Clearwater Paper Corp (CLW) 2017 Q3 法說會逐字稿

Welcome to Clearwater Paper Corporation Third Quarter 2017 Earnings Conference Call.

As a reminder, this call is being recorded today, October 19, 2017.

I would now like to turn the conference over to Ms. Robin Yim, Vice President, Investor Relations of Clearwater Paper.

Please go ahead.

Thank you, Bryan.

Good afternoon, and thank you for joining Clearwater Paper's Third Quarter 2017 Earnings Conference Call.

Joining me on the call today are Linda Massman, President and Chief Executive Officer; and John Hertz, Chief Financial Officer.

Financial results for the third quarter were released shortly after today's market close.

You will find a presentation of supplemental information, including an updated outlook slide, providing the company's current outlook as to certain costs, pricing, shipment, production and other factors for the fourth quarter of 2017 posted on the Investor Relations page of our website at clearwaterpaper.com.

Additionally, we will be providing certain non-GAAP information in this afternoon's discussion.

A reconciliation of the non-GAAP information to comparable GAAP information is included in the press release or in the supplemental material provided on our website.

I would like to remind you that this presentation contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995 as amended.

These forward-looking statements are based on current expectations, estimates, assumptions and projections that are subject to change, and actual results may differ materially from the forward-looking statements.

Factors that could cause actual results to differ materially include those risks and uncertainties described from time to time in our filings with the Securities and Exchange Commission, including our Form 10-K for the year ended December 31, 2016, and Form 10-Q for the quarters ended March 31 and June 30, 2017, as well as our earnings release and supplemental information.

Any forward-looking statements are made only as of this date, and the company assumes no obligation to update any forward-looking statement.

John Hertz will begin today's call with a review of the financial results for the third quarter, and then Linda Massman will provide an overview of the business environment and our outlook for the fourth quarter of 2017.

And then we'll open up the call for the question-and-answer session.

Now I'll turn the call over to John.

Thank you, Robin, and welcome to everyone attending this call.

As discussed in our October 3 press release, we did see headwinds in the third quarter that caused us to preannounce that our third quarter results would be below our outlook due primarily to 3 factors: one was incremental repairs during a scheduled major maintenance at our Lewiston, Idaho, mill, which led to a 3-day delay in the start-up of paper machines; two is the hurricanes in the South that caused logistical issues, resulting in higher transportation costs and delayed shipments; and three was the continued robust market demand for pulp, which kept prices elevated throughout the quarter.

These factors contributed to our revised expectations for the quarter, resulting in third quarter adjusted EBITDA of $38 million, which is in fact below our original outlook range for the quarter but at the high end of our preannouncement expectations.

Despite these headwinds, we had several favorable developments during the quarter.

As you are aware, in 2015, we launched a 3-year strategic plan aimed at generating between $115 million to $145 million in cost savings.

During the quarter, we completed the 2 most significant projects within that plan.

Together, we expect that those initiatives will result in identified annual savings of $50 million to $55 million on a full run rate basis beginning in 2018.

First, construction on the continuous digester in Lewiston was completed, and it began operating at the end of the third quarter.

It's running well, and the first pulp samples have been of good consistent quality.

The benefit of the new digester is that it is expected to produce an incremental 50,000 tons of higher-quality pulp per year, and we now expect to be 100% vertically integrated in softwood pulp on the tissue side.

We expect to see $30 million to $35 million in annual run rate cost reduction beginning in 2018.

This is critical given rising pulp cost in our industry.

Second, the final warehouse automation installation was completed at our Elwood, Illinois, converting facility.

We are now at an annual savings run rate of approximately $18 million for the entire warehouse automation project and expect to reach the full annual EBITDA contribution of approximately $20 million in 2018.

Before I get to the specifics of our third quarter 2017 results, I'd like to preface my comments by stating that throughout the rest of my remarks, I will be distinguishing between GAAP and non-GAAP or adjusted results.

The adjusted results exclude certain charges and benefits that we believe are not indicative of our core operating performance.

The reconciliation from GAAP to adjusted results is provided in the press release and supplemental slides posted on our website.

For the third quarter of 2017, those items totaled $6 million of pretax expense, of which $5 million was associated with the closure of the Oklahoma City facility.

We entered into a transaction that will minimize future cash outflows associated with the OKC facility lease.

It involves an agreement to transfer all the remaining assets to a third party that will sublease the facility.

That resulted in an asset write down in the third quarter.

There will also be a related $3 million cash outflow and loss to be recognized in Q4.

The net cash savings from this action is expected to be $11 million to $13 million over the next 6 years.

The remaining $1 million of pretax expense adjusted out is primarily related to the mark-to-market of directors' equity-based compensation.

So with that, let's get to our third quarter results.

The recurring theme that you'll hear in both Linda's and my remarks is that while our results reflect the impact of several headwinds, the corresponding actions that we have taken in response are designed to streamline operations, generate cost savings and make us more efficient over time.

Following my comments, Linda will elaborate on some higher-level actions we took during the quarter to advance this strategy.

So we recorded third quarter net sales of $427 million, a 70 basis point decrease from the second quarter of 2017.

While price/mix improved in SBS and tissue, volumes were lower due to a decision to reduce shipments of paperboard to build inventory ahead of the start-up of the continuous digester.

Also nonretail tissue volumes were down by approximately 800 tons.

Versus Q3 2016, net sales were down 2%, reflecting the shutdown of the 2 high-cost Neenah paper machines and the resultant 30% lower nonretail shipments.

The shutdown of the Neenah machines, even at expense of temporary revenues, is consistent with our margin improvement and cost reduction strategy.

Third quarter adjusted gross profit of $41 million or a 9.7% margin declined by $9 million from the second quarter.

The decrease was primarily driven by incremental planned major maintenance costs on the Pulp and Paperboard side, which came in on Q2.

We also experienced higher-than-expected pulp cost due to sustained higher external pulp prices as well as higher usage of external pulp due to the Lewiston outage.

Transportation costs were higher due to a tight carrier market after the hurricanes in the South, and we saw a seasonal peak in electricity rates at our Las Vegas mill.

All that was partially offset by a $6 million improvement in price/mix.

Adjusted SG&A expense was $29 million or 6.8% of third quarter net sales, which is down approximately $2 million from Q2 due to SG&A cost controls and a reduction in profit-dependent accruals.

Adjusted corporate expense was $13 million of the SG&A spend in the third quarter, which is down approximately $1 million compared to the previous quarter.

Adjusted operating income decreased by $7 million to $12 million or a 2.9% margin.

Adjusted EBITDA was $38 million or 8.8% of net sales.

That compares to $45 million or 10.5% in Q2 and $34 million or 7.9% in the third quarter of 2016, which also included a major maintenance outage in Lewiston.

Net interest expense of $8 million was consistent with Q2.

Turning to taxes.

On an adjusted basis, our Q3 effective tax rate was an 18% benefit versus a 33% tax expense in the second quarter, primarily due to a $2.5 million benefit from federal income tax credits.

Third quarter 2017 GAAP net earnings were $1 million or $0.05 per diluted share and on an adjusted basis, $5 million or $0.32 per diluted share.

The previously mentioned tax credit provided a $2.5 million and $0.14 per diluted share benefit to both GAAP and adjusted net earnings and EPS.

Q2 adjusted net earnings were $8 million or $0.48 per diluted share.

In Q3 '16, adjusted net earnings were $2 million or $0.14.

Noncash expenses in the third quarter of 2017 included $26 million of depreciation and amortization, approximately $0.5 million of total equity-based compensation and $300,000 of noncash pension and retiree medical expense.

Employee headcount at the end of the third quarter remain unchanged at approximately 3,200.

Now I'll discuss the segment results.

Consumer Products Q3 net sales were $233 million, up 40 basis points compared to the second quarter.

That was due to an improved mix of ultra-quality tissue, which contributed to a 1.5% increase in average tissue prices.

Volume shift declined 1%, primarily due to lower nonretail tissue sales.

Consumer Products Q3 adjusted operating income was $10 million or 4.4% of net sales, which was down $1 million from the second quarter.

Higher input costs for external pulp, higher freight due to weather-related events and higher seasonal electric rates in Las Vegas, all totaling approximately $5 million, more than offset $4 million price/mix improvement.

CPD adjusted EBITDA of $26 million was down $2 million from Q2.

Adjusted EBITDA margin was 11.1%, down from 11.9% in Q2.

Now turning to the Pulp and Paperboard division.

Q3 net sales of $194 million were down 2.1% versus the second quarter due to the decision to lower paperboard shipments in favor of building inventory ahead of the start-up of the continuous digester.

Average sales price/mix per ton in Q3 was up 1% or $10 per ton compared to Q2.

Pulp and Paperboard's Q3 operating income was $15 million or 7.8% of net sales as compared to $22 million or 10.9% of net sales in the second quarter.

The margin decrease versus Q2 was mainly due to the incremental $9 million of major maintenance costs.

Pulp and Paperboard's Q3 EBITDA margin was 12.1%.

Now turning to the balance sheet.

Capital expenditures were $47 million in the third quarter, of which $35 million were spent on strategic and other ROI-positive projects.

Year-to-date, in 2017, we have spent a total of $136 million.

Our CapEx for the year is now expected to be $210 million, which is approximately $40 million lower than the $250 million outlook we communicated at the beginning of the year.

$40 million of the $150 million that we forecasted to spend in 2017 and the new paper machine in warehousing will now take place in 2018.

That is not expected to delay the Q1 2019 scheduled paper machine start-up.

We had $110 million of borrowings outstanding under the revolver at the end of the quarter.

Long-term debt outstanding at the end of Q3 remained unchanged at $575 million.

Our leverage ratio was flat with Q2 at 3.7x last 12 months adjusted EBITDA.

We expect leverage to peak at approximately 3.9x in the first quarter of 2018 and begin to decline thereafter.

Turning to the stock buyback program.

We did not repurchase stock in Q3 due to our focus on our strategic projects.

That leaves approximately $30 million remaining under the current authorization.

With regard to our liquidity, we ended the third quarter with $8 million of unrestricted cash, and we had $183 million available under the revolver.

During the third quarter, we generated $49 million of cash from operating activities or 11.4% of net sales, down from 13.5% in the second quarter.

Cash flow from operations benefited from active working capital management.

So in conclusion, while internal and external cost headwinds impacted the quarter, we continued to make great progress to address our cost structure and things that we can control.

As of Q3, we achieved $82 million of the $115 million to $145 million of annual run rate cost structure savings that we committed to in Q1 of 2015.

With that, I will now turn over the call over to Linda Massman, who'll discuss the company's outlook.

Thanks, John.

Hello, everyone, and thanks for joining us today.

Just want to let you all know, I have a little bit of bronchitis, so I'm struggling with my voice just a little bit today.

If I have any trouble, I'll just pass it to Robin, who can finish our prepared remarks, and then I'll come back for Q&A.

Today, I'm going to provide some additional commentary on the third quarter, then I'll take a look at the market environment and what we expect for our business segment.

Finally, I will tell you what we expect for the balance of the year.

The retail landscape continues to evolve, and with these changes, we see both opportunities and risks.

With regard to challenges in the retail environment, in the third quarter, our largest tissue customer made the decision to go from a sole-sourced model to a multisource model for their private label tissue supply beginning in late Q1 of 2018.

We will continue to be the largest supplier of that customer, particularly in the ultra-quality tier products, however, we will lose certain conventional premium value and economy SKUs starting in 2018, some of which we had intended to let go.

We have already replaced approximately a quarter of the lost volume, and our sales team has been working diligently to replace the remaining volumes.

We continue to expand our presence in the growing club, e-commerce and newer limited assortment distribution channels, and we added a new grocer in the Northeast.

This reinforces our belief that we must continue to lower our operating cost to compete, particularly in the consumer tissue market.

As John discussed, we completed 2 significant components of our strategic plan that together are expected to yield $50 million to $55 million of cost reduction per year as we move forward.

We are also on course to achieve the expected $115 million to $145 million cost savings and operating efficiencies we identified in early 2015.

In an effort to find additional areas to better align costs with the realities of the current competitive environment, we retained A.T. Kearney during the third quarter to assist us in performing a comprehensive review of our SG&A spend and other ways in which we can enhance our business.

We are in the very early stages of this endeavor.

Retaining A.T. Kearney is the first important step in identifying areas for cost-saving opportunities, in addition to the expected $115 million to $145 million in cost savings as part of our strategic initiatives that went into effect in 2015.

As they've only recently begun their process, they will likely require several months before we're able to announce their findings and our associated strategies for realizing these savings.

It would also be premature to place a range on what these additional savings could total, but we believe they could further contribute to a more normalized run rate that we are targeting based on our internal projections.

We look forward to updating you on the progress of these initiatives.

In terms of our recently announced growth initiatives, I'm happy to report that our new tissue machine and warehouse project in Shelby, North Carolina, remains on schedule and within budget.

Design engineering has been finalized, and the site has been cleared and graded in preparation for construction, which will start this month.

Now let's turn our attention to the market environment for both business segments.

Starting with Consumer Products, the IRI data for Q3 indicated that the U.S. retail tissue market, measured in dollar sales, continues to benefit from solid consumer demand and is up 2.5% compared to Q2.

Private brands were up 4.3%, and the brands were up 2% versus Q2.

Clearwater Paper was up approximately 2% quarter-over-quarter and did not keep pace with overall private brand growth due to weaker-than-expected sales from key retail promotions, which may have seen some weather-related impacts from the last month of the quarter and tight ultra-premium availability.

Clearwater Paper's overall market share in tissue remained stable at approximately 8% in the quarter.

Based on current IRI scan data, private label gained 40 basis points of market share, while the brands were down by a similar amount in the third quarter.

Private label market share was approximately 26% of total retail tissue according to IRI, and Clearwater Paper share of private label was approximately 31%, down slightly due to the reasons I previously described.

The most current RISI forecast for net new North American tissue capacity through 2019 is 897,000 tons.

If the total capacity comes online as scheduled and using RISI estimates for demand in North America, the demand-to-capacity ratio in 2019 would be 98%.

However, the path to 98% could prove to be volatile as the large blocks of tissue capacity come online before the forecasted market demand catches up to supply.

Please note this demand-to-capacity ratio does not factor in imports.

Turning to our Pulp and Paperboard business.

The demand outlook for the North American paperboard remains solid.

RISI's bleached board outlook for 2017 remains unchanged, with operating rates averaging 94%.

Through September 2017, the American Forest & Paper Association reported a 96.1% operating rate compared to 94.1% for the same period last year.

SBS order backlogs reported by AF&PA were up 30.5% at the end of Q3 compared to levels reported during the same period last year.

The AF&PA's data for SBS backlogs reflects a solid market conditions up through Q3.

Industry backlogs [during the third] quarter were 5.3 weeks, up from 3.9 weeks at the end of 2016.

At quarter-end, SBS industry backlogs remained at levels higher than the last 3 years.

SBS market drivers include the strength and demand for liquid packaging and food service in both domestic and international markets as well as stable domestic folding carton demand.

RISI's latest outlook for 2017 U.S. export volumes is for growth of 3.9%.

On a year-to-date basis through September, AF&PA has reported a 6.4% increase in exports compared to the same period last year, and the outlook for imports of competing substrates remains flat for the year.

With this market environment in mind, let's turn to my final topic today, our outlook for the fourth quarter.

Compared to the third quarter, we expect consolidated net sales to be up 1% to 3% sequentially due to sell-through of paperboard inventory built in Q3 and improved tissue product mix.

We're projecting our consolidated adjusted operating margin for Q4 to be in the range of 6% to 7.5% compared to 2.9% in Q3, primarily due to no scheduled major maintenance outages in the quarter, relatively flat transportation cost, lower energy cost due to lower seasonal electricity rates in Las Vegas and continued upward pressure on pulp prices.

Our Q4 outlook is for an adjusted EBITDA ranging from $50 million to $60 million.

The Q4 adjusted net earnings per fully diluted share outlook is in the range of $0.74 to $1.02.

We expect our adjusted tax rate for the fourth quarter to be approximately 34%, plus or minus a couple of points, and 30% for the full year of '17.

The key variables we see determining where we land in that range are paperboard and tissue market conditions and the ramp-up of the continuous digester in the fourth quarter.

In conclusion, we are aggressively managing our business to better align cost with the competitive environment, while building a more efficient network of assets.

With the tremendous dedication and desire of our team to win, we can continue to make Clearwater Paper stronger and more valued to our customers and shareholders.

We appreciate your participation in today's call and would now like to open it up to your questions.

(Operator Instructions) And our first question will come from the line of Steve Chercover with D. A. Davidson.

So my first question has to do with these charges from Long Island and Oklahoma.

When I looked at your Q3 '17 outlook, you were looking for $100,000 from Oklahoma, and it ended up costing you $5 million plus another $3.5 million in Q4.

So I mean, how did it go from -- up by 80x?

And is it really capped?

Yes, I mean, the -- when we initially shut it down, we had the lease still outstanding, so that wasn't part of the initial shutdown cost.

We found an opportunity to mitigate 6 years' worth of cash outflows associated with the continuing lease payments, cost us a little bit upfront.

But as I said in my remarks, from an NPV standpoint, we're $11 million to $13 million ahead over the time frame.

Well, I mean, as I recall, when you shut Oklahoma City, which was a new facility if I'm not mistaken, you indicated that it was going to increase your freight costs, but might you have been better to just continue operating it?

No, no.

When you look at the wage savings that we get off that, it far exceeds the incremental transportation costs.

And Steve, that was one of the facilities that we acquired and actually, through some of our efforts of trying to gain efficiencies across our network with our converting, really presented itself the opportunity to reset our converting asset network and move a lot of that volume to other facilities.

And it's a legacy Cellu Tissue mill that was definitely a high-cost operation.

Okay.

Well, all right, so when you prereleased on October 3, did you have any idea that you would be getting a $2.4 million federal tax benefit?

Yes.

So would it have been appropriate to indicate that, that was part of your equation since you knew it was coming to you?

Well, I think we focused on why we're going to be below so -- and we were still below with that.

Yes, no, but the thing is, you make it sound with the tax benefit that, okay, well gap was nickel, but we would've earned $0.32.

I'm not sure if that's the right number either.

I mean, yes -- I mean, you guys usually focus on EBITDA.

So that's kind of what the prerelease was about.

Okay.

So I'm going to ask a third one, and I won't get back in the queue.

What is this relationship with A.T. Kearney going to cost?

Yes.

So Steve, at this point, all I'm going to talk about with regard to A.T. Kearney is we hired them for their expertise in helping organizations benchmark themselves across the industry and other participants that might be of similar size and complexity.

And they're really helping us find ways in which we can drive efficiencies and reduce costs.

And the impact will obviously be on the positive side, and we'll give some guidance to that as we know more.

But doesn't it make sense to speak to people like that before you embark on a project like the Shelby expansion?

Like to know if you're actually -- if your cost structure's in line with your comps before you embark on a project of that magnitude.

Yes, given our current environment and the focus on all of our cost structure, I mean, obviously, we know we're in the throes of completing our Shelby project.

But this A.T. Kearney project is really focused on SG&A, and we think it's valuable to bring in some external viewpoint to make sure that we're looking at all costs and all ideas, and all of those are considered before we move forward with how we're going to best structure the company.

I mean, our SG&A spend for the last 2.5, 3 years has not been where we want it from a financial model standpoint.

And so we felt it's time to take more action in order to be able to kind of get that more in line.

And our next question will come from the line of Paul Quinn, RBC Capital Markets.

It appears that financials are moving around quite a bit.

I mean, you sort of came out with the prerelease guidance on October 3. You said, $8 million to $9 million down from the -- your previous guidance of $40 million to $46 million in the quarter, and then you hit the higher end of that.

What is -- what happened between, I guess, October 3 and the next 2 weeks that caused it to be on the high side?

I think the biggest variable there, Paul, is when you've got a major maintenance that is completing right at the end of a quarter, there's a lot of, I'll call it, complexity that goes into finalizing all that, all gets closed out and what gets inventoried and what doesn't get inventoried.

So that was a big kind of swinger in terms of where we could have ended up in the range that on October 3, we were probably a week from having closed that all out.

Yes, it seems like a lot of the other companies I cover straddled maintenance over quarters, so they're able to get all those costs sort of done well in advance of the quarter-end?

Maybe that's something you'd consider going forward.

Well, yes.

We just -- I mean, we don't always have them end right at the end of a quarter.

That's the way this one played out.

Okay.

And then just referring to the changing retail network on tissue, and it sounds like you're making some progress making up the volume of the customer you lost, but can you give us a feel for what kind of contracts and volumes are coming up over the next 12 months?

And do you expect this to repeat going forward?

And sort of what progress you think in terms of getting the full volume recovery back?

Is that going to be over the next year?

Is that going to be done in the next 6 months or...

Yes.

So a couple of different questions in there, Paul.

With regard to contracts, we do have them staggered, I think, pretty well over the course of multiple years, so we don't have any big multiple contracts expiring at the same time.

We will target doing that.

So this should be it from a contract life perspective, but that doesn't mean that customers can't go out to bid and make choices as to how they want to procure products with regard to their own time line.

So that's always a possibility, although not expected at this point.

And then with regard to replacing the lost volume, we replaced 1/4 of it, which I think is a tremendous effort on our sales team, and kudos to them for acting on this so quickly.

The remaining volume, I'm confident we can replace it.

But the time frame in which we can do so, I think, is what's difficult to predict right now.

And I think I need to give the sales team a little bit more time in the marketplace before I can accurately predict how long we think it'll be.

Any assessment on the margin impact on the replaced volume?

It's hard to know.

It depends on what channels we're going to move into and what the product mix is going to look like.

I will tell you that when we look at customers and our interaction with them, we do have our margin model, and we have a certain expectation for what our margins should look like, and that won't be any different on a go-forward basis.

And our next question will come from the line of Adam Josephson with KeyBanc.

Linda, I hope you get better soon.

[Thanks, Adam.

Just disinfect the] room with me.

Just one more on this tissue, the tissue customers.

Obviously, you're doing the Shelby expansion.

You're adding 70,000 tons of ultra-premium capacity.

Can you just help us with what type of business you're losing and why one shouldn't be concerned that you could end up with overcapacity, given that you're adding significant capacity at the same time as you've lost what sounds like a sizable chunk of business?

Yes.

So Adam, that's a great question.

As we talked about in our prepared remarks, we are seeing growth and a better product mix out to ultra-product on the sell side.

We have every reason to believe that's going to continue, and therefore, that extra capacity in Shelby is absolutely necessary.

And part of why we saw a little bit of volume pullback in Q3 was just the availability of some of the ultra-product on our end and making sure we can ship to all the customers who want it.

Really the product that we did not continue on with this customer was the conventional premium and economy value products.

So we still have a very firm belief that ultra-quality tissue is what's going to continue to grow.

We've seen it grow at a much faster pace than conventional capacity, and we think our assets are lining up very nicely to take advantage of that market trend.

Okay.

And just one other on tissue and then one other, if you don't mind.

Your margins have obviously been under pressure this year.

Your input costs have been rising, and you haven't been able to offset that.

What -- and I know you've hired a consultant, you're doing on other initiatives.

But what gives you confidence that over the long term, you're going to be able to offset any cost inflation with higher prices, just given how competitive the tissue market is, not only in terms of what your customers are dealing with and the extent of the capacity being added?

Yes, I think in the long run, if we focus there first, at least history would say that supply and demand match up pretty well in this marketplace.

Now clearly, as we move into '18 and '19, we see quite a bit of supply coming online, and that's where you start seeing just a little bit more competition and whatnot.

So I think from our perspective in the long run, we're focused on providing the right quality of products to our customers, what they want to have on their store shelves.

We provide a lot of good information as to how to maximize their profitability in this largest nonfood private label category that they manage in-store.

And quite frankly, it's an important product segment, whether you're a brick-and-mortar or e-commerce.

So I think we feel very confident that in the long run, this will all play out pretty well.

In the short run, like we said, there might be some volatility as we see some of the supply come on in bigger chunks.

Right.

And John, just one on cash.

Just a couple of cash flow questions.

You're pushing up $40 million of CapEx.

Just remind me what led to that.

And then working capital was a huge source of cash through 9 months, about, I think, $44 million.

I know you talked about, on the last call, about reducing DSOs and extending payables, are you doing even more of that?

And then what do you expect your cash taxes to be this year and next year, just given how high your CapEx will be?

Okay.

I'll try to step through all that, and if I forget anything, call it out.

So from the cash tax standpoint, basically, from this point going forward over the next 1.5 years to 2 years, we're pretty much a 0% cash taxpayer, given the amount of capital that's come online in bonus depreciation.

On the working capital front, a lot of effort around working capital, primarily in the days payable outstanding piece of working capital, and that's everything from identifying terms with vendors that aren't industry average and pushing those out to supply chain financing type arrangements, but a lot of effort there.

I think in the near term, inventory is going to be a little harder for us.

This is typically a time period where we start to build inventory on the tissue side so that we don't have big service issues when we get into the busier part of the following year.

But focusing on the working capital knob is going to be a continuing exercise for us.

In terms of kind of capital outlay and the timing of all that, that's something we're managing very closely in terms of both when we sign up to take the capital and what that means to the overall plan to be able to go to start-up in Q1 as well as payment terms and those kinds of things.

And so we're actively managing the cash flow.

I think we've had about $186 million of cash flow from operations if you look back over the last 4 quarters, which is healthy.

And we're actively managing as we move through this kind of uptick of CapEx to ensure that we are -- have breathing room underneath our debt covenants.

And our next question will come from the line of Dan Jacome with Sidoti.

Just 2 quick questions.

I'm just trying to draw a time line in my head with all this information on kind of -- can you supply us with information on what came first?

Did you go to A.T. Kearney first and then you learned that one of your large customers is going to multisource?

Or did it happen the other way around?

I'm just curious.

And then my second question was, should we expect any change in your conversations with lenders and covenant and things of that nature based on the news of this large customer?

And that's about it.

Yes.

So I'll take the first question.

We absolutely constantly look at our operating model and look for ways in which we can become more efficient and remain competitive in the marketplace.

And we've seen the market become more competitive, we've talked about on the last couple of calls.

And so we had absolutely reached out to A.T. Kearney, and the work was already started before we knew about the lost volume with this large customer.

Okay, great.

And then on the debt side, anything we might expect there?

No.

Like I said, I gave you kind of our forecast where we'd be from a debt ratio standpoint, kind of peaking in Q1 and going down thereafter.

And like I said, we're actively managing all aspects of that.

And so I don't think there's going to be anything different as a result of anything.

And our next question will come from the line of Chip Dillon with Vertical Research.

The -- obviously, and you might have answered this and I might have missed it, but did you give a 2018 CapEx number with the $40 million deferral on Shelby #2?

And just remind us sort of how '19 CapEx would look?

Because I suppose with the start-up in the first quarter, there'll be some CapEx on that bleeding into 2019.

So can you give us sort of a range of what we should be thinking about for CapEx next year and in 2019?

Yes.

So I'll start with 2019 and short of any alternative decisions made between now and then, we should see ourselves dropping back to our, call it, steady-state CapEx, which we've been saying is about $50 million of maintenance CapEx, maybe that goes up a little bit with Shelby 2, and about $25 million of strategic.

So call it, $75 million to $80 million in 2019.

With the pushout of the $40 million into 2018, we'll be probably north of 250 -- be between $250 million and $300 million, I would say.

Okay, that's helpful.

And then in terms of the net debt peaking at the end of the first quarter.

Unless you plan to spend a highly disproportionate amount of this $250 million to $300 million in the first quarter, I mean, is that the case?

Because it's hard to see how you won't be -- I mean, let's just say, you spend proportionately, which would be $65 million a quarter across the year, you're sort of implying that you're going to have $65 million of free cash each and every quarter beyond the second -- well, I guess technically not.

But you're saying that you're going to have at least that much overall in the back half of the year, or said differently, that would be around $195 million in cash flow above, I mean, in cash from operations, even if we assume no working capital increase in the back 9 months.

And I just want to make sure we hear that right.

So again, you have to have $195 million cash from operations unless you're spending a lot in the first quarter in order for your net debt to peak at the end of the first quarter.

Yes.

So one of the dynamics you got to understand going on, Chip, is on a last 12-month basis, the ratio is calculated.

And if you look back 4 quarters, we've got 2 quarters, Q2 and Q3, where we had major maintenance outages.

Q2 in Arkansas; Q3 in Lewiston.

So as we move into Q2, the Arkansas outage drops off, and we don't have any major outages in 2018.

So that's an instant $8 million to $10 million, everything else equal, improvement in EBITDA.

And then it's $20 million in Q3 that goes away.

You get the multiple on top of that, you can see where that starts to have a more dramatic impact on the actual leverage ratio calculation.

I see.

That makes total sense.

So the absolute level of net debt may continue to climb but because of the -- you're dropping off these bad 2017 quarters, the ratio should go down, that I get.

Yes, that's very helpful.

And I guess the last question is, it's interesting that year after year, we look at the AF&PA surveys.

And despite just the many, many announcements we hear about tissue capacity coming on, it just doesn't seem to grow that fast.

And it's obvious that, of course, shutdowns [aren't] announced in advance, but of course, capacity growth is.

But as you think about the next couple of years, and you have Shelby 2 coming on, you have a very strong position, and yet you have all these guys, and I won't name them all, but you know who they all are, just tons of people building TAD capacity, and you have the whole foods impact, et cetera, and grocery, although there are a lot that are expanding, especially family ones, Wegmans, Publix, you name it.

I mean, how are you thinking about the marketplace between all these forces?

Yes, that's a great question.

The way we look at it is the consumer products tissue market, at-home tissue market, is still a great market as far as we're concerned.

It grows with population, so as you know, a good 1%, maybe 2% a year, and it is one of the largest categories at any kind of retailer for the most part now, particularly grocery, but we're seeing it also as a very large category in many other channels.

We're also seeing a big push towards private label.

This is one category where we believe it's really easy to buy, purchase and rebuy private label.

And we have worked really hard over the last 3 years taking cost out, making ourselves more competitive with investments in projects and technologies that are going to last a very long time.

And as you saw today, we're not standing still.

We continue to invest in the ability to maintain our competitiveness, and that will never change here at our culture.

And so we think, given that we're one of the largest private brands manufacturers of tissue, we're poised to win.

We work with a lot of retailers in every channel.

We know the business very well.

With a national presence, I think we understand the supply chain challenges and benefits of working with these many different customers.

And we're just going to continue to focus on ways in which we can take care of our customers and ultimately be the winner in this market.

Okay.

And then just real quickly on the pulp integration, which I think is really important.

As you guys, I mean, I guess, pre-Shelby, you could think about you guys as being roughly 400,000 tons.

You correct me if I'm wrong.

And with the extra capacity at Lewiston, I believe, how much pulp will you be a net buyer of pre the start-up of Shelby #2?

Is it -- I would imagine it's less -- a little less than half, is that fair?

I mean, if you look at it just from a tissue business -- because paperboard is pretty much 100% vertically integrated.

But if you look at it just at the tissue business, we'll be 100% vertically integrated in the softwood.

And things can fluctuate month-to-month, quarter-to-quarter.

But let's just say, generally speaking, we're more about half hardwood, half softwood on the tissue side.

It depends -- if you mix out more in terms of towels, you're more softwood.

If you mix out more towards bathroom tissue, more hardwood.

So we'll be basically 50% vertically integrated and buying externally 50%.

Okay.

And I really appreciate this great information.

Last quick question.

The tax credit, I mean, if we take it away, you still did $0.18, which is taxing what was left at a normal rate.

Could you just again remind me where does that tax credit come from?

And is it -- you chose to keep it within the adjusted number, is there -- is this something that repeats?

Or is it one time?

Yes.

So the credit itself has to do with some capital improvements that we've made over the last couple of years.

And we filed our tax return for 2016 in the third quarter, and that's basically why it ended up showing up, a lot of analysis as to whether or not you need a 1040-A reserve on that or not.

And so that happened in the third quarter.

When we look at what we adjust out or don't adjust out, we've got some fairly, I guess, kind of clear principles about what we do or don't because it's easy to kind of get sideways in that area.

And typically, with tax, we look at it as we adjust out the tax impact of any pretax thing that we adjust out.

And then when it comes to things, we look at our tax department, as part of their job is to find R&D credits and different kinds of things like that.

And so whether it's an R&D credit or a credit associated with capital or kind of a discrete item related to adjustment of 1040-A reserve, we do not adjust those kinds of things out.

Now this one, because it ended up on a GAAP basis swinging us from what would have been a loss to income, we did feel compelled to be very transparent about that and its impact really on our bottom line so that the reader can decide how they want to handle that from their assessment of our performance.

And our next question will come from the line of James Armstrong with Armstrong Investments.

Please feel better soon, Linda.

Thank you.

I'm sorry about all the coughing going on in the background.

No, not at all.

First question, just a bit of housekeeping.

Will there be any leftovers from Oklahoma City in 2018?

Or should that pretty much be done by the end of this year?

Yes.

So I talked about the $3 million that will hit in Q4, and it should be done.

Perfect.

That helps.

And normal question from me.

What are the biggest drivers between the low end and the high end of your guidance as you look into the next quarter?

I think how the continuous digester ramps is probably the biggest variable.

And market conditions.

And then whether we're talking about paperboard pricing or impact of capacity on the tissue side.

Okay, that helps.

One quick one to sneak in.

What are you assuming for pulp as we go into the fourth quarter?

Well, everything we're reading right now is it's going to go up some more.

So that's what we're assuming.

And that's in your guide, right?

Yes.

Ladies and gentlemen, that does conclude our question-and-answer session.

At this time, I will turn the call over to Mrs.

Massman for any closing or additional remarks.

Thank you.

We look forward to continuing to update you on our strategic priorities and how we are measuring against them, and thank you for joining us today and your continued interest in Clearwater Paper.

Ladies and gentlemen, that does conclude the Clearwater Paper Third Quarter 2017 Earnings Conference Call.

We do appreciate your participation.