International Paper Co (IP) 2005 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the second quarter 2005 Temple- Inland earnings conference call. [Operator instructions]

I would now like to introduce your host for today's call, Mr. Chris Nines, Director of Investor Relations. You may begin.

Thank you. Good morning. My name is Chris Nines, Director of Investor Relations for Temple-Inland and I would like to welcome each of you who have joined us by conference call or Webcast this morning to discuss the results for second quarter 2005. Joining me this morning are Kenny Jastrow, Chairman and CEO of Temple-Inland, and Doyle Simons, Executive Vice President. Please read the warning statements in our press release and our slides concerning forward-looking statements, as we will make forward-looking statements during this presentation this morning.

The format is for Kenny Jastrow to give a presentation on the results for second quarter 2005. After the completion of his presentation, we will be happy to take your questions. Thanks again for your interest in Temple-Inland. I would now like to turn the call over to Kenny.

Thank you very much. Let me also extend my welcome to each of you and thank you for joining us on this call this morning. I will make a presentation of the second quarter and then as Chris indicated, be happy to take questions once we complete the presentation.

Second quarter of 2005 income was $69 million, versus $55 million in the second quarter of 2004 and $45 million first quarter of 2005. On a per share basis, earnings in the second quarter of 2005 were $0.60 per share, compared to $0.49 per share in the second quarter of 2004 and $0.39 per share in the first quarter of 2005. All the per share results for all periods reflect the effect of the 2-for-1 common stock split on April 1,2005.

During the second quarter of 2005, special items resulted in no gain or loss on an after-tax basis. The principal activity related to special items was the sale of the Pembroke, Ontario MDF facility. Once again, on an after-tax basis the sale of this facility resulted in no gain or loss.

Now looking at second quarter results compared to 2004 second quarter and first quarter 2005, excluding special items, earnings per share in 2005 were $0.60 per share, excluding special items, compared to $0.52 per share in the second quarter of 2004 and $0.52 per share in the first quarter of 2005. Once again, these are looking at earnings per share excluding special items.

During the second quarter of 2005, we repurchased 9.2 million shares, completing the 12 million share repurchase program. In the second quarter 2005, diluted average shares outstanding totaled 115 million shares including the issuance of 10 million shares of common stock related to the settlement of the equity purchase contracts commonly known as upper deck. Also during the second quarter of 2005, debt was reduced $81 million in the quarter.

Segment results for the quarter were as follows. Corrugated packaging second quarter 2005 segment earnings were $58 million, compared to $24 million in the second quarter of 2004 and 50 million in the first quarter of 2005. Forest products earnings second quarter 2005 were $58 million, compared to second quarter 2004 of $65 million and first quarter 2005 of $54 million.

Financial-services earnings for the quarter were $51 million, compared to $59 million in the second quarter of 2004 and $47 million first quarter 2005. Total operating income for the second quarter of 2005 was $167 million, compared to $148 million second quarter of 2004 and $151 million first quarter 2005.

Now let me turn to corrugated packaging. Once again, operating income in the second quarter of 2005 was $58 million, compared to 24 million in the second quarter of 2004 and 50 million in the first quarter of 2005. I would like to remind everybody that coming into the quarter, we announced mill outages at Orange and Ontario, which during the second quarter of 2005 had a $10 million negative impact.

On the price front. Second quarter 2005 average box prices were up $51 a ton versus second quarter 2004 average price. Second quarter 2005 average box price was down $8 a ton, versus the first quarter 2005 average price. Current box prices are approximately $20 a ton below second quarter 2005 average price.

Now turning to box volume. On a volume per work day basis, our shipments were flat in the second quarter of 2005 with 4 less box plants compared to the second quarter of 2004 and up 1.7% compared with first quarter 2005 levels. Industry shipments were down 3.6% on a volume per work day basis in the second quarter of 2005, compared with second quarter 2004 and down at 0.3% compared with first quarter 2005. Our box shipments have outpaced the industry for 8 consecutive quarters now, despite the closure of 8 box plants since the third quarter of 2003.

Transportation costs were up $9 million versus second quarter 2004 and up $2 million versus first quarter 2005. Wood costs are up $7 million versus second quarter 2004, but down 2 million versus first quarter 2005. Recycled fiber costs were down $8 a ton versus second quarter of 2004, and down $2 a ton versus first quarter of 2005. Today, OCC costs are roughly $110, virtually flat or the same as second quarter 2005. Energy costs were up $1 million versus second quarter 2004, but down $5 million versus the first quarter of 2005.

In terms of business improvement, we have been reporting to you how we have been doing relative to our targets of improving our corrugated packaging business. During the second quarter of 2005, business improvements totaled $17 million. Year-to-date, business improvements are $31 million and we are on target to achieve our 2005 goal of $57 million in business improvement.

Now let me do an income reconciliation between the second quarter of 2004 and the second quarter of 2005. In the second quarter of 2004, operating income for corrugated packaging was $24 million. In the second quarter of 2005, market related factors, box pricing, board pricing, OCC, etc., were a positive $17 million. In addition, as I mentioned earlier, business improvement was also $17 million, creating a $34 million increase quarter-over-quarter which resulted in the second quarter of 2005 operating earnings of $58 million.

Let me also offer some comments about corrugated packaging before we turn to our forest products operations. First, box markets are competitive. Current prices are approximately $20 a ton below second quarter of 2005 average prices. And we expect the recent declines in liner board pricing to continue to work its way through box pricing. We expect during the third quarter that we would see a normal seasonal slowdown at the beginning of the third quarter, which is similar to the third quarter of 2004 for us before the Christmas season begins to pick up later in the quarter, and I would note that during the third quarter of 2005, we have one less shipping day in the quarter, versus the second quarter of 2005.

Forest products. Operating income in the second quarter of 2005 was $58 million compared to $65 million in the second quarter of 2004 and $54 million in the first quarter of 2005.

Lumber. Average price was up $10 versus the second quarter of 2004 and up $25 versus first quarter 2005. Volume was up 3% versus the second quarter of 2004 and up 3% versus first quarter 2005. Currently, lumber prices are flat with second quarter 2005 average price and are in the range of $375 to $380.

Particleboard. Average price for particleboard was up $2 versus second quarter of 2004 and up $1 versus first quarter of 2005. Volume was up 1% versus second quarter of 2004, but down 6% versus first quarter of 2005.

On the MDF front. Average price was down $10 versus second quarter of 2004 and down $14 versus the first quarter of 2005. Volume was down 18% versus second quarter of 2004 and down 16% versus the first quarter of 2005. As I mentioned earlier, we did sell the Pembroke, Canada MDF operations in the second quarter of 2005.

Gypsum. Average price for gypsum was up $12 versus the second quarter of 2004 and up $6 versus first quarter of 2005. Currently, gypsum pricing is in the $145 range. Volume was up 7% versus the second quarter of 2004 and up 2% versus the first quarter of 2005. High value land sales (technical difficulty) were $3 million, versus (audio gap) in the first quarter of 2005. Average sales price (technical difficulty) for (ph) 2005 was approximately 6,100 (audio gap) an acre.

Financial services. Operating income for the second quarter of 2005 was $51 million, compared to $59 million for the second quarter of 2004 and $47 million for the first quarter of 2005. Second quarter 2005 earnings were down compared to second quarter of 2004, principally (ph) because of a return to more normalized credit loss provisions and a decline in earning assets, principally mortgage-backed securities. However, second quarter 2005 earnings were up compared with the first quarter of 2005 because of lower net non interest expense. That concludes the formal presentation and I would be happy to answer questions from the audience.

[Operator instructions] The first question comes from the line of Chip Dillon with Smith Barney.

Good morning. Ken, I just had a question about -- we have seen about a $45 downward adjustment in Pulp and Paper Week from the – since April, since May I guess. It would seem to me that what you are now seeing is already in your box realizations, I guess is roughly $33 of that, is that a proper way of looking at it at this point? Therefore, let's say if prices do stabilize, you would only see maybe another $10 to $12 of deterioration from here in your box realizations?

Chip, as I indicated in my formal comments, the second quarter pricing was roughly $8 a ton, down from the first quarter. I did make a comment that the current pricing is roughly $20 a ton below second quarter average. Over time, and I want to emphasize it’s time, over time, we expect that prices would in fact follow the recent changes in liner board prices.

OK. Secondly, I guess there was an announced bank merger in Texas. I think it's Emagee (ph) I think is the name of the bank that a Utah bank is buying. Just having read from what others have written about it, the return on assets at Emagee I think were something like almost 150 basis points on assets after taxes. That is quite a bit higher than what we have seen at Guaranty. I was wondering if you could tell me what is different about that bank versus your bank and if you do have the potential to get your returns on assets up to the level that Emagee has, or whether it would be advisable because they're taking bigger risks?

(audio gap) generated significant earnings, significant cash flow and significant ROI for our company. In fact, 10 years, the ROI has averaged close to 19%. In addition to that, we have deposit markets in Texas and California which are very strong growth markets for deposit gathering and an ability to make loans throughout the country on a national basis. So when we look at our financial services group, their long-term Performance, the ability (audio gap) as you know we did some cost cutting (ph) (technical-audio gap) repositioned the mortgage operations, we continue to believe that going forward this financial services group will be a very good performer for our company with high returns and higher earnings created.

Thank you.

The next questions comes from a line from George Staphos with Banc of America Securities. Please go ahead.

Good morning. A couple of questions on corrugated Kenny. If I went through your reconciliation again, last year $24 million, this year market related was 17, and the business improvement part was 17. Did you have a comparable amount of outage last year in 2Q? In other words, how should we think about the $10 million in this quarter?

Last year in the second quarter, we also had downtime, so the $10 million this year was sort of comparable to last year. I would say to you that last year's downtime or mill outage was below 10 million, but nonetheless, still in that general range. I think it is fairly comparable between the quarters, given the fact that we took outages in this quarter and also in the same quarter last year.

OK. But assuming that there is maybe a little bit of difference, where would that have been netted? Does it suggest that your business improvement was maybe running a little bit higher than the net 17?

The quarter, on a quarterly basis, the easiest way, George, is to look at the quarter on a quarterly basis. Had we not had the 10, then in fact we would have had $10 million higher in earnings.

Okay, Kenny. Given the progress the you're seeing in business improvement, and I realize that if we just double the six months we get close to your $57 million, a little bit higher, perhaps, but if we look at the sequential change, is that possible going forward in third quarter and fourth quarter? In other words, a further acceleration, hence maybe that 57 is really, really achievable? How would you guide us to think?

I would say to you that we believe the 57 million, that we are on target to achieve that. As you know, throughout 2004, we were also achieving better results. So actually, the comparables get even harder to jump on a sequential basis.

Got you.

We believe that we are on target for this year's business improvement, which when added to last year would bring the two-year total to $200 million.

OK. Last question for you, Kenny, and I will turn it over. From comparing releases, you shut a box plant this quarter. Would that be correct? As we think about your continued betterment programs, obviously you can create excess capacity as you improve utilization of the box plants. Why shouldn't we expect more box plant closings later this year? Thanks.

Well, when we started down this path of driving asset utilization in box plants, it is coupled with rationalization of closures. As we look forward, we believe that there is still opportunity to drive asset utilization through our box plants and therefore we will certainly consider additional closings.

And did you close one this quarter?

Yes, we did close one this quarter that we announced last quarter.

OK. Apologies. Thanks.

The next question comes from the line of Mark Wilde with Deutsche Bank.

Good morning, Kenny. A couple of questions. I wondered if you could give us thoughts on any further repurchase activity, and then the second is a longer-term question. It regards your timberland. One of the issues that Temple and other integrated companies have is the double layer of taxation, and I wonder if you think that we could see any changes in tax policy as regards that, put you on a level playing field with some the REITs and some of the others?

Well, relative to your first question regarding repurchase activities, we have been very active (ph) in (technical difficulty) issues (ph) regarding returning cash to shareholders. That includes repurchases as well as (audio gap). We have completed the authorization of 12 million shares, as I said in my prepared remarks. Going forward, as part of our (audio gap) we will continue to examine (audio gap) repurchase (ph).

Secondly, regarding timberland's taxation issues, there is a differential (inaudible) to taxation. It is our very firm view that the style of ownership should not differentiate between the tax treatment, and in fact, work is going on to in effect attack that issue because it does not seem appropriate to us that the form of ownership would dictate a different tax, so the answer to your question is yes, there is work going on to attack this issue.

How you assess timing and prospects on that? Any thoughts?

I think it is hard to assess that. I will say to you that there is intensity on the issue. I think it is very hard, Mark, to assess timing and the whole issue. It is hard to assess the implications of it all. I will say to you, though, we are working on it.

Thanks, Kenny.

The next question comes from Rich Schneider with UBS.

Hi, Kenny. I was wondering if you could talk about what has been happening with your mill improvement process in the container board area? As you look at the numbers here in the quarter, obviously pretty good, considering what you did with downtime, etc. Energy costs for you, you mentioned were only up $1 million from a year ago and $5 million below the first quarter level. Could you talk about some of the things that are going on the mill side and in particular, energy savings?

Yes, first of all, as we began to really integrate our company and increase mill activity to keep up with the box plants, we began to realize efficiencies and lower costs in our mill system. During the second quarter of 2005, part of the $17 million includes better mill performance relative to those issues.

On the energy front, I think several years ago we noted that our gas usage was somewhere in the neighborhood of 25 million MMBTUs per year, and that through the closure of Antioch as well as other issues that dropped down to roughly 20 million MMBTUs per year. We have engaged in projects that actually lower gas usage by burning more bark, specifically at Orange. In this quarter, you see the impact of that, and to be honest about it, some of that is the mill outage but some of that is lower gas usage because of previous activity to lower the amount of gas usage.

Where would you put the level now? Is it closer to 18 million or 19 million BTUs?

I think that would be a good estimate, Rich.

OK. Could you update us on where you stand on some of the work you're doing at both Orange and at Rome?

We are in the process, as I said, of getting bark boilers up, turned on, which has been effective throughout the mills, particularly at Rome. We are running more efficiently. We have actually reduced some of our equipment needs by running more effectively. It is sort of general, day-to-day work that makes the mills more effective.

OK. Could you give us an idea of when your next key outage is going to be again in the fourth quarter and third quarter we won't have much in the way of maintenance?

I believe our schedule calls for the next major outages to be in the fourth quarter of 2005.

OK. Just a question on the outlook for financial services. You talked about it in general, could you give us a little more of a near-term feel for the business right now?

I think business actually feels okay. In the prepared remarks, I made note that the securities portfolio had actually declined some. We've been able to replenish some of that decline now because we found opportunity to meet hurdle rates of return. Loan growth was up some and deposit growth was up some. That said, I think things are OK.

Any comment on the loan loss reserves?

I would say to you that as indicated in the prepared remarks, that it is at a level that is reflective of very long term trends for us in a more normalized way. I would say that credit conditions and conditions in the marketplace are OK.

OK. Thank you.

You're welcome.

The next question comes from Mark Connelly with Credit Suisse First Boston.

Just a couple of things. When you look at the box plants that you have closed over the last years, has that resulted in any meaningful mix changes? With the closure that you just did, are we going to see any mix changes that is affecting overall profitability?

Mark, the answer to your question in a general way is no. Closure of box plants has to be done very carefully and to make sure that business is retained, and in fact, we grow our business. Relative to these closures, we have been very careful on the customer side to maintain and exceed your expectations. Actually, we have not suffered either a loss of business or mix changes relative to closing these plants.

One thing I would say, and I would like to make a point about this, this strategy of closing down box plants and increasing asset utilization, in our view has been very effective but it takes three components. First of all, you have got to have consistent quality throughout your system. Secondly, you need a big enough system to consolidate, which we have. And thirdly, and I think very importantly, the technology platform plays a role so that between customers, i.e., your question about mix, it becomes seamless. I think those 3 ingredients are important and when in place, in fact we’ve been pretty effective at not losing customers and not changing mix.

That is helpful. Kenny, to your point on technology, you were early among container board producers to invest in technology to create that sort of seamless opportunity. Is that spending pretty much done now or at a normalized level at this point?

Yes. I appreciate the question, Mark. We actually, several years ago, embarked on a technology change, particularly in our corrugated packaging operation. That was roughly $85 million. That spending was completed in terms of the implementation of that, about 1.5 or two years ago. Certainly we have ongoing normal maintenance-type issues, but not big issues relative to implementation and installation of systems. We have already been through that.

You're not going back to the well on that the way some others have?

No. Over time, as technologies continue to improve, we will certainly look at that. I think we have been benefited by the significant expenditures we made several years ago.

Understood. That is very helpful. Thank you.

The next question comes from Mark Weintraub with Buckingham Research.

First, I just wanted to follow up on the box prices being down $20 currently. Does that reflect any of the latest reduction in Pulp and Paper Week, or would that be before any of that impact?

Well, Mark as you know, box pricing has typically followed board pricing, and I think to answer your question is, as I have said in my prepared remarks, over time we would expect that to happen, this time also. Just how much of the $20 is 15 versus 30, it is hard to call that. Over time, we expect prices on boxes to, as they have in the past, mirror somewhat liner board prices.

Just to follow up, I am pretty sure from your remarks that we should effectively expect a $10 million benefit to the third quarter relative to the second quarter related to the absence of the downtime. Is that a fair remark?

That is correct. But I did tell you that we have one less shipping day this quarter than last quarter. That affects us obviously.

Okay.

Secondly, we have particularly related to the mix of business we have, traditionally, and this has been over a long time for us, a slowdown particularly in the third quarter until we get into the Christmas season.

OK. Lastly, I was wondering if you would be willing to share how much Lumbermens and the other real estate related ventures in the financial services division contributed to earnings in the first half of this year? I don't know if that is something you are prepared to let us know at this point.

We don't segment those earnings. As I have said over the last several months, we are currently working on a concept of amalgamating this real-estate activity and especially the high-value land issues so that down the road, it would give us opportunity to segment it if we felt that was beneficial, and it appears it might be. We're working on that, Mark, but we are not prepared to segment those earnings right now.

I'll stay tuned.

The next question comes from the line of Edings Thibault with Morgan Stanley.

Kenny, if you would, two quick questions. Number one, more of a detailed question. Looking at your liner board business as opposed to your box business and realizing that is a small element, did look to see -- is if you saw some reasonably significant price declines, perhaps above and beyond what was indicated in Pulp and Paper Week. I was wondering if you could discuss the mix of where you are sending those extraneous liner board tons.

I think the publications are reflective of general market conditions.

OK. Is there an export component of that that would be driving that?

Well, I will make a comment about export. Clearly, when China instituted a duty, I think that impacted export markets. I would say to you that several years ago, when we headed down the path of integrating our company, one of our key concepts was the assumption that over time, export markets would reduce in terms of their importance in volume. Integration is a defense against that. I think what you're seeing now is the result of export markets continuing to reduce in terms of their importance and secondly, the benefit of integration.

Well, you certainly have reduced your open market liner board sales fairly consistently. Second question, I was wondering if you could give us an update on the high-value land sales? What is in the pipeline, development efforts under way in some of those markets and what we should expect over the second half of the year?

Let me refer you to our web site and you are certainly welcome to call Chris if you do not have the data on that. We actually have on the web site some maps that show things that we are most currently working on. Now, we do not make any forward projections of exactly when things are going to happen because it is obviously hard to do that, but that web site does have on it a map that shows projects that are most active and most current in terms of things that we're working on.

Great, I will look at that. Thanks.

You're welcome.

The next question comes from Peter Ruschmeier with Lehman Brothers.

Good morning. I was curious if you could comment on the priorities for the cash flow from the financial services business. I guess that there are two simple options to dividend to parent or internalize and growing the portfolio. Can you comment on what's your thinking about those uses of cash right now?

Certainly. Obviously, those are the two options. What we have done over time and will continue to do is look at dividends from financial services as certainly part of our cash flow. However, to the extent that the financial services group can employ that cash at a rate of return that exceeds our hurdle rate, and I will remind you that internally we use an 18.5% hurdle rate which is substantially above our cost of capital, then in fact we would retain capital and experience growth in that operation.

But I want to underscore that the key issue there is the ability to earn a return that exceeds our hurdle rate. So, those options will present themselves as we go along and in fact, loan growth is up some and we have been able to buy some securities which is a good thing because it does indicate returns exceeding hurdle rate.

Okay, fair enough. Maybe more broadly, if you could comment if there is an update on capital spending. You've been running around 225 million for the last couple of years. Perhaps you could comment on the outlook on a longer-term basis and some of the opportunities you may see in your system for high return (technical difficulty) route (ph) projects?

Right. I think on a long-term basis, we would say that somewhere in the neighborhood of 75% of depreciation is a pretty good proxy for where CapEx would be. Having said that though, we also have made comment and would comment again that to the extent we find projects that really make sense from an ROI perspective then certainly we will consider that. I think as we go forward, we have been very careful on capital spending, and I want to underscore we are focused on ROI.

OK. Just lastly, if I could, on your harvest volumes, I'm curious if you can give us any update on where you see your harvest volumes now relative to last quarter, relative to a year ago? I know that over time you are expecting to increase your harvest volumes. On a related point, I am curious on how the relationship with the Evadale mill is working out?

First of all, the relationship with the Evadale mill is fine. We do supply wood to that. Relative to your first question, let me just ask you to wait till the Q. In the Q we’ll have that information in it.

Thank you.

We have no additional questions at this time.

Thank you all very much for joining us today. We appreciate your interest in Temple-Inland.

Ladies and gentlemen, thank you for joining today's conference. This concludes today's presentation. You may now disconnect. Good day.