Graphic Packaging Holding Co (GPK) 2007 Q1 法說會逐字稿

Good morning. At this time, I would like to welcome everyone to the Graphic Packaging Corporation first-quarter earnings release conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer period. (OPERATOR INSTRUCTIONS). As a reminder, ladies and gentlemen, this conference is being recorded today, Thursday, May 3, 2007.

Thank you. I would now like to introduce Scott Wenhold, Vice President and Treasurer. Sir, you may begin.

Thank you. Good morning and welcome, everyone, to Graphic Packaging Corporation's first-quarter earnings call. Commenting on results this morning are David Scheible, the Company's President and CEO, and Dan Blount, Senior Vice President and CFO.

Before we start, I would like to remind everyone this morning that statements of the Company's expectations, including but not limited to the effect of certain contractual changes, expected revenue growth and cost savings, projected volume increases, expense estimates, capital expenditures, pension funding costs and debt reduction, are forward-looking statements as defined in the Private Securities Litigation Reform Act of 1995. Such statements are based on currently available information, and are subject to various risks and uncertainties that could cause actual results to differ materially from the Company's historical experience and its present expectations. Undue reliance should not be placed on such forward-looking statements, as such statements speak only as of the date on which they are made, and the Company undertakes no obligation to update such statements. Additional information regarding risks facing the Company is contained in the Company's periodic filings with the SEC.

David, I'll turn it over to you.

Thanks, Scott. Good morning, everyone. Yesterday, the Company announced first-quarter 2007 earnings, reporting a net loss of $38.7 million (Company corrected after call) or $0.19 a share. This is relatively flat to prior year's first-quarter net loss of $36.7 million or $0.18 a share, despite incurring expenses of approximately $10 million associated with the upgrade infrastructure at our West Monroe, Louisiana mill.

In a moment, our CFO, Dan Blount, will walk you through the specific items that bridge current-period financial results to the prior period. But to summarize the first quarter, incremental price increases for carton and roll stock and continued progress with cost reduction initiatives offset cost inflation and higher expenses at our West Monroe mill related to infrastructure upgrades.

As we've discussed in detail on the last several calls, increased pricing has been a recent positive trend in our business, and this continued in the first quarter. In total, higher pricing contributed $13 million to the bottom line in the quarter. The increase was primarily a combination of higher contractual pricing for cartons and improved market pricing on our open market coated board.

In addition to the higher prices, margins were also positively impacted by ongoing mix improvement. In 2006, we made a conscious decision to exit certain lower-contribution business and replace it with more profitable sales. This is gaining significant traction in our business.

The majority of our beverage contracts have been successfully renegotiated and are now in effect. In addition to obtaining escalators that will allow us to pass through future inflation, we have recognized immediate price increases to help recapture a portion of past inflation. Also, we continued to gain increased pricing for food and consumer product cartons as we pass through higher board and resin costs to our customers.

On the coated board production side, industry utilization rates are a decade's high. This includes our primary SUS substrate. As a result, following the $80 a ton price increase that occurred in 2006, we announced an additional $40 to $60 per ton, depending upon the caliber price increase to take effect April 1st on all of our coated unbleached grades. We also announced a $35 per ton increase on our pacesetter coated recycled board grade, effective with February 5th shipments. Finally, our medium and linerboard pricing is up as well, as these grades sold for an average of $50 to $100 per ton higher than in the first quarter of 2006.

Indeed, pricing has improved, but the healthy increase in our top line this quarter is also attributable to improved volume. Specifically, carton volumes in North America markets were up versus the first quarter of 2006, as shipments to our largest food and consumer product customers were robust. Total beverage carton shipments were up slightly, driven primarily by higher domestic beer carton demand.

In the market, the first-quarter beer shipments to distributors were up approximately 2%, while the underlying sales to retailers were soft. On the soft drinks side, take-home volumes continued to slide sequentially.

Our beer carton demand followed the market, with some upside due to corrugated switching to fiber. We outperformed the soft drink market due to innovative packaging styles and noncarbonated product penetration.

Volumes were strong overseas as well, particularly for beverage cartons in Europe. Our restructuring effort in Europe, initiated last year, is beginning to show positive signs.

We also remain committed to growing the top line by offering our customers new and innovative packaging solutions. Specifically, on the beverage side, in North America, we supported several new Coca-Cola Company initiatives in the noncarbonated beverage market.

Two of our largest wins this quarter were POWERade and NESTEA. POWERade launched a new supermarket pack in our patented Fridge Vendor carton. Coke also launched its NESTEA PET product in a Graphic Packaging-produced 12-pack carton. Both of these launches represented the continued movement towards the convenience and point-of-sale marketability of paperboard packaging in the Noncarbonated segment.

We continued growing our presence in international beverage markets as well, with two key releases -- a Tecate eight-pack can Fridge Vendor in Mexico, as well as a Corona six-pack bottle pack for the Modelo brewery. Both of these launches further reinforced our expanding share in the international beer market.

On the food and consumer product side, we continue to focus on the rapidly growing Microwave Convenience segment. One of our biggest new launches was for Kraft Foods and its Deli Creations, which utilizes our patented Quilt Wave susceptor tray to create a freshly baked hot sandwich right out of the microwave.

We also launched a new product for the convenience store market with [Market Fare]. This product incorporates our Quilt Wave microwave product to create a hot deli sandwich in an East Coast regional rollout.

Finally, our Z-Flute program continues to grow in the marketplace. Olmarc Packaging chose Z-Flute for its private-label drink pouch production. Kellogg's ramped up its use of Z-Flute by moving to our Composipac technology for its Keebler entertainment package. This technology combines a high-gloss exterior with the strength performance of Z-Flute.

Moving on to our ongoing cost-cutting initiatives, we eliminated approximately $8 million of operating costs in this quarter through the utilization of our Six Sigma process management and reliability center maintenance program. We also initiated several key projects utilizing Lean Sigma, a new process we're adding to our cost reduction toolbox. In addition to our ongoing cost-cutting initiatives, we are focusing on improved manufacturing performance by operating our assets and achieving higher utilization rates.

As a result, the first quarter was negatively impacted by approximately $10 million spent primarily in January to complete the clarifier work we initiated in the fourth quarter of 2006 at our West Monroe, Louisiana paper mill, and to continue to upgrade the mill's infrastructure. Although we experienced incremental costs related to the upgrade, these expenditures were critical and necessary to improve our mill's overall predictability, efficiency and cost competitiveness for the long term. Dan Blount will talk more about the specific costs that impacted us in the first quarter, but let me highlight the fact that West Monroe's March output was back in line with normal production levels and continues to improve.

Looking into the remainder of 2007, I continue to be cautiously optimistic, as inflation for production inputs should be more than offset by price increases and reduced operating costs. We will also continue to upgrade the West Monroe mill's infrastructure and improve its long-term competitiveness in the industry.

With that, I'll turn it over to Dan Blount for a review of the financials.

Thanks, David. Good morning, everyone. First-quarter income from operations improved to $11.7 million from $9.1 million in the first quarter of 2006. EBITDA improved by $6 million to $64.9 million. As you just heard from David, better pricing and continued cost reduction, somewhat offset by inflation and higher costs due to infrastructure upgrades in the West Monroe mill, drove the improved results.

To review details, I will start with revenues, then I'll bridge EBITDA. First-quarter 2007 net sales were $608.7 million, up 4.9% as compared to net sales of $580.4 million in the first quarter of 2006. Sales growth was primarily due to price increases and volume gains.

By segment, we'll compare sales to the prior-year quarter. In the paperboard packaging segment, net sales were $586.4 million or $26.1 million higher than the prior year. Incremental pricing drove $11.3 million of sales improvement. Carton volume gains, primarily in global beverage markets and North American consumer product markets, contributed approximately $9 million. Favorable foreign exchange rates, primarily the euro, accounted for the remainder of the increase.

In the Containerboard segment, net sales of $22.3 million were $2.2 million higher than the first quarter of 2006. Increased pricing was the primary driver of the improvement.

EBITDA for 2007 first quarter was $64.9 million or 10.7% of sales. This compares to EBITDA of $58.9 million or 10.1% of sales in 2006. The major drivers of the $6 million EBITDA improvement were price increases of approximately $13 million, continued strong performance with our continuous improvement programs that delivered cost reductions of approximately $8 million, and a net benefit of approximately $5 million due to lower costs from prior year, net of enhanced mill maintenance activity and spending to improve manufacturing efficiencies. Offsetting these improvements were inflation of approximately $11 million and costs associated with the upgrade of the infrastructure at our West Monroe mill of approximately $10 million.

Inflation was principally driven by fiber, chemicals and labor and benefits, partially offset by favorable energy. The most significant inflationary increase was fiber, both secondary and virgin, which negatively impacted results by approximately $8 million.

Favorable energy primarily resulted from natural gas rates for products sold declining from approximately $11 to $10 per MMBtu. In the second quarter, we expect that products shipped will be produced with $7.75 per MMBtu natural gas, which compares to $9.50 per MMBtu in the second quarter of 2006. For the third and fourth quarter of 2007, approximately 40% of our estimated natural gas usage is hedged at a blended rate of $8.70 per MMBtu. This compares to $9.60 in the prior year. On an annual basis, our US mills consume approximately 9 million MMBtus.

Overall, significant progress was made to upgrade the West Monroe mill infrastructure. As David stated, the mill has returned to normal production levels. 2007 year to date, $14 million of additional cost was incurred in West Monroe. The remaining $4 million will impact second-quarter results.

Now, I will highlight other key items on the income statement. Depreciation and amortization expense in the quarter was higher than the prior year by $3.4 million, as we accelerated depreciation on assets to be taken out of service in the near term. Net interest expense was $1.9 million higher than the first quarter of 2006, due to higher interest rates. Also, as I mentioned on the previous call, we are in the process of refinancing our current $1.6 billion senior secured credit agreement to take advantage of attractive opportunities within the bank loan market, and to extend the maturities on our outstanding bank debt. Finally, income tax expense increased by $2.8 million, primarily due to an increase in income tax liabilities in Sweden.

Now, turning to cash flow, we recognized an improvement in operating cash flow of approximately $10 million when compared to first quarter 2006. Strengthening EBITDA margins and improved working capital, particularly inventory in accounts payable, were the primary contributors to the improved cash flow.

Although we did not contribute to the US pension plans in the first quarter, we expect to contribute between $28 million and $30 million during 2007. We contributed $25.9 million in 2006.

Capital expenditures for the first quarter 2007 were $19.8 million compared to $22.7 million in the first quarter of 2006. For the year, we expect CapEx will exceed 2006 levels by approximately $10 million, as we increase our investment to upgrade the assets in our West Monroe mill.

Liquidity remains strong. As of the end of the first quarter, we had $9.7 million in cash and equivalents and $255.6 million available under our US revolving credit facility. Our total revolver commitment is for $325 million.

Finally, total debt at the end of the first quarter was $1,977,000,000, representing a decrease of $59 million from total debt at the end of the first quarter 2006. For the full year 2007, we expect debt reduction to be in the range of $60 million to $70 million.

With that, operator, we will open the line for the question-and-answer session.

(OPERATOR INSTRUCTIONS). Bruce Klein, Credit Suisse.

I was wondering just on the beverage contracts -- you guys spoke a little quick for me -- it sounds like most of the contracts -- I know you had some stuff up, I think a fair amount, up in 2007 and 2008. Were they -- you said the bulk of them were renewed?

Yes.

I guess I'm wondering what the length is and how you did. You did say you got a piece of the prior year's inflation in that?

I'll say, as we all -- we're not going to talk individual customer contracts. What I'll say is that, really, we have just essentially one contract left to negotiate. It expires at the end of 2007. We've talked about that before.

What all of our contracts or what the prevailing process has been, escalators that allow a better sharing of inflation and, of course, some recovery of past inflation through pricing going forward with these customer contracts. Of course, as you can tell, in the quarterly numbers you're seeing some of those prices year on year rolling through the P&L.

The duration of these? Last --

The contracts are much shorter duration than they have been in the past. We tend to be sort of in that three-year, five-year range, maximum, on any of these contracts now, which is pretty consistent with what our contracts have traditionally been across our business.

The cost inflation -- I think your target was 50 of savings, and I think you thought cost inflation would be less than 71, I think, which was last year's cost inflation. Is cost inflation kind of what you thought it was going to be? Is it materially worse or better than you thought?

Well, in terms of our plan, cost inflation is in line with what we thought it would be. Some of the components are different, but it's basically in line with our planning.

You went kind of quick on the volume side. It sounds the beer industry numbers were up, and you guys followed that (multiple speakers).

That's correct. The beer volumes were up a little bit, and we saw that. Our soft drink volume was up in our business as well, but it was really not in the traditional carbonated side of the business. It was really more in juice and tea and some of the other products.

Was your overall soft drink up, including carbonated stuff?

It was flat. Our soft drink was flat.

I guess that's a good showing in the context of [CSCs] must still be a reasonable part of your business.

That's correct.

Again, I might have missed this. You guys said you are pursuing a bank refinancing now?

We are pursuing it. We are well down the path to getting that finished, actually.

Any thoughts on the bonds? I now you have a senior mature callability.

At this current time, we're planning to keep the bonds intact.

Bill Hoffman, UBS.

I wonder if you could talk a little bit about your strategy here with regards to mix. You talked about the mix in consumer, and targeting that as your way of increasing the cash flows here. I just wonder if you could help us quantify a little bit of how much is actually -- how much you actually can shift to get incremental EBITDA out of the production volumes that you've got today? I know we've got containerboard versus SUS grades. But could you just help us quantify a little bit maybe what the opportunity might be there?

I try not to get into to individual mix -- what I'll talk to you a little bit more about is what we're doing. The way the mix process is working for us is -- and I've mentioned it in the past -- our new product activity is pretty robust. Last year, I think we talked about adding $35 million to $40 million worth of new product sales and essentially doing the exact same rate this year. All of those products tend to be higher-margin. So what you find is us getting rid of the tail of our business, our lower-margin business, and that improves.

I think last year or in previous years, we've run a lot more containerboard or linerboard, if you will, volumes. Right now, we are running essentially no linerboard. So all that has shifted from liner to coated production. Typically in the past -- Dan will have to help me, but I think we've done 40,000 or 50,000 or more tons of linerboard, and this year that will all shift to coated. So on a per-ton basis, we get a tremendous number of -- a higher level of contribution.

So we have targets internally for the margin improvement, and you can see it in the numbers. The sales were up 4.9%, EBITDA was up almost 11%, including the impact of $10 million in West Monroe. So you can clearly see the margin is -- we're improving our margin in our mix.

If we had to forecast going forward, let's say you did 48,000 tons of containerboard in the first quarter. Does that (multiple speakers) we drop that [in half] in the second quarter and roll that into the coated board side?

Annually, we do about --

We do a lot of medium in that containerboard number, so it is 48,000 tons. Most of that 48,000 tons is going to be medium and bag. Those are two dedicated machines.

Right.

So you'll leave that volume at that kind of level?

Exactly right. It's the linerboard machine that has been converted essentially running our coated stock.

The second question is just a follow-up on Bruce's. With regards to the bonds, obviously callable in August. Just curious why you wouldn't take advantage of a very hot financing market now, to take out or to at least refinance some of that, at least the senior notes in the structure.

Well, we have looked at the economics on the bonds, in particular, and we always keep that in front of us. We have a date in August --

Senior secureds become callable in August.

-- in August. So at that date, we're going to revisit the bonds. But at this point, based on the economics, we don't find it attractive to refinance the bonds.

(OPERATOR INSTRUCTIONS). Frank Duplak, Prudential.

Can you just clarify two things for me? The revolver availability at the end of the quarter was what? I missed it.

The availability was $255 million.

Then you mentioned debt reduction of $60 million to $70 million during the year.

That's correct.

Is that relative to year end 2006 or to 3-31-07?

That's relative to year end 2006.

Samir Khiroya, Sandelman.

Just a question on the West Monroe impact. Is that $10 million in the quarter just the cost of maintenance or the cost of the lost volume [involved]?

It is really just related to the expenses associated with the infrastructure operator.

Do you have an estimate as to what the lost volume was on an EBITDA basis?

If you look at the numbers at this point, what you see in the numbers is quite a substantial decrease in inventory. So what we did during the first quarter -- we sold more out of our inventory to make up for the production declines at West Monroe.

The sales impact -- there was really not any significant impact on sales. Inventories went down, of course.

So will that inventory get rebuilt, then?

Well, some of it may, but the reality is that I think it's like anything else. As you take that inventory down, you learn to run your business a little bit more effectively and efficiently. We are not looking to add that cash back into inventory. I believe we can run with a lower level.

We had a plan in place to run at lower levels of inventory. We just accelerated the plan.

We have no further questions at this time. You may continue with your presentation or closing remarks.

At this point, that concludes Graphic Packaging's first-quarter earnings call. Thank you, everyone.

Ladies and gentlemen, this does conclude today's teleconference. You may all disconnect.