken a restructuring charge in our Americas segment to take out labor costs in addition to rightsizing goodwill in Argentina due to hyperinflation and in Peru, given the current economic backdrop there.
Our free cash flow in 2022 amounted to €545 million, an increase of €90 million compared to the prior year. EBITDA growth of €653 million, combined with a lower outflow for changes in employee benefits and other provisions was partly offset by a higher working capital outflow, higher capital expenditure, higher cash interest and higher tax payments. While we saw OCC paper and energy reduced towards the end of the year, box prices did not.
And as a result, as a percentage of sales, our working capital, as a percentage of sales 8.3% at the end of 2022, slightly outside our normal guidance range of 7% to 8%. It goes as saying though that the management of working capital has ever remains the key focus for us. Finally, reflecting the confidence that we and the Board have in the group and indeed the strength and resilience of our cash flows and our future prospects, we are pleased to announce a 12% increase in the final dividend to €1.076 per share.
Turning now to our European operations and their performance in 2022, EBITDA increased by 42% to €1.846 billion, primarily as a result of the progress on box pricing as mentioned earlier, and the benefits of our customer-led capital spend program, offsetting significantly higher inflow costs.
The EBITDA margin in Europe was 18.6% in 2022, up from 16.6% in 2021, while corrugated box volume is down 2%, when compared to the exceptionally strong volume growth in 2021. The slowdown in our Germany and U.K. markets, in particular being partly offset by a more robust performance in countries such as France and Spain.
2022 also saw our European operations record their best-ever safety scores and the lowest ever parts per million quality scores, two significant milestones. Our European business continued to build on its strong operating platform during the year with a number of projects across our paper and corrugated divisions. And Tony mentioned a number of these initiatives earlier. And during the year, the group also announced an investment in its first Moroccan facility, along with the acquisition of a corrugated business in the U.K. and a Bag-in-Box plant in Spain.
And now turning to the Americas, in the Americas, EBITDA increased by 25% on 2021 to €553 million, the EBITDA margin was marginally lower at 19% in 2022 compared to 19.5% in 2021. Colombia, Mexico and the U.S. accounting for over 80% of the region’s earnings with strong performances in all three countries, box volumes in the Americas, excluding acquisitions were broadly flat year-on-year compared with a very strong prior year comparative.
Our Americas operations also recorded their best ever safety score in 2022, and the group continued to invest across the business with significant efficiency, capacity and sustainability-related investments into corrugated, containerboard and specialty business in Central America, Argentina, Colombia, Mexico and the U.S.
In our corrugated box, we are expanding capacity and investing in state-of-the-art converting equipment across the region. In our specialties business, we are expanding our portfolio in paper sacks and Bag-in-Box. And during the year, we also acquired corrugated packaging plants in Argentina and Brazil, expanding both our footprint and customer offerings in these attractive growth markets.
And finally, turning to the next slide, an important reminder of how we think about capital allocation, a very dynamic allocation at its heart. As you know, our aim is to ensure that allocation of capital takes into account all stakeholder groups. It is very much a returns-focused allocation, which as you can see, continues to be a key underpin to our success.
At Smurfit Kappa, we believe that capital allocated to internal projects is central to the success. We are investing in our asset base to improve our environmental footprint to take out cost, to improve efficiency and to capture the long-term growth opportunities presented by the end consumers push for the most sustainable packaging solutions.
The acquisitions we made in 2022 are clear indicators of how we see M&A. As always, we have a number of projects in the pipeline focused on building out our strong geographic network or further enhancing our product portfolio. We remain, of course, disciplined around M&A, and as always, benchmark them against all other capital allocation alternatives. Given the high levels of capital, the group has deployed over recent years, we are especially pleased to have recorded our highest ever return on capital employed at 21.8% at the end of December.
The dividend is another cornerstone of our capital allocation strategy. Our policy is progressive and aim to ensure that the allocation of cash flow to the dividend is proportioned to other forms of allocated capital over the long-term. The increase in the final dividend of 12% is yet another illustration of our confidence in the future prospects and the cash generation ability of our business.
With net debt to EBITDA of 1.3 times, the lowest in the group’s history, the strength of the group’s balance sheet continues to secure long-term strategic and financial flexibility. With no near-term maturities, an average interest rate of less than 2.9% and over 95% of our gross borrowings at fixed interest rates, the group’s balance sheet has never been stronger.
Finally, the expansion of our capital allocation framework to now include buybacks underscores the flexibility and agility of this framework and ensures that all avenues to create and return value to our shareholders are considered and benchmarked against all options.
I’ll now hand you back to Tony for some concluding remarks.
Anthony Smurfit
Thank you, Ken.
Well, as you would have seen, we have again delivered against all key performance measures. In Smurfit Kappa, our performance-led culture has delivered. Our multiyear capital program, have delivered and will continue to deliver. Our acquisitions have delivered and will continue to deliver. I hope you realized from today’s presentation, we are delivering for our customers due to our innovation, our service-led and sustainable packaging solutions that we offer.
This is happening as a result of our dedicated and loyal 48,000 employees who strive to deliver successfully to our customers’ day in, day out. Together with Smurfit Kappa’s geographically balanced and integrated business model, we are providing security supply across all market conditions. And this has never been more evidenced by the difficult 2022, which we have very successfully navigated through.
By way of conclusion, as we say in the release, there will always be challenges along the way. I’ve always said that success is never a straight line, but our record year in 2022, even with the effect of the global pandemic and the massive inflation we experienced demonstrates the company’s agility and resolve to continuously improve.
As we’ve said, we’ve never been in better shape financially, strategically and operationally. And while it is early in the year in 2023, the year has started well. Our past performance demonstrates our future potential. We remain very confident for the future of our business and our prospects and opportunities that will present themselves in the years ahead. And that confidence is best reflected by the 12% increase in our dividend that was announced today.
And with that, everybody, I will turn it over to the Q&A. And thank you for the attention you’ve given Ken and myself.
Question-and-Answer Session
Operator
Thank you. [Operator Instructions] We will now take the first question. It comes from the line of Lars Kjellberg from Credit Suisse. Please go ahead. Your line is open.
Lars Kjellberg
Good morning and thanks for taking my questions and congratulations to you and your team for this delivery. I just want to start with a couple of questions. Your call started well in 2023. Clearly, judging from incoming calls this morning, investments are generally concerned about volumes and it did seem as if there was a meaningful volume contraction in Q4. How that started well? What should we read into that in terms of volume?
And then of course, the next focus is how prices are performing versus costs. If you can share any color on what happened in the final quarter of the year and of course what you think in the beginning of this year? And then also the – you called out, Tony, the great success of your specialties business, the back in the box, good growth, et cetera. And we’ve seen a number of transactions in that business putting big multiples on that sort of specialty high growth, good sustainable product business?
But we don’t really know how big that is in the context of you and how that is progressing so if you can share any color or not, that’d be extremely helpful. But if you can start with what you would read and started well in terms of volume price cost, et cetera and what’s your outlook for the current year in broader terms?
Anthony Smurfit
Okay. Well, I’ll take the first question then and Ken, if you take the price versus cost. Basically, what we say with a year started well, it has. I mean the overall trend of volumes, we would say, with the exception of one or two major countries has improved in January, we saw a very sharp drop off in certain markets in the – really specifically in December. And that’s, we believe, a result of destocking. We haven’t lost any customers.
So we see that as a more of a destocking issue, the only country that really hasn’t improved thus far in the year is Germany. And yes, it’s probably the country that I feel the most confident will improve. But obviously, that’s caveated by the whole issue on the Ukrainian war. I think the Germans really went into their shell during the month – the last quarter, and the consumption was very low and the savings was very high.
What we’ve seen is – and that comes from the worry that they were having on what energy was going to do. Governments have in Germany, for example, have allowed for a certain portion of any inflationary wage increases to be tax-free, and that’s going to put money in people’s pockets. We see savings still very high, but consumption is starting to improve, and that will ease up the supply chain, I think, as the stock in the supply chain.
And so, we feel pretty good when we look forward into Germany about how it’s going to look, obviously, again, with the caveat of Ukrainian war in the background and what that might do. And other markets, as I say, improved like the U.K. improved in January, the Italian market improved in January. So, we have seen improvements, and we really put down a lot of the falloff in Europe to destocking during Q4 and continuing in Q1 mainly in Germany and the Benelux actually.
When I take the Latin American markets, they haven’t improved yet. And they seem to be – there seems to be a large destocking going on over there. There are some nascent signs with one or two customers just as recently as two weeks ago that their orders are starting to pick up very significantly in the durable area, but that one swallow doesn’t make a summer, so to speak. So we’ll have to see a little bit more before we see that in – in the Americas.
Because inflation really does affect the average person there much more than those in Europe even. So we have to see how that transpires over the next couple of months. But again, a bit more optimism than there was, let’s say two or three weeks ago in that area. With regard to pricing, we obviously had a good fourth quarter performance, and that has continued into January. Costs are down, and we consider that we’ve had a very good start in relation to our earnings, and we’ll just see how that pans out as we go through the year.
As we say, it’s early doors, but we’re very comfortable that we’ve got our efficiency programs, our capital investment programs are paying off. And obviously, we feel that we’re very well positioned to take advantage of any growth that will happen. Ken, do you want to take the second question, and then I’ll talk about BIB.
Ken Bowles
Good morning Lars, as soon as track, back a bit to the guidance we gave in November, where we said we do about €2.3 billion, clearly come in ahead of that. I suppose the backdrop to that was costs are still rising. Yes, we’ve done most of our work, not all, nearly all of our work around energy and energy heading for the year. So we had a good line of sight on the open position. I think at that point, we guided probably somewhere around €700 million of the headwinds.
Clearly, we end up with €600 million, but it’s important to remember that while energy kind of came off a little bit in the fourth quarter, where the costs didn’t. We still saw some labor inflation, distribution other raw materials are still kind of climbing it’s like 8 inches some of that kind of small tailwind as we got towards the back end of the year. But as Tony just said, if we start this year, that picture is kind of plateauing in certain cost categories. So the outlook is largely different than what it would have been in the back half of last year.
On the price side, we guided at the November call that we get about 1%, so we felt 1% was coming through on boxes and primarily with some of the inflation pieces that came through. So the box prices, as I kind of noted there has been kind of solid through the year-end and as we start off ahead, despite what’s happened to-date in paper prices.
But suppose it’s early in the year to be calling full cost categories – I suppose the fourth quarter, as you saw the year got very complex in terms of lots of very large moving parts are in cost categories, but I suppose the net-net is to Tony’s point earlier, we gathered them. I managed to kind of get ahead of where we thought would be at the end of October, start November.
Anthony Smurfit
And then, Lars, just on Bag-in-Box, Bag-in-Box has been a phenomenally good success story for us over, as I said, starting with nothing back in 1994 to be the number two player in the world. We’re not breaking out what the turnover and suffice to say that it is above our average. Yes, there’s a lot of embedded value there for shareholders, and we would see that multiple being one day taken for the shareholders.
But we see very significant growth still in the business. We see very significant opportunity across the world. And we intend to take that opportunity within Smurfit Kappa to continue to enhance this business for the future. I think it’s – we are the best of what we do. We make a huge number of taps. We make the plastic. It’s a sustainable product vis-a-vis things like glass bottles or big plastic drums and it uses a hell of a lot of corrugated to protect it, which we use – we do plenty of, for example, the box in water in Spain.
So both from the box side, from the sustainability side, from the expansion side, from the people side, we’ve got the best team in the world in this particular business that have grown up with the business. Our CEO of that is obviously a personal friend, but he’s been in the business 35 years. It’s a great business, and we intend to grow it and develop it within the system for the foreseeable future. But obviously, that one day may change based on the multiples, but that’s not for now.
Lars Kjellberg
One quick follow-up, if I may. Could you just help us to guide us for the capital you put through in 2022, what sort of benefits you expect to accrue from that in ’23?
Ken Bowles
All right I think, Lars, in reality, capital you put in, in ’22 probably takes about 12 to 18 months to get the kind of full run rate of ramp-up given some of the smaller as you’ve seen. But I suppose, if you go back to the IRRs on those projects as a kind of broad mix is going to be above 20%. And they clearly clear the rocky hurdle. So you won’t get the full benefit in ’23. You get, one-third, two-third in terms of ’23, ’24.
But remember, then you’re going to get the benefit of ’21 capital coming through in ’23. So it’s a bit of a kind of a momentum build in terms of incremental capital across all, that piece. And again, for ’23, we’re expecting to put in another build in the capital, which again goes back to building for the future, both through sustainability, through efficiency and through growth.
Lars Kjellberg
All right, thank you.
Operator
Thank you. We will now take the next question, one moment please. It comes from the line of Justin Jordan from Davy. Please go ahead. Your line is open.
Justin Jordan
Thank you and good morning. I’ve got two quick questions. Firstly, on containerboard, we’ve seen clearly European and North American containerboard prices easing slightly in recent months. How should we think about that feeding through to box prices? I know you – can you describe it on those, solid year-to-date, but realistically, should we expect some easing in box prices as we go through the year?
And secondly, just on OCC. I think from memory, Smurfit, as a group purchased something like 6.5 million tonnes of OCC in both Europe and Americas. Again, OCC prices have eased significantly in the last three to six months. Can you give us some idea of what that might mean in terms of an annualized cost saving in addition to the energy cost saving you’ve already described? Thank you.
Ken Bowles
No, just I’ll save Tony, and then I’ll take both of those directly he can jump in if he feels that he’s saving, correcting or embellishing. On the box price side, look, I think you know the natural trajectory in terms of where paper prices go. I think what we’ve seen over the last number of years is a better embedded resilience in the box price. I mean, the reality, tradition would tell you, paper price goes up in a three to six month kind of our box prices start to come off nine-plus that clearly lengthens in the last cycle.
And I think it sort of goes back to a number of factors, which is, I don’t think that particular trajectory works anymore. I think we’re much more to the partners that we supply. I think we’re more embedded there is more value there, more innovation. It’s part of an integrated model and a total supply chain kind of approach. I think if you look back to the last couple of years around what we did during COVID heading with stress.
I think that was much appreciated. And look, I think equally, those contracts that traditionally would have been built on a simple model of paper or paper sacks now infused all this for inflation, energy and things there’s natural protections around while paper price might move, it’s not going to move for other factors. So logically and naturally, you would expect some kind of smaller version box prices and paper continues to fall, but is that going to be in the next three, four months.
No, probably more predominantly towards the back half of this year, which reason a natural cycle. But I sort of remind you all of our success in previous call and cycles, if you want, around holding on to that box price and how we built the margin over time. On OCC, again look, you can see the PIX index, like we see the PIX index you can see the kind of difference in change. I think it sort of goes back to the overall team here, which is it’s still on the early part of February, still a lot to play for.
And China is reopening, Tony’s comments are in Germany and kind of demand picking up could have a material impact on the direction travel of OCC over the coming months in terms of how it’s pulled. But clearly, the China reopening and 1.4 billion Chinese people back in open economies, back exporting will naturally pull the containerboard back into the country, which will provide a decent underpin to the OCC price.
So I wouldn’t – you’re right, your quantum is right around the OCC consumed, but I’d say, look, you could do like we do, we look at the fixed price, but I think I’d also think about the general economic backdrop, how Europe is going to come through the next few months, particularly Tony’s comments around BIB and confidence in Germany, but also don’t forget China is reopened.
Justin Jordan
Great, thank you.
Operator
Thank you. We will now take the next question. It comes from the line of Charlie Muir-Sands from BNP Paribas. Please go ahead. Your line is open.
Charlie Muir-Sands
Good morning, thank you for taking my questions. Mainly a follow-up on what’s already been covered. But with respect to your outlook on box prices, can you just remind us now what proportion of your business is typically on the index prices versus open negotiation? And how that should play into our thinking about how the phasing of box prices will evolve over this coming year?
Secondly, related to that, do you sort of think about this on a kind of unit profitability basis depending on where volumes go in this business or will this spreads narrow or widen based upon how you think you can manage those contracts? And then finally, just on the acquisition side of things. I just wonder what your view is with respect to asset prices at the, moment? Are you seeing it as being a more or less favorable market for securing expansion through M&A? Thank you.
Anthony Smurfit
Hi Charlie, I’ll save Ken, the breath here, and I’ll take those. Basically, about half of our business is indexed in some way, shape or form. I think it’s important to remember, as Ken has just said that the – and they will be generally three to six-month contracts, sometimes yearly contracts, but broadly speaking, most of them are six-month contracts. So at the start of – and you average the quarter and there’s caps and colors depending on the particular customer.
So there’s, all sorts of different formula with every different customer that’s different. Some have waste paper built in, some have energy clauses built in. And most of our contracts now have inflation clauses built in as we have come out of the last 18 months of higher inflation, we have been negotiating with customers to have energy contract – I’m sorry, inflation contracts built into their contracts. So overall, I would say we’re very well positioned.
As Ken mentioned, there is a natural up and down. But I think one thing that everybody should remember is that we are putting a lot of capital into the business. We are spending a lot of money in innovation. — and we are giving our customers a different kind of service than what would have been, say, five, six, seven years ago with regard to the whole sustainability agenda. And that takes a lot of effort and takes a lot of money on our side, and that’s why we have these innovation centers.
That’s why we have the cost there. And frankly speaking, if we’re not getting a return for that, we shouldn’t be doing it. And you can see from the results that we are getting a return from it. So we’re spending a lot of time. So it’s just not as Ken mentioned earlier to an earlier question, it’s just not up and down like it used to be. It’s a very different scenario. Packaging is continually being redesigned, and packaging has continually been modified so that both our customer, and ourselves get the best benefit from the supply chain, and that’s what’s making the difference and we’ll continue to make the difference.
With regard to acquisitions, it was a question on acquisitions. What was the question there Charlie?
Ken Bowles
I think it was about asset value, Charlie, wasn’t it?
Charlie Muir-Sands
Yes, correct. Well, you see it’s a more or less attractive environment. So you’re asking prices reasonable at the moment?
Anthony Smurfit
I suppose it’s more that what you can do with the asset Charlie, to be honest with you. I mean if it’s — we’ve been traditionally very good at finding businesses that we can bring some value to on polished diamonds, if you like so and particularly a success in the U.K. this year and in Mexico and in Brazil and in Spain. I think in the greenfield of Morocco, it’s kind of we — these companies tend to be very around managed, and we can learn something from them as well, which we’ve also done in those assets.
So I think we kind of try and see the value in it. I don’t think our philosophy would have changed around how we see that. If you look back over history, we tend to be very disciplined in this space. At times, it would have been a challenge around not doing M&A when valuations were kind of heavy multiples, but we stayed away from that. And I think you can see the success of that as we sit here today with a rocky of 21%, 22% and a strong balance sheet, which gives us tons of firepower for whatever you might want to do.
So I think it’s less of where asset values are. I think it’s more about what you can bring to them in terms of the wider context of bringing it to market, bringing our innovation, bringing our capital, bringing our customer base, bring our tools, technology and our expertise. I think that’s where we drive the value from.
Charlie Muir-Sands
All right guys. Thank you very much.
Operator
Thank you. We will now take the next question – it comes from the line of David O’Brien from Goodbody. Please go ahead. Your line is open.
David O’Brien
Good morning guys, thanks for taking my questions. Three, please, if I could. Firstly, I know you didn’t want to talk to Lars’ point on what the capital investment plan is going to deliver in ’23, but could you give us an idea of what it delivered in ’22 and ’21 and just how that is gathering momentum. Secondly, you talked about a culture of continuous improvement. This year, you’ve delivered a return on capital to 21.8%, which is fairly stunning?
I’m not going to ask you how you improve from there. But I guess the question is fairly obviously either 17% through the cycle target rate for returns. Is there upward pressure on that at this stage or how should we think about it now given the strength of your performance? And then finally, again, a record balance sheet strength. Where should we think about the capital deployment opportunities over the next five years?
I guess you’ve got €1 billion of organic investment again this year. But is there further opportunity internally within the group that you can continue to deploy towards – you’ve kind of given your view on acquisitions to Charlie. And what kind of – you’ve talked about opening, I think, for the first time net buybacks. Is there trigger levels of leverage we need to think about before that you won’t go on there to think about when you start to execute larger buyback programs or how should we think about those kind of milestones?
Anthony Smurfit
Well there’s, more than three questions, okay. But thanks for those questions. They are very thought provoking – but obviously, I’ll let the last question go to the last number of questions go to Ken. Just on the – how should you feel about capital? I mean, basically, if you imagine our depreciation is roughly 500, and there is always some pickup in — when you’re investing in, let’s say, repairs and renewals, there’s always some pickup in efficiency or something – some minor returns out of that.
So I would say anything above that, you should be looking for at least a 25% return. So if we’re looking at €500 million above €500 million or €600 million, whatever the number of depreciation, is and add a bit, I think it’s a good number to look at. And that will be the overall general improvement in the business. Obviously, it’s always masked by so many different moving parts, whether it’s cost on one side of the ledger or whether it’s savings on the other side of the ledger, it’s very difficult to point to an actual number.
You sometimes win more customers than – you because of your equipment or you get more efficiency or you get less inefficiency because of your investment in energy. So it’s very difficult to point to a number. But the way we broadly think about it, if we’re investing, let’s say, €0.5 billion above depreciation, and we’re not getting a 25% return or so, on that additional investment, then we’re not doing our job. Ken?
Ken Bowles
Good morning Dave, it’s clearly coming from the Barry Dixon school, the mathematics there of the question. I suppose, how do we think about Rocky, right? So you know the way we think about investment in this business, which is we take a three to five-year view on where we need to put that capital either at the paper end as we did in the last cycle where we purchased Verzuolo than offset a couple of paper projects or in this cycle, where we’re pushing it more towards the consumer end and building at the box business and everything around that.
So we think about the Rocky in the context that – the Rocky is less the target is more of a kind of a floor about where we think as Tony just mentioned, where we think projects should come in at. So I think it’s the case of around our current investment cycle, which comes out of the 2020 equity raise, we end with that. Clearly, we have strong ambitions around sustainability projects and everything else. And then it said, look, wait till this finishes, then we sit down and review where we think the next level of capital will take us in terms of whether that target should be increased or not.
But it’s not a target we kind of put us as to. It’s there as a kind of a place as a reminder of where we’ve taken the return on capital of this business to over a very short period of time. But the reality is, we have a lot of space to build from at a 21.8% return on capital. And I think what it shows is if – as Tony just said, if you deploy internal capital well, if you drive every piece of return from it. And if, to be honest, you treat every pound as prisoner and you’re as a prisoner, this is what you get, and that’s the kind of focus.
So not touching the target anytime soon, but it’s one we review at every kind of capital cycle that we come to. And then the last one, I think, was on buybacks, Dave. I think it’s less about a floor price or anything else. I think it’s more about a view about where you can generate the best return for shareholders in terms of allocating capital. So clearly, we’re in a space now where our balance sheet has never been stronger at 1.3 times, it’s in very healthy shape, but we do like efficient balance sheet.
And if we felt that capital wasn’t going to inbound projects or M&A opportunities weren’t there for us or the dividend didn’t need to be supported or growing orders and clearly, buybacks apart that suite. I think the important point about what we did last December in a small way was to expand the opportunities available to us and expand the portfolio we have around being able to allocate capital and deliver value. I think that’s probably the more important point around that particular program.
David O’Brien
Great. And sorry, just on the contribution from the investments in 2021 to 2022 in the round, what do they contribute?
Anthony Smurfit
I would have said around €100 million, €100 some million in both occasions based upon the previous years. Lower depreciation, I can’t remember exactly what our depreciation level was, but – and our investment over those. But we really – I think last year was the first year that we had close to €1 billion investments. The previous years were around €700 million or so €700 and some million. So obviously, the contribution wouldn’t have been as big as it will be going forward in this particular cycle of investment.
David O’Brien
Great, thanks, very much guys.
Anthony Smurfit
Thanks David.
Operator
Thank you. We will now take the last question. It comes from the line of Cole Hathorn from Jefferies. Please go ahead. Your line is open.
Cole Hathorn
Good morning, thanks for taking my question. And Ken I’m just hoping you can give us a little bit more color on the cost buckets into 2023. I realize there’s a lot of uncertainty on how energy and waste paper and things move. But the cost buckets you can give us, even if it’s just labor year-on-year and some of the other dynamics there. And then looking at verticals business over the longer term, Tony, you called out you’ve got more paper capacity and less mills and you’ve gone to integrate kind of better invested projects. You’ve invested over €1 billion in energy projects alone. How do you see the European containerboard and box market playing out? Are the bigger players like yourselves who’ve invested and well invested just going to outperform some of the smaller mills that just haven’t had the CapEx to invest in their mills. I mean, are we going to see a bit of a two-tiered system in Europe? And I’d like you to hopefully link that to the U.S. I mean you see the big players there. It’s very consolidated. Whatever the volumes are the big players generally deliver that. Whatever the volumes are in the U.S., you tend to outperform the market. So I’d just like to hear your thoughts there? Thank you.
Ken Bowles
Thank you Cole, I’ll let Tony illuminate on that one for a second and thanks for sharing the questions evenly. I suppose the cost book Cole, I suppose the one thing we’ve seen over the last couple of years, I know we have the crystal ball, but I’ll try to put a little bit of science behind where we sit to kind of guide us slightly. Let’s take energy for a start. I mean the reality is energy remains volatile.
While the prices kind of settled down, that kind of between 55% and call it, 65%, 70% range, the reality is that either hedging at those levels or contracting at those levels it’s still a relatively illiquid market in terms of what’s out there. So they’re not the prices peer buying energy at. But if I was sitting here today just on a very simple kind of mark-to-market exercise, I said you that, I broadly think that if this persisted for the year, my energy bill year-on-year at the moment, it’s probably around flat.
And that’s where I see it as I sit here now. In terms of labor, which is opposed to the other big cost books, clearly, we did a lot of work around that during 2022, with the full year run rate into ’23 will clearly have a bigger impact and some final adjustments that might come through. So that could be a headwind in the order of maybe it’s €150 million or so, slightly more probably even between maybe less depending on the CTO program.
And remember, we do have an annual CTO program that we do target around €100 million a year, designed just purely to take some of that level of inflation. So I suppose we’ve got to take both sides of the ledger here in the sense of, yes, we know that some costs have moderated, particularly around maybe distribution and some other raw materials in OCC clearly where it is. Energy could go either way at the moment. But just to kind of help you out, I think I’m broadly flat, as I sit here for the year.
Labor clearly a creeping cost and then we do have a large workforce, but then look at the other slide in the sense that we do have a CTO program but we do use our set inflation. We are investing to take out efficiency. The restructuring program in the Americas will take that head count. So I suppose in the kind of classic [Murcia] fashion, we understand what the inputs are and then we’re designing opportunities and investments to kind of deal with some of those challenges that come and meet us, and that’s what we’re doing.
So it’s difficult, though Cole to kind of give you a full year view on some cost book. It’s simply as it’s very early. And I think what the world has called us for the last 18 months is things move fairly quickly. But what we have line aside on, we’re very comfortable with as we start the year.
Anthony Smurfit
And Cole, to your question about should we outperform I think it’s fair to say that we would be very comfortable and confident that we will always outperform our peers in the way we’ve set ourselves up. I mean we are a very, very innovative company on the box side, we see ourselves — we haven’t got the final statistics for the year. But up until the end of October, we’ve gained share in the last year because of our security supply because of our design and innovation across practically every European country.
And then on the paper side, in Europe, an integrated producer such as ourselves will always do better than the non-integrated. And we’ve seen that from all the mills. We’ve bought two very large mills, Verzuolo and Reparenco, and they would have been significantly underperforming what we’re doing if they were independent. And I think that’s fair to say that will continue, except in the very, very tight markets and maybe not even then because they don’t have a guaranteed source of outlets.
They have to go further for their customers. They probably have to discount more and they don’t have the transportation savings that we will have, as I said forever as an integrated producer because we run our supply chain so tightly. So I would say putting us at the top with outstanding in any way arrogant, I’d say we’re by far the best in managing that as an integrated player and integrated players will typically always outperform nonintegrated players.
And then if you have a good box system on the other side of that, then I would say that, that gives you the double profitability that we have shown and will continue to show. With regards to the American market, a different model in America it’s a much more commoditized market. So I think it’s more traditional in the United States to what Europe would have been 25 years ago. It’s still a kraftliner dominated market.
It is very consolidated, but there are still some growing independents in there, which are disruptors potentially for that market. But nonetheless, I think, as you say, it’s a consolidated market and the big guys have been taking the downtime to make sure that they don’t overstock over the last three to four months in America as we can see it. But it’s a different – the U.S. market is different to the European market.
There’s less variety of packaging grades. There’s less variety of papers. There’s less variety of colors. So it’s a different type of market. That’s not to say it’s a bad market, it can be a good market, too, because of the consolidation, but it’s a different we’re much more consumer-led merchandising medium in Europe than in the U.S.
Cole Hathorn
Thank you. And then, Tony, just maybe a last question is on inventory levels, is there any color you can give on Smurfit Capital, what you’re seeing in the wider industry for containerboard or box inventory levels? Thank you.
Anthony Smurfit
On box inventories, we don’t really have any line of sight on that. But on the container side, we’re still a bit above where we’d like to be, but not massively. In fact, the numbers that came out is the last numbers that we saw were I think in about three weeks ago, and they were better than we anticipated them to be. And that’s really a function of all the downtime that was taken. We took 260,000 tonnes. We estimate about 2 million tonnes of downtime was taken in Europe. So again, I think we took less downtime for our market share because our system was that much better. But overall, I think downtime was taken through inventories are pretty well under control, but we’d like to see them tighter, obviously.
Cole Hathorn
Thank you.
Anthony Smurfit
Thanks Cole.
Operator
Thank you. I would like to hand back over to Tony Smurfit for final remarks.
Anthony Smurfit
Thank you, operator. Yes, and again, thank you all for being with us today. As I said and as Ken has said and shown and demonstrated our results for last year were truly exceptional given the very difficult environment in which we are operating. I think over the years, Smurfit Kappa has made investment plans and developed itself with acquisitions to really put itself in a position to capitalize when markets are doing well.
And as I say, while success is never a straight line, this company has never been in a better position to take advantage of any opportunities that come before us. So I thank you all for your support and your interest in Smurfit Kappa. We continue to look forward to the future with optimism, and we look forward to seeing and then speaking to you in the coming weeks and months ahead. So thank you all, and have a very nice day.
Operator
That does conclude our conference for today. Thank you for participating. You may all disconnect.
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