Q2 2025 Earnings Call Transcript

Ladies and gentlemen, thank you for standing by. [Operator Instructions] Welcome to Avery Dennison's earnings conference call for the second quarter ended on June 28, 2025. This call is being recorded and will be available for replay after 4:00 p.m. Eastern Time today, and until midnight Eastern time, July 29, 2025. To access the replay, please dial 1 (800) 770-2030 or 1 (609) 800-9909 for international callers. The conference ID number is 5855706. I'd now like to turn the call over to John Eble, Avery Dennison's Vice President of Finance. Please go ahead, sir.

Thank you, Tiffany. Please note that throughout today's discussion, we'll be making references to non-GAAP financial measures. The non-GAAP measures that we use are defined, qualified and reconciled from GAAP on schedules A4 to A8 of the financial statements accompanying today's earnings release. We remind you that we'll make certain predictive statements that reflect our current views and estimates about our future performance and financial results.

These forward-looking statements are made subject to the safe harbor statement included in today's earnings release. On the call today are Deon Stander, President and Chief Executive Officer; Greg Lovins, Senior Vice President and Chief Financial Officer; and William Gilchrist, our new Vice President of Investor Relations. I'll now turn the call over to Deon.

Thanks, John, and hello, everyone. We delivered a solid second quarter with earnings above the midpoint of expectations and strong free cash flow in a dynamic environment. This result again demonstrates the strength and resilience of our franchise with multiple levers in our portfolio to deliver in a range of scenarios. As anticipated, changes in trade policy throughout the quarter had both direct and indirect impacts on our business.

We successfully continued to leverage our proven playbook to mitigate the direct cost increases through strategic sourcing adjustments and select pricing surcharges, and to minimize the impact of sourcing demand reduction, particularly in apparel and general retail categories in the Solutions Group. The Materials Group delivered strong productivity and margins on modest volume growth in the quarter. Strong product mix bolstered margins, underscoring the effectiveness and importance of our strategy to continue expanding our position in high-value, more differentiated categories. High-value categories constitute over 1/3 of our Materials Group sales, and these products continue to outpace the base in the second quarter with particular strength in graphics and reflective solutions.

For overall volume, growth in North America was strong, particularly in film categories, while Europe was down and emerging market growth was solid. Softer growth in Europe and Asia was partly attributable to a strong second quarter last year in which customers pulled orders forward in anticipation of a price increase. Volume in both regions was slightly below expectations, particularly in paper categories, including a modest impact from lower demand for U.S. exports. Solutions Group delivered solid margins in the quarter, up compared to prior year despite a decline in apparel and general retail categories, which was partially offset by low double-digit growth in other categories resulting in a modest decrease in overall sales.

Overall apparel sales were down 6% in the quarter. As you can see on Slide 7, orders are down high single digits in April and improved in May and June, exiting the quarter down low single digits. Despite the reduction in sourcing demand during this period, consumer demand for apparel continues to exhibit resilience to date. Within high-value solutions, Embelex, a high-growth platform driven by performance athletic categories, and fan engagement in Team Sports, was down in the quarter on lower sourcing demand and slower orders from prominent U.S. performance brands.

We anticipate a strengthening of Embelex's growth trajectory later this year, partially driven by the 2026 World Cup. Vestcom, our suite of productivity and media solutions for the retail shelf edge was up roughly 10% in the quarter on the successful rollout of our productivity solutions at CVS Health, which was completed earlier in the quarter. Turning to enterprise-wide Intelligent Labels. Sales were comparable to prior year and up mid-single digits sequentially.

Apparel and general retail categories were down mid-single digits, while food, logistics and other categories were up mid-teens collectively. In apparel and general retail, customers reduced orders and inventory levels as they reevaluate their sourcing timing and strategy. We anticipate growth in these categories will normalize over time. In food, we delivered strong growth in the quarter as our strategic collaboration with Kroger continues to ramp as expected, and we continue to see strong momentum in our pipeline with other grocery customers.

In logistics, we delivered strong growth compared to prior year and sequentially. Our share in this segment remains strong and we continue to actively pursue new projects with other customers. From an overall operational perspective, this business has had to make adjustments to our global network due to shifts in trade policies. To counter this, we activated initiatives to reduce network inefficiencies and associated costs.

With more than 70% of our intelligent label platform linked to apparel and general retail categories, near-term growth is likely to be impacted by trade policy. We expect growth in these categories will normalize over the cycle and are focused on accelerating controllable growth. Key rollouts planned for this year remain largely on track and the performance of our recent launches and pilots, particularly within food and logistics, where ROIs are exceeding expectations, instills confidence in the long-term growth trajectory of this platform. Shifting back to the total company.

Given the near-term uncertainty, we are taking a cautious approach to forward expectations, and expect third quarter earnings per share to be comparable to prior year. We are prepared for a range of scenarios, and we'll continue to leverage our proven playbook to safeguard earnings while driving key initiatives to deliver strong profitable growth, given the strength of the overall franchise. We are industry leaders in more than 80% of our portfolio in large, growing and diverse markets. We are competitively advantaged, including our global scale, footprint, innovation and go-to-market strategy.

We have catalysts for strong growth over cycle, in multiple high-value categories that provide differentiated growth potential, and in emerging markets. Our strong franchise and agile global team provides us multiple levers to deliver in a broad range of scenarios. Materials Group has demonstrated strong resilience through and across cycles and has limited direct tariff exposure due to the regional nature of the business. Solutions Group is less cyclical than it was historically, evident by the second quarter results.

Lastly, we have a strong balance sheet with ample capacity and a disciplined approach to capital allocation that provides significant flexibility, including organic and M&A investments, to accelerate our strategic objectives and expand EVA over cycles. Taken together, these elements will enable us to navigate the dynamic environment and deliver superior earnings growth over the cycle. While I'm confident in our long-term earnings progression, I'm not satisfied with our current growth and earnings trajectory, particularly within our IL platform. Here, we are taking action to improve network efficiency as well as expand innovation to help accelerate growth.

I want to thank our entire team for their continued resilience, focus on excellence and commitment to addressing the unique challenges at hand. Over to you, Greg.

Thanks, Deon, and hello, everybody. In the second quarter, we delivered adjusted earnings per share of $2.42, up 5% sequentially and comparable to prior year. As productivity offset lower volume in apparel and the net impact of pricing and raw material costs. As Deon mentioned, trade policy uncertainty during the quarter impacted our results, largely due to lower sourcing volume in apparel and general retail categories.

We estimate the indirect effect of tariffs lowered our earnings per share by more than $0.10 in the quarter. Compared to prior year, sales were down 1% on an organic basis, as positive volume mix was more than offset by deflation related price reductions. Adjusted EBITDA margin was strong at 16.6% in the quarter, up 20 basis points compared to prior year. And we generated strong adjusted free cash flow of nearly $190 million in the quarter.

Our balance sheet remains strong with a net debt to adjusted EBITDA ratio at quarter end of 2.3, and we continue to execute our disciplined capital allocation strategy, including returning cash to shareholders. In the first 6 months of the year, we returned roughly $500 million to shareholders through the combination of share repurchases and dividends. Early in the quarter, we announced a 7% increase to the company's quarterly dividend, up to $0.94 per share, a dividend we've consistently grown annually for more than a decade. Turning to segment results for the quarter.

Materials Group sales were down 1% on an organic basis as modest volume mix growth was more than offset by low single-digit, deflation related price reductions. Organically, high-value categories were up low single digits and the base business was down low single digits. Looking at regional label materials, organic volume/mix trends versus prior year in the quarter. North America was up low to mid- single digits.

Europe was down low to mid-single digits, as we lapped the strong prior year that included customer pull forward ahead of price increases. Asia Pacific was up low to mid-single digits and Latin America was up low single digits. Compared to prior year, Graphics and Reflective sales were up high single digits and Performance Tapes and Medical were up low single digits organically. Materials Group continued to deliver strong margins with an adjusted EBITDA margin of 17.8% in the quarter, down to slightly compared to prior year and up slightly sequentially.

Regarding raw material costs, excluding the direct impact of tariffs, we experienced modest sequential global raw material cost deflation in the second quarter as expected. However, higher tariffs, primarily between the U.S. and Europe, began affecting us in the middle of Q2. We substantially mitigated the increased costs through strategic sourcing adjustments and the implementation of select pricing surcharges. Overall, including our tariffs, our outlook sequentially in Q3 is for low single-digit inflation versus prior year. Shifting to Solutions Group.

Sales were down 1% organically. Outside of apparel and general retail categories, sales were up low double digits. With overall high-value categories up low single digits and Base Solutions down mid-single digits. Within high-value categories, Vestcom was up roughly 10%, driven by new program rollouts, and Embelex was down in the quarter as Deon noted.

Enterprise-wide Intelligent Label sales were comparable to prior year and up mid-single digits sequentially in the second quarter. Food, logistics and other categories combined were up mid-teens, offset by a mid-single-digit decline in apparel and general retail categories. Solutions Group achieved a solid adjusted EBITDA margin of 17.1%, up 30 basis points compared to prior year, as benefits from productivity were partially offset by lower volume in apparel and growth investments. Now shifting to our outlook.

For the third quarter, we expect adjusted earnings per share in the range of $2.24 to $2.40. Comparable to prior year at the midpoint as benefits from productivity and sales growth in the majority of our businesses are offset by typical wage inflation, and a top line decline in apparel and general retail categories. Sequentially, historical seasonality trends have resulted in a mid-single-digit decrease in EPS, primarily attributable to the August holiday period in Europe and the seasonal nature of the apparel business. Our guidance for Q3 assumes this typical seasonality as well as a slight sequential benefit from currency translation.

While we've seen some signs of apparel industry improvement exiting Q2, the outlook remains uncertain and customer feedback and sentiment remains muted. We're assuming a continuation of soft apparel volumes in the third quarter. We've also outlined some contributing factors to our full year results on Slide 14 of our supplemental presentation materials. To highlight a few of the key drivers, we now anticipate a $7 million currency translation benefit to operating income, compared to our previous projection of a $7 million headwind.

We now expect restructuring savings net of transition costs of approximately $50 million as we continue to ramp up our productivity efforts. And while we're not giving guidance for the full year, we do anticipate returning to earnings growth compared to prior year in the fourth quarter, assuming no significant shift in the macro. And we continue to expect strong free cash flow across a wide range of scenarios, targeting roughly 100% conversion for the year. In summary, we delivered a solid second quarter with EPS above the midpoint of our expectations through a dynamic environment, and we're well prepared for a variety of macro scenarios and well positioned to continue to deliver exceptional value to our stakeholders through our strategies for long-term profitable growth and disciplined capital allocation.

And now we'll open up the call for your questions.

[Operator Instructions] Our first question comes from the line of John McNulty from BMO Capital Markets.

So I wanted to dig into Solutions a little bit. I understand the tariff stuff created some noise. It does look like maybe the trends were improving. But I guess, admittedly back-to-school doesn't change.

Holiday season doesn't necessarily change all that much. So I guess, can you speak to whether you see pent-up demand where we may see some kind of quicker turnarounds going forward as we get into the second half, and how the profitability of that might flow through? And then I guess the other question I had on Solutions was just, you sound optimistic about, in particular, some of the excitement around the food and grocery channel at this point. Is that something where you think we could see a conversion of new business, or a new account, before the end of the year?

Thanks, John, for the question. Let me just deal with the first one. What we've seen really in the macro environment, John, if you take a step back, is continued kind of retail sales volume softness in Europe. There's -- and retail sales in the United States are still only projected to grow sort of above 1%.

And I think the apparel industry specifically itself has hadn't been impacted by the whole tariff uncertainty. Not just the tariff rate itself, but also when and where they get applied and when they become more certain. Those two things, and when you add them together, have -- certainly had an impact on the way our customers have been thinking about their sourcing strategy. So in the early days, you may recall, we said we saw some orders being held as apparel retailers and brands trying to determine where they're going to source and how they're going to price those when they landed in the United States, particularly.

That has slowly improved as we've gone through the second quarter. But the sentiment from our customers still remains fairly muted and the discussions we have with them, they're still saying they're waiting for more clarity to really understand exactly when they're going to be able to do that. Now overall, apparel consumption remains relatively robust to date. What I think we're going to see as we move forward, at least anecdotally, what I hear from customers, is that they're going to continue to watch how inflationary pressures impact the consumer demand, particularly in apparel, because likely we're going to see inflationary pricing in the apparel industry as we move forward in the second half.

And they're trying to judge how much sourcing volume they then anchor themselves on relative to support that demand. And those ranges that we get from customers tend to vary as well, John. So we're taking an approach we say that we're assuming in the third quarter continued sort of low single-digit demand in our business for apparel and general retail overall. To your second question around food and grocery, I am very optimistic because while the impact that we've seen on apparel and general retail has been to have sort of mid-single-digit declines in the second quarter, outside of that, food, logistics and other categories are actually growing mid-teens and really good strong growth in food and logistics as well in both of those specific categories.

And what we do know, and what we believe at the moment, is that outside of the impact that tariffs have had largely on apparel and general retail, the rest of our business is largely on track to where we originally assumed. And in particular the rollout that we had assumed as we went through this year on track. Some of those rollouts in food and logistics, or particularly in food, include also new customers as they go from pilot stage to rollout as well. And the results that we're seeing, particularly in food, from an ROI perspective, we're exceeding both the existing customers and some of our pilot customers' expectations.

This gives us confidence in the fact that we're going to continue to see adoption as we go through the second half of the year into the start of '25 -- '26 apologies.

John, if I could just add one thing to Deon's comments. So we had in the second quarter, as we talked about, impacts in apparel down about 6%. Our assumptions for Q3 is our apparel business overall will be down low single digits versus prior year. So we assume a little bit better based on that -- the graph you see and how we were exiting Q2, assuming we stay roughly on the trajectory that we exited Q2 at.

Your next question comes from the line of Ghansham Panjabi with Baird.

Just following up on the last question and your comments, Greg, just in terms of the apparel improvement in 3Q. What are you baking in for RFID specifically in terms of volumes for the back half of the year? And then second, your confidence underpinning the expected improvement in 4Q earnings on a year-over-year basis, what are some of the drivers we should consider as relates to that assumption?

Ghansham, let me deal with the first question. Just reiterating, we continue to see the impact of apparel and general merchandise, those two categories through the tariff environment. And as I said, outside of those, our business is largely on track in the way we thought it would be. We have two things that are going to happen in the second half of this year.

I anticipate all things being equal, there's no further deterioration, we should see growth in IL in the third quarter. And then in the fourth quarter, we expect to see some of those new programs, or the rollouts that we're seeing take traction in the fourth quarter as well.

Sorry, Ghansham, I didn't get the second question. Didn't come through clearly.

As it relates to the 4Q earnings year-over-year.

4Q. Yes, I think when we look at -- you see our guidance for the third quarter at the midpoint of about $2.32 or so. When we look into the fourth quarter, and think about the trajectory going forward. Typically, as we talked about in Q3, we have some unfavorable seasonality from Q2. We typically see some favorable seasonality from Q3 to Q4. Somewhere in the low single-digit range from an earnings perspective.

So that picks us up a nickel or so from that perspective. We're continuing to drive productivity actions as we've talked about as well, and we're increasing our restructuring as well as driving other ongoing productivity across the business. So that gives us a bit of a pickup from Q3 to Q4. So when I look at sequentially, at least those two items alone put us at or above prior year from an earnings perspective. And that's assuming really no improvement in apparel or other parts of the portfolio.

And we're really expecting, as Deon talked about, to continue driving growth in outside of apparel and IL, continue driving growth in Vestcom versus prior year, et cetera. So those things all together give us confidence that we'll see earnings growth in the fourth quarter.

Our next question comes from the line of George Staphos from Bank of America.

I guess I wanted to piggyback on IL as well. So did you see any kind of pickup specific to the setting of tariffs in Vietnam, and that being established and then current orders coming because customer at least knew what their sourcing and cost would be of that country? And just looking at the chart and trying to put your commentary together, are you still down year-on-year in apparel orders into July? Or are you actually now up modestly?

I know you're saying down low single digits in the quarter, but July, where were you?

Thanks, George. As it relates to the question specifically on Vietnam, we did see during the quarter, as expected, some volume was being moved from China to other regions, notably particularly Vietnam, and South Asia as well. This is before -- this is during the time of the 10% tariff rate around the rest of the world, George. And so there was a slight pickup in Vietnam IL orders relative to a slight decrease in China, but that all was contained within the overall Q2 performance of apparel and general merchandise being more muted because of the broader tariff impact.

I will say, though, that as we've seen some of the other tariff rates begin to be set or at least indicated the magnitude where they're going to be, we continue to see customers in the apparel side calibrate what they're going to do from a sourcing perspective moving forward. And of course, for our advantage, George, as you know, we have manufacturing facilities and support facilities in each one of these countries. So as customers choose to move volume, we have the ability to help them in that regard and move the volume, both core products, base products and IL as needed. From an overall apparel perspective, our current apparel volumes and orders are roughly flat to prior year-to-date.

That's the way I'd characterize it.

Our next question comes from the line of Matt Roberts from Raymond James.

I'll shift gears just a little bit here, or probably. Share repurchases to date are near record annual levels, still trading at the valuation gap versus the S&P. So how should we think about free cash flow in '25, and potential for further repurchases? And should growth in IL or rollouts continue to be slower than expected.

At what point do you think you would need to do inorganic growth? You seem to kind of call that out earlier. So at what point would you need to pivot there to start seeing a greater margin contribution from other high-value categories?

Thanks, Matt. So I think as we talked about last quarter, we're continuing to execute our capital allocation strategy, continuing with the way we've approached it in the past. We talked about -- we ramped up share buybacks in Q1. I think I mentioned a quarter ago that we've continued doing that, likely not at the same pace we had in Q1, but we were going to continue to do that while the share price was where it was compared to our expected intrinsic value. So that's something we continue to do in the second quarter.

Again, a slower pace in Q1, but continuing to do that. And we'll continue to execute that capital allocation strategy. We feel good about the balance sheet. It's gives us capacity to invest organically in the business, capacity to continue returning cash through an increase in dividend as we did last quarter as well as continue to do share buybacks.

And then we have capacity for M&A as well. So we feel good about that, and that's an area we're continuing to drive opportunities, of course, not just in IL, but across our high-value categories, looking at M&A opportunities to continue to expand our proportion of the portfolio that's in high-value categories.

And Matt, let me just add to Greg's comments. We've been very deliberate in managing our capital allocation consistently over a very long period in a very disciplined way as well. Our leverage ratio is at around 2.3 at the moment. And we see that management leading us to have an ability, if we need to, to lean forward when we see market dislocations, or asset dislocations in terms of prices, always focused on how we think about executing the strategy.

Our M&A pipeline remains very robust. And when we see the opportunities, and they're in line with our strategy, we'll continue to execute on them.

Our next question comes from the line of Jeffrey Zekauskas from JPMorgan.

Your graphics and reflective volumes has been up high single digits for the first 2 quarters of the year. Do you expect a continuation in that trend? And what do you see as behind it? And then secondly, your SG&A expense has been lower year-over-year for the first 2 quarters and sort of nicely lower in the second quarter.

When I look at your 10-K, it doesn't seem that your overall employee levels are so different. What's behind the decrease in SG&A? If you could answer those two questions.

Thanks, Jeff. Yes, we're pleased with our graphics and reflectives combined growth overall being sort of mid- to high single digits across the 2 quarters. It's largely driven actually on our graphics business with particular strength in Asia and North America. We continue to see some new customer acquisition in Asia, where we're getting more traction with what we call our paint protection films overall.

And similarly, in North America, where our, what we call, our cast color change films are having stronger attraction as the auto market moves into more and more customization of colors and so forth as they look forward. And we expect largely this trend to continue through the remaining part of this year. In line with our expectations that our high-value categories, particularly in Materials Group and also in Solutions Group will continue to deliver a greater, greater share of our portfolio in time to come.

Yes, Jeff, and on your second question on SG&A. So when we look at it versus last year, of course, we've got continued restructuring actions that are benefiting both SG&A and cost of sales, but it's a mix between the two. So there is some benefit there, probably more so on the SG&A side from a head count perspective proportionally. And then we're obviously -- obviously, given the volume environment, particularly in apparel, general retail, as we talked about, we're continuing to do discretionary cost reductions, things like travel, et cetera, are continuing to manage very well.

Then we look from a year-over-year perspective in the first half. Last year, in the first half, our performance was above our original target. So we had a higher-than-average incentive compensation accruals. And this year, we're performing a little bit below given our results below our original expectations.

So a little bit below our normal level of incentive comp accruals. So there's an impact across those three buckets versus last year.

Our next question comes from the line of Anthony Pettinari from Citi.

Deon, in your prepared remarks, you talked about not being satisfied with the growth trajectory in IL. And I think you talked about efforts to improve network efficiency and expand innovation. And I'm wondering if you could give a little bit more detail about sort of what activities you're pursuing there. And then just generally, in terms of IL, maybe competitive intensity, I mean do you feel that you're missing opportunities, or growth industry-wide has slowed?

Or if you could just give us some kind of context for those comments and the activities that you're pursuing?

Sure, Anthony. And let me reiterate, I'm not satisfied where we are with our IL platform overall in terms of its growth. And actually, our earnings trajectory as it stands at the moment, and that's the reason we're so focused on executing against our strategies and particularly driving our innovation as well. As we specifically focus on IL, I made the point that when we were moved -- when the initial tariff environment started to emerge, and there was initially tariffs that were set in Mexico relative to other countries and that changed, we were moving -- using our network to try and move around our -- not our assets, but our actual manufacturing volume to make sure that we're taking advantage of whichever was the most tariff-friendly place at that time.

Now of course, that switched quite dramatically during that period as well. And while we have a very resilient network, we can move things around, there are always associated costs. We've learned a lot out of that, Anthony. As we move forward, we're taking some additional steps to make sure where at the macro level, we're improving the resilience of how we use that network.

We're also thinking through how we use working capital to also make sure we continue to deliver superior service and meet the opportunities that are there. The second part of that is specifically innovation. For me innovation is always going to drive differentiating ourselves in the market relative to competition. That's where our focus has been.

And we have accelerated our innovation outcomes, not just at the product level, but at the solution level as well. And I'll give you a couple of examples of that. At the product level, as we look forward to what is going to be the bigger categories, which is largely food and the logistics, we continue to really innovate. Recall, we were the first people in food to bring out a microwavable tag as an example, something that's needed when you get to stuff that is effectively frozen.

But we've also recently launched the first APR, association of plastic recyclers' recyclable tag, which is important when you get to perishable items that are contained in plastic containers. And then the third element is as we look forward for innovation, where we're going to be launching in the second half of this year, some really strong new proprietary IP to do with the category expansion in food, as you go beyond bakery into some of the other categories like protein and perishables, they will need more specific technology innovation. And I think we're going to be able to really differentiate ourselves in that regard.

I think on your second point around competitive intensity, I don't see a change in competitive intensity overall. This is a space that continues to track capital, and we see balanced competition all around the world. But we remain in that regard, the market leader. We have the majority share.

And I'm anticipating actually this year for our share to slightly increase as we not only roll out, for example, in apparel loss detection mechanism. We've spoken openly about with Inditex that will actually gain us share as we move forward, but also some of the new rollouts that are coming that I spoke about will also be largely where we are the significant majority of providers. In my anticipation that our share overall will continue to expand as we go through the second half of this year. At a broader level in the industry.

I think the industry, given that the industry like us is still anchored in 70% general merchandise, general retail and apparel, I think we're seeing some of that impact that we're seeing probably across the rest of the industry as well. That said, I still think the industry has significant growth opportunities. Our conviction in our growth trajectory remains undimmed. We still see this as a 300 billion units, or put differently, $8 billion opportunity right there and thereabout, as we move forward.

And we are seeing what we need to do to see for -- from an adoption process. We've had the first food customer go. We have a very, very strong pipeline for grocery retail coming up on that. We've had the first logistics customer go.

We're in active pilots, expanded pilots with logistics customers. And so while that growth over the years, as I've said consistently, maybe a little episodic, I still have strong conviction in our ability to grow that platform significantly as we move forward over the next decade.

Our next question comes from the line of Mike Roxland from Truist Securities.

Truist Securities, Inc., Research Division Congrats on good performance despite the backdrop. My question, I just wanted to follow up quickly on the growth in food. And you mentioned, Deon, you obviously, the significant growth in food, you have a strong pipeline. With respect to Kroger, though, the company did announce plans in late June to close 60 stores over the next 18 months.

So can you just give us a sense of what that means for your IL deployments in baked goods and ultimately, for any protein deployment with Kroger?

Yes, Mike, I'm not necessarily going to comment on specifically the reasons why some of our customers do what they do. I think for me, that's just a normalization of the way they look at their real estate footprint. What I will say is our rollout with Kroger continues to be as expected. They're up to around about 700 stores now, the midpoint of the year in terms of the rollout.

And recall, I think we said that it would take probably about a year -- sorry, 1.5 years or so to sort of get to full rollout. That was just on the bakery items. So a smaller number of stores will have no real impact on that at all overall. We're actually in the process of discussion with that customer, specifically around given the returns that they're seen, as being as strong as they are, the ROI, how do we accelerate into some of the other categories we historically planned to, including things like proteins and so forth as we move forward, Mike.

Our next question comes from the line of John Dunigan from Jefferies.

Congratulations as well on a good quarter in a tough environment. I wanted to switch to Embelex and Vestcom. Embelex, I'm a little bit less familiar with the business. It does seem like you have some good visibility on doing well in the back half of the year ahead of, I think it was a 2026 World Cup.

But is this the type of business that will be pretty reliant on these larger, maybe global types of sporting events? It's been a bit of a rough first half, which may be just because of consumer discretionary spending. So maybe you could spend a little time kind of walking us through your expectations for growth in that business? And then with Vestcom, maybe just an update on how the rollout is going with CVS?

Anything you've kind of learned or been surprised about either positively or negatively with that program?

Sure. Thanks for the question, John. Let me touch on Embelex first. You're right.

Our performance this first half of the year hasn't been where we had hoped it to be, but in reflection of kind of where the apparel -- overall apparel market is that we also see an impact of that as it's come through. Maybe if I break the Embelex business apart. Recall, this is a business in which we provide decoration to garments, largely in team sports. That's one area.

And increasingly in-stadium customization where we actually run the hardware and the software for when you go to a stadium in professional sports in the United States and you want to embellish or customize the garment on there, we're actually the backbone of pretty much all of that. There's a second area where we continue to take the same technology, which is largely heat transfers, embroidered badges and patches, and we actually provide those to the large performance brands around the world as they also do their own activity. Think about two largest performance brands in the world, one in Europe and United States.

And then the third one is we also provide that to ad hoc events where there's either team sports happening, or they're trying to drive fan engagement. Increasingly, in that piece, we're actually adding digital triggers to those embellishments so that you can get greater fan engagement directly with the brand, or with your favorite player. And we have multiple examples of that where that's in flight at the moment. I'd say when I look at that overall, the biggest driver is actually our kind of what I'd call our large performance brand piece, which is still there.

Some of those performance brands, I'm sure you know, haven't necessarily performed recently to their expectations as well, and that certainly had an impact on our volume. Part of that is also related then to the whole apparel tariff changes that we've seen as well. As I look forward, I think we're going to continue to see these three buckets. One bucket will be around how do our performance brands do?

Call the legacy part of our business. How do team sports continue to invest? We have a high degree of confidence just largely because we continue to see customization, personalization being such a key driver, we anticipate the whole segment to be growing in sort of kind of high single digits over a long period. And then the final one is what we call these episodic events like the World Cup, they bring a unique sort of coalescing of volume and opportunity for us to leverage our technology when international teams, or national teams, who are trying to do something in a specific sporting event.

Let me just turn to Vestcom, John. We're very pleased with the rollout of us with -- that we've been doing with CVS. Recall, in Vestcom, while we deliver analog price, shelf-edge pricing and media solution is largely actually a data composition engine. We take a lot of data in, pricing data, planogram data, promotional data, and we ingest that and effectively then, in a proprietary fashion, put that out into show shelf-edge labeling.

Most of our growth in the second quarter was down to do with CVS. You also know in the macro environment that one of the other drugstore companies went into Chapter 11, so that had a small impact negatively. We also saw growth in some of our other customers that we have in this environment, both in our grocery and dollar store customers as well next to a sort of 10% growth. And as we look forward, we're going to continue to see, I think, solid growth as we go to the back end of this year.

And I do think this is a business for us that has brought a lot of resilience to our Solutions Group. When things are cyclically challenged in -- ultimately in retail, you either see two things happen. One, you see pricing changes, which benefits our business or you see promotional changes, which, again, because we're leveraging that same real estate, we're able to sell more media solutions on the back of it.

Our next question comes from Josh Spector from UBS.

I had a question on the tariff cost impact within 2Q and implied in 3Q. You made some comments about how you're taking some strategic pricing and also reallocating some of your sourcing to offset that. But I'd be curious to know if you think you're offsetting that cost within the quarter, or within 2Q and 3Q, if there's a lag to that, that you would potentially make up later in the year or maybe into next year?

Yes. So the inflationary impacts from the tariffs really started impacting us kind of midway through the second quarter, given that we had inventory on hand and things when the tariffs first went into effect. So I would say, overall, that was about a low, or very low single-digit impact from an inflationary perspective in Q2. And overall, we largely offset that in the quarter with tariff-related surcharges, as well as some sourcing shifts. So we did both of those things.

And obviously, we started that as soon as we found out about the tariffs on the sourcing shift piece. And that allowed us to offset that within the quarter. We will see some sequential further inflation just given we'll have a full quarter of the tariff impacts in Q3 versus about half a quarter in the third -- or in the second quarter. But again, we'd expect to offset that with surcharges and sourcing shifts.

Now that's still waiting to see what happens in the next couple of weeks with areas like Europe, Malaysia, et cetera, where we have some open tariff items, I guess, for August 1. So we'll see what happens with those and if there's something further we need to do to manage that.

Our next question comes from the line of George Staphos from Bank of America.

A couple of things, sequence here. Number one, what were the exit rates if you can talk to this in your Materials businesses into the third quarter? Second question. You gave us a bit more detail in terms of what's happening within Embelex.

When should we expect the volumes there to improve? The narrative this year has been, we should expect at some point to pick up as we get into '26 ahead of World Cup, when will we actually see that? Do you expect that to be a positive in fourth quarter? Or really do we have to wait until '26?

And then lastly, you talked about all the innovation, Deon, that's happening in food, logistics and so on in IL. However, the 70% of your business that remains relatively stuck right now in general retail and apparel, what are you doing there from an innovation standpoint that will ultimately get you growth? Or are you just sort of right now at -- sort of stuck because of tariffs and where they're at and the uncertainty?

Thanks, George. I'll go this in reverse order. Let me just talk about innovation in apparel, specifically for IL. We are continuing to really lean forward in the innovation area there, George.

And I think the most visible one we actually did was really building on our loss detection suite of products, which we have brought to the market in a proprietary fashion with largely with Inditex, but there's a lot of interest from other apparel customers. The second area we continue to look at it is just the efficacy of how we can improve using our inlay design capability, how do you improve overall variable read rates as you go through a more dense store, how do you use more -- how to use less power to be able to read more activity in the store as well? And all these things come together ultimately to then center around how do we help apparel retailers further drive towards, if they are interested in, for example, self-checkout, which we've done already for customers like Fast Retailing, which is UNIQLO, as you know it, and also the Decathlon in Europe.

So our innovation efforts have not stopped in apparel. And I think given our market leadership position over there, that's the one area we continue to sort of lean forward in. That's at the customer level. We also continue to drive innovation in what we call our operating levels, largely in how do we make sure that we maintain our low-cost leadership position, better assets, faster assets, different processes.

And we also have a number of proprietary innovations that will be coming out in the next couple of years around how do we actually improve and accelerate that speed in that regard. On Embelex, I would say, we're -- I know we're going to be expecting a growth really in the fourth quarter. That's when we'll see most of the growth start to come through from the Embelex perspective. My assumption that, George, is still anchored on, if we don't see any significant deterioration in the broader apparel piece because apparel as a result of tariffs also has an impact in Embelex, and I think I explained earlier to John overall.

In terms of the exit rates for our Materials group, we started off slightly slower in April in the second quarter than we anticipated and was slightly better in June and our exit rates as we go through into July are looking similar to where we were in June, which is relatively flat overall.

Mr. Gilchrist, there are no further questions at this time. I will now turn the call back to you for any closing remarks.

Thank you, Tiffany. To recap, we delivered a solid quarter in a dynamic environment. We are well prepared for a variety of macro scenarios and well positioned to deliver superior value through the cycle. On a personal note, I look forward to working closely with all of you in the Avery Dennison investment community in the months and years ahead.

Thank you for joining today. This now concludes our call.

Ladies and gentlemen, that does conclude the conference call for today. We thank you for your participation and ask that you please disconnect your line.