International Paper Co (IP) 2015 Q2 法說會逐字稿

Ladies and gentlemen, thank you for standing by. Welcome to the International Paper Company second-quarter 2015 earnings call.

(Operator Instructions)

Now it is my pleasure to hand the call over to Jay Royalty, Vice President of Investor Relations. Please go ahead.

Thanks a lot, Kristen.

Good morning, everyone. Thank you for joining International Paper Company's second-quarter 2015 earnings conference call. Our key speakers this morning are Mark Sutton, Chairman and Chief Executive Officer; and Carol Roberts, Senior Vice President and Chief Financial Officer.

During this call, we will make forward-looking statements that are subject to risks and uncertainties, which are outlined on slide 2 of our presentation. We'll also present certain non-US GAAP financial information; a reconciliation of those figures to US GAAP financial measures are available on our website. Our website also contains copies of the second-quarter 2015 earnings press release and today's presentation slides.

Lastly, relative to the Ilim JV, slide 4 provides context around the joint venture's financial information and statistical measures.

With that, I'll now turn the call over to Mark Sutton.

Thank you, Jay. Good morning, everyone. Thank you very much for joining our call to review our second-quarter results, and outlook for the third quarter.

I'm going to start on slide 5. International Paper Company delivered another strong result in the second quarter. Our earnings per share was $0.97, compared with $0.93 last year. In addition to the EPS, free cash flow was substantial at $511 million in the quarter, up from $377 million last year. Earnings were driven by outstanding results in our North American industrial packaging business, with EBITDA margins just over 24%.

Operations performed well around the globe, and we successfully executed 11 major maintenance outages across the entire Enterprise. Solid performance continues at the Ilim JV, delivering equity earnings to IP of $67 million in the quarter.

I'm also very pleased to report that the number 3 containerboard machine at our Valliant facility is fully online and ahead of schedule. The products qualify the machine is running great.

Finally, I'd note that our return on invested capital for the first half of 2015 exceeded 10%. All in, I think a very strong quarter for International Paper Company.

Moving to slide 6, and continuing with our financial results, as I mentioned, EPS was $0.97 for the second quarter. And when you set aside the benefit of the foreign exchange gain on Ilim's debt from both this year and last year, we had a year-over-year earnings-per-share growth of over 5%. Now, while revenue is down year over year in the quarter, and most of that was due to FX impact from our Brazil and Europe operations, we continue to have strong margin performance in the face of several global macro headwinds.

With that, I'd like to ask Carol to take us through more detail on the quarter, and our outlook for the third quarter. I'll return at the end to wrap it up. Carol?

Thanks, Mark. Good morning, everyone.

Taking a look at the bridge from the first to second quarter, you can see that our performance was solid across the board. Pricing and mix were essentially flat, with a few puts and takes, and we'll talk about that as we go through the segment. Volume was seasonally stronger, predominantly in Industrial Packaging, as we expected. Operations improved and were solid across the board.

Maintenance outages, as Mark mentioned, were up significantly, but in line with our expectations. Input costs were lower, which reduced energy and diesel costs, being offset slightly by higher fiber costs. Finally, the Ilim JV created a positive swing, as the FX benefit was partly offset by higher costs associated with the outages and some general inflation.

Turning to the segments, going to slide 8, as Mark mentioned, the Industrial Packaging segment delivered an exceptional quarter, resulting in $528 million of EBIT. Prices were down slightly, mostly on export containerboard volume, as North American box prices, inclusive of mix, were essentially flat. Box margins in Europe were under continued pressure, and did contribute $3 million to the decline. Volume for North American box was up 3% over the first quarter.

Operations performed well, and maintenance outages came in as expected. Input costs were sequentially favorable. Asia box continues to experience some very intense competitive pressures, which further negatively impacted results by about $1 million. So, overall, strong results from the Industrial Packaging team.

Moving to slide 9, as Mark mentioned, the recently restarted and upgraded containerboard machine at Valliant is running very well, and is fully ramped up and qualified within two months of start-up. This coincides well with the wind down of the purchase agreement that we've been operating under for the past few years. And this enables us to supply our own needs, and our customers' needs, at a lower total delivered cost. The project's on track, and we continue to expect an IRR above 25%.

On behalf of the Business, I'm pleased to also announce that the Board has approved a series of projects that, like Valliant, will enable us to further improve our world-class containerboard asset base. These projects, totaling about $300 million of total investment across our system, have a collective IRR of 20%, and will further improve flexibility across the network, enhance our product quality, and reduce manufacturing and supply-chain costs. We're excited about the benefits these investments will provide for our customers, the Business, and our share owners.

So, let me move on to Consumer Packaging, slide 10. In Consumer Packaging, as you can see on the slide, total segment earnings were down $12 million sequentially, of which about $10 million is attributable to our business in Asia where earnings were substantially lower as depressed demand and intense competitive pressures resulted in lower prices and volume. Earnings were also lower in Europe due to a number of unfavorable items, including a lower volume, some higher operating expenses, and the impact of unfavorable FX impact due to the weaker euro. Conversely, earnings in North America were higher due to seasonally stronger volume and lower maintenance outage expenses, partially offset by lower prices and a slightly less favorable mix.

Turning to slide 11, we wanted to provide an update on a couple of significant projects that are under way, and that are focused on strengthening and creating more value in our North American packaging business. First, the sale of the Carolina coated bristols brand is complete. And the transition of the coated paperboard business at Riegelwood into our world-class assets at Texarkana and Augusta is on track for later this year. Following that transition, we will begin the mill conversion project at Riegelwood, which will become 100% pulp, and activities to facilitate that conversion are under way now, and on schedule. These changes will streamline and strengthen the coated paperboard business, while improving and growing our world-class fluff pulp business.

Secondly, the expansion of Kenton, Ohio, facility to support growth in our foodservice business is on schedule as well, with the facility expansion complete and equipment being moved in as we speak, and to be online within the next 90 days. This expansion will enable us to support the new business that we're being awarded by both existing and new customers that benefits both our foodservice converting and coated paperboard businesses. Both of these moves reinforce our commitment to our customers in this important segment, and will create long-term value for our share owners.

Moving to Printing Papers on slide 12, earnings increased in our North American paper and pulp business due to a more favorable product mix, better operations, and lower input costs. And this was partially offset by higher planned maintenance outage expenses. Prices were higher in Europe, but earnings were lower due to higher planned maintenance outage expenses.

Brazil continues to be significantly impacted by the recession, and reduced domestic demand that comes with that. Normally we would have seen a pickup from the seasonally slower first quarter, but that did not materialize this year. Second-quarter earnings were down $18 million year over year in our Brazilian business, and we do expect the current conditions to persist through at least this year and into next.

Turning to Ilim on slide 13, the JV delivered another very solid quarter of results on increased volume and improved pricing. Costs were higher due to higher planned maintenance outage expenses and inflation. Operations continued to perform very well, post the ramp up of the major capital projects, which were completed a year ago. As noted earlier, the FX impact on the JV's US dollar-denominated debt was favorable in the quarter.

Looking ahead, the JV is expecting inflation headwinds to continue, and to face some price pressure on softwood pulp in China. However, the outlook remains very favorable due to less maintenance outages, which will enable higher volume and continued strong operations.

Before I move to the outlook, just a couple of other highlights that I'd like to talk about. First, on slide 14, we raised $2 billion of new debt at an average coupon of 4.6%, and this was for two purposes. One was to fund a tender offer for $1 billion of existing debt with an average coupon of 7.5%; and secondly, to enable a $750-million contribution to the pension plan, which was voluntary. With both of these moves, we've clearly strengthened our already strong balance sheet. We've also been very active with the share buyback program in 2015, having bought back $420 million in shares year to date, which brings our total purchases against the $3-billion authorization to about $1.9 billion.

So, moving to the outlook for the third quarter, on slide 15, volume will be seasonally higher in North America and Brazil papers, while North American industrial packaging will be generally flat. We expect prices to be mostly stable across the board, with improving prices in European papers offset by continued pressure in EMEA packaging. We expect the challenging conditions in Asia to persist into the third quarter.

We expect good operational improvement in North American papers and pulp, and some improvement in Brazil as well. We expect continued improvement in Industrial Packaging due, in part, to Valliant start-up ramp-up costs not recurring in the third quarter, and better performance in our Consumer Packaging business. All in, across our North American businesses, we expect this improvement to be around $25 million.

Input costs will be a headwind in the third quarter, as energy, OCC and rail rate increases hit the North America packaging businesses by roughly $35 million. Brazil faces some additional headwinds as well, mainly on wood and electricity costs. Maintenance outage costs will be substantially lower, about $90 million, as we move from the heaviest to the lightest quarter of the year.

As far as the Ilim JV, we expect operational earnings to improve due to fewer outages in the third quarter, which will enable higher production and sales. IP's share of this expected operational earnings improvement in the third quarter is roughly $10 million. And for the purposes of forecast, we don't attempt to forecast FX, so we have here FX stable as of the end of the second quarter, so a non-repeat of the positive $0.06 FX impact.

With that, now let me turn it back over to Mark.

Thanks, Carol. I will pick it up from Carol on slide 16.

Before I do the wrap-up and open it up for questions, I want just to spend a minute looking at margins across our major businesses around the world. I think this slide captures the strength of IP and the major positions we have in the key markets that we want to serve. The message here is that IP -- the IP that we built today is less cyclical, and we continue to find ways to improve our position and our results. In the businesses where we have some significant headwinds, cyclical headwinds I would add, like Brazil for example, we are generally holding our own with very strong margins, and will come out of this recessionary environment a much stronger Company.

So, in closing, moving to slide 17, International Paper Company continues to perform well and deliver results. When you look at what we're doing, given the severe headwinds in Brazil and in Asia, and with the strong dollar, it truly speaks to the strength and reliability of our Company and of our performance. Some of these challenges are more significant than we originally thought coming into the year. On the flip side, we're enjoying strong performance out of our Ilim JV, which Carol covered earlier, and that positively impacts our earnings.

Outside of some of these select areas, the rest of the Company is performing pretty well. Our margins, earnings, free cash flow, and our return on invested capital at a healthy spread above our cost to capital are all evidence of this. We continue to achieve and grow our attractive margins through consistent execution and internal initiatives that are unique and value-creating to IP. We have a pipeline of accretive investment options: the Kwidzyn coated paperboard investment; the Valliant number 3 machine. Those are two of the more recent ones, and there are more to come, as we highlighted today, all making good businesses a lot better.

We're generating significant and reliable free cash flow, year after year, and that enables us to return a meaningful amount of cash to our shareholders through our dividend, our share buyback programs, as well as fund some of these attractive value-creating investments. Our capital allocation mission remains all about high return generation for long-term value creation. That's our focus and that's our commitment.

With that, I would like to open it up for questions. Thanks.

(Operator Instructions)

Our first question comes from Steve Chercover with D.A. Davidson.

Thank you, good morning. I had a question about the Sun joint venture in China. I know the JV partner is transferring its ownership and it's an acknowledgement that performance has been inadequate. Does that have any implications for you?

Good morning, Steve. This is Mark.

Yes, what you saw there is our partner has a different -- a couple different legal entities and he's transferring some of the shares from the JV into another legal entity, perfectly allowable under our shareholder agreement. We're not satisfied with the performance. We've said that a number of calls now.

China is really tough right now, over capacity in some of the other challenges. But this transfer doesn't really affect our partnership. What we are doing is really working together with our partner in China to manage the JV to the best possible outcome. We're not finished with that work, but this particular transfer doesn't change the way we're going to operate or doesn't change our partnership.

Well, I was wondering if you were the sole owner of those assets, would you operate them differently?

We are -- no. We're operating -- we're operating as a majority partner. We're operating the International Paper Company way.

We're trying to make the profit maximizing decisions, so that's why we're working on the high-end mix and really running our capacity to the orders that we want for the economics that are available. And I think we would do that and we do that in collaboration -- we do that in collaboration with our partner today and we would do it that way if we owned it all, which is not our intent. But we wouldn't change a whole lot.

That's good to know. Ultimately to use a phrase that you use, it comes down to industry structure in China.

And then one other question, please, on printing papers. I just want to get a sense of what's going on domestically since it was amazing to me since the price and mix is up, given what you said in Brazil. Are things going better domestically, or is it that you're getting out of some of the commodity businesses?

Steve, I'm going to ask Mike Amick who leads that business for us in North America to give you a perspective on that.

Thanks. Good morning, Mike.

Good morning. This is Mike Amick.

We're having a domestically, both the quarterly performance, as well as kind of year over year, is improved. We're seeing strong relative growth domestically with our business, almost a factor of three year over year versus the market. So it's a real good commercial story around the brands.

Pricing is a little bit down domestically but as you stated well, from a mix standpoint we're overcoming a lot of that. So it is a strong story.

Great. Thank you very much.

And our next question comes from Gail Glazerman with UBS.

Good morning.

Good morning, Gail.

Could you give a little bit more color on the $300 million capital program for container board? Any sense of the timing? How many years that's going to lay out? And maybe a little bit more color on some of the work you're doing, and specifically is it expected to have any sort of material plastic component?

It's important because the work that we're doing will be done primarily as we go through our annual outages in the facilities that are affected. A lot of that work will start either very late this year or early next year and go through the year. So impact to the business and having the capability is more of 2017 type of time frame.

You ask about capacity. What we're doing is we're actually making investments that we need, in some cases around products and around geography, also around seasonality. So, these projects will add 250,000 plus tons to our system, and that gives us the ability to optimize the system and make sure that we're supporting our customers in the best possible way.

So I say 2017 timing. Most of these are fairly straightforward from a technical standpoint so they'll be completed in the annual outages and then they'll -- they will come up fairly quickly and give us the flexibility that we need, mostly on a seasonal basis but also from a product standpoint, as well.

Thank you. Can you talk a little bit about consumer packaging and the price weakness there? Specifically was any of that, and to what extent, in the domestic market?

Gail, this is Mike Amick. Can you repeat the question? It was breaking up a little bit.

Some perspective on the consumer packaging market domestically. Were your issues really in the quarter predominantly international, or was there any sort of weakness or softness in the US?

From a domestically you know, we are seeing -- it is a little sloppy out there from a shipment standpoint domestically. We're down about 2.5% versus where we think the industry is about 1.5% overall. But most of that is due to exports. So we're domestically feel pretty good about the coated paperboard business and most of the issues that were noted are international.

Okay, thank you.

Gail, just let me add to Mike's. On the international piece, some of that was what we talked about earlier. The Asia piece as reported into Consumer Packaging-- the Sun piece and that was a significant piece of that.

But also in Europe we just had some one-time issues that are not chronic, just maintenance outages and some other one-time costs. The real international issue, if you will, from impacting the results is what we talked about with Sun.

Okay, thank you.

Our next question comes from George Staphos with Bank of America.

Good morning. Thank you for taking my question and the details.

First point, with the pension funding, Carol, what does this do to your required funding for the next several years if you haven't provided that in the past? I'd appreciate it.

With this contribution, of course a little bit will be dependent upon how the whole year ends, where the reliability accounting goes, and how the asset performance is. But generally speaking, I would say this would, with our current projections, push out any required contributions for the next three years. We wouldn't have anything required.

Okay. Aside from the obvious where we saw that you were buying back stock, even into the third quarter, could you update us perhaps a bit more in terms of your thoughts on that being an appropriate use of capital, relative, obviously, to the balanced use of capital for dividends. And I want to tie it back to some of your capital product going on, and I'll turn it over after that.

George, what we said of course is our capital allocation strategy is we're generating a lot of cash and we believe that cash generation allows us to both return some of that cash to our share owners through the form of the dividend and we talk about 30% to 40% of free cash flow through the dividend. We also have said that there's an opportunity to return cash through the buyback, and that we would use the buyback targeted opportunistically. And that also we believe we have enough cash flow then to also fund the good ideas and we talked about some of those today.

So I think you'll continue to see us progress along that pathway.

But I guess the fact that we saw you buy back more in the third quarter does that suggest you see more opportunity with the shares here or this is part of your normal program and balanced approach?

Once again as we said it's part of our normal program. We're going to make our decisions as we go. We're going to be opportunistic and we'll balance all those needs as we think about today and as we look forward.

Okay. Last question and I'll turn it over, you mentioned the returns on the $300 million worth of projects and you mentioned some of the reasons you're bringing these in within industrial packaging. Now, as we look at it, you said you're also adding within this about 250,000 tons of capacity in a market that I recognize you take a longer-term view than a quarter or two, that has been perhaps, at least from the vantage point of some people, a little bit softer than what would have been expected.

You in fact had to take some economic down time in the quarter from the data you had in the slide deck, I think around 55,000 tons. So help us understand why, while adding flexibility, you're also adding capacity, why that is the right move in the industrial packaging market, where there's been a little bit of choppiness here in the last couple of quarters. Thanks. And good luck in the quarter.

Hey, George, it's Tim.

Hello, Tim.

Hey. We do take a longer-term view. We believe that the market will grow over time. If you wait until the growth occurs to make these types of investments, you've waited too late. We're running a very large, very complicated system and the way we think about it is how do we optimize, maximize margins sustainably over time.

So this just gives us more capability across the system to run it the way we need to. These are the types of projects we look for on a continual basis. We'll be looking for more of them. This is one of the ways that we think we can create share owner value.

Tim, do you anticipate the returns would cover inflation at least?

Oh, yes. I mean, these are 20% returns. These are three times cost to capital.

Okay. We'll turn it over. Thanks.

Our next question comes from Mark Weintraub with Buckingham Research.

Sticking on the capital allocation line of questioning, can you give us a bit of a sense of an update on you where think cap spend might be next year? I realize you don't have any finalized plans probably, but a preliminary sense, and what the run rate for the next couple of years might be in your opinion at this juncture?

Yes, Mark. Carol.

We told you that for 2015, I think we said our CapEx targeted $1.5 billion and that was the plan. We've not finalized our plans for 2016. As we talked about it, if we have these ideas, the bigger ideas that are value creating, we'll balance that against the overall needs of the system. So without giving you a 2016 number, it's logical to think that there could be an uptick in 2016 due to the significance of this level of projects in our best business. We'll firm that up when we talk about the third quarter and into the beginning of next year.

Okay. As we think about the spend, how much of it is going to the 20% plus type of return projects versus how much of it is more environmental maintenance with lower returns? How might we think about that?

As we've talked about it, and again these are round numbers, we provide a lot of this information. It changes a little bit. Think about the Company, about a billion for maintenance regulatory on an ongoing basis to take care of the fleet we have today.

And then if you think about the balance, the $400 million to $500 million, half of that would go to what we call strategic projects. A great example of that would be the expansion of Kent. Strategically growing that business. You could talk about that as the Riegelwood converse strategic project to grow and strength then the fluff business, and that would be return capital.

Then the balance is $200 million or so -- $200 million, $250 million would go to high-return cost production projects. The returns on those projects are 30% plus. That's been the capital allocation for the Company.

But once again, if we get good ideas where there's a bigger opportunity, like we've talked about in the industrial packaging business, it will have to be balanced against those other things. One of the things we'll think about is if we can deploy capital at good returns that's value creating, we're going to stay constrained on CapEx, but we're not going to slow ourselves down intentionally when that's not a good idea.

That was really helpful. Thank you. And just one other one, if I could. A couple of years ago you had the annual investor day. When you first mapped out the capital allocation strategy, you talked about ramping the dividend up pretty quickly for a few years and then probably getting to a more moderated rate. And I think that at the time you talked about a three-year ramp in the dividend.

I think this would have been the third year. Is that still the way we should be anticipating things that we have one more sizable ramp in the dividend before most likely moving into a more metered increase?

You know, Mark, I would never predict what the dividend will be. Of course that's Mark and the Board's decision.

But our strategy is pretty clear. We said as we can grow the earnings and the cash flow of the Company, that the dividend's an important part of that, and we'll evaluate that. We said the dividend is going to be meaningful, incremental, predictable and there will be an opportunity to reevaluate that at the right time.

Thank you.

Our next question comes from Dr. Mark Wilde with BMO Markets.

Good morning, Carol.

Good morning.

Just to follow on Mark's question. You have had a 5% EBITDA growth target sitting out there. Any updated thoughts on that? Looks like it will be a challenge for this year just judging from the first half.

Hi, Mark. This is Mark. That's a great word.

I think it's -- another way to ask that is how realistic is it? It's definitely a challenge for this year. That 5% EBITDA growth target that I talked about before we started the year, as we headed into the year, had a certain set of economic assumptions attached to it, some of which are not materializing. So, yes, it makes it pretty difficult.

It was a bit aspirational, as I mentioned in follow-up discussions, but that's the kind of growth level we need to be shooting for as a company to really produce the returns our investors expect. It won't be an even process obviously, but as we talked about in the results, you know, we're pulling every lever we can with the company we have, and we're going to continue to shoot for levels like that. But it's definitely a challenge with some of the economic activity we see.

Brazil, for example, being, I'd say, a much deeper recession than we probably considered going in and China being a challenge. Those two areas alone and stepping back a bit, instead of moving forward, take a big chunk out of the ability to do that.

Earnings per share on the other side, it's not one metric earnings per share. It's also important and that is up in that neighborhood year to date. And what is probably our overall guiding principle for long-term value creation, which is ROIC, we got that in a zone we want to be in, a couple hundred basis points above out cost of capital and would like to be able to show that through good times and bad times.

We have a Company that is flexible enough to really sustain that, and generate that near $2 billion in cash and have that be something that investors can depend on. Yes, challenging is a good word for the 5% EBITDA goal. But we don't -- we don't give up easily so we'll keep working on it.

All right. I'm glad to hear that. Mark, I wonder if I could get you to also take two steps backward. We're at a period where we have a lot of big foreign exchange moves out there. I wonder if you look across the IP portfolio right now, where would you say the foreign exchange movements are creating the greatest stress or the greatest changes in your business?

We've got several impacts. Obviously Carol's tracking that for us. There are puts and takes and some of them are not completely intuitive.

I'll ask Carol to kind of give our summary of the overall and then if there's a specific area -- we talked about container board and some of those long-term demand issues, I would be happy to comment on that, But, Carol, the overall summary?

Sure. The easiest one to do the math on, and it is a headwind for us, is strictly the earnings that we get out of Europe and the earnings that we get out of Brazil are coming in a currency that's weaker. So when we convert that to dollars, there's less. As we talked at the first quarter call, we said a 10% strengthening of the US dollars is a $50 million-type headwind. That's probably still pretty good math and we know the dollar has strengthened more than that.

So that's the easy math. Where it die verges and it depends is the currency in the country, how it impacts the market access and the competitiveness.

In the case of Russia, the weak currency has been great. We're doing well there. We're making rubles. We're selling dollars. We've got margin expansion. Then conversely in Brazil it's actually been hurting us. You've got a good guy, a bad guy.

In the US we're exporting 20% of what we produce. So while we're able to export our products, our margins are down. So long answer is there's pluses and takes on the market side, but overall a stronger dollar is a headwind for International Paper Company, and it's probably a bit more of a headwind than when we first anticipated. But we're managing through it, I think, quite well.

Okay. Just a couple of follow-ons on the FX impact. One is, you talked over time about wanting to export kraft liner board from the US to supply your offshore operations. I wondered as the dollar strengthens, whether that strategy is shifting at all. Then I wondered if you could comment on some reports we've gotten of container board imports coming in from Europe and from Australia.

Hey, Mark, it's Tim. No, it doesn't change the strategy. Currency moves up. It moves down over time.

As Carol mentioned, it has hit our margins in certain places but we believe in the channel for the long term. So -- and we make good money in the channel. We would make more if the dollar was weaker, but we still like the business that we have today.

And so if it changes dramatically from where it is, we can always reevaluate, but nothing that's happened that changes it today. Australian paper I think we've had some market reports of west coast activity, but not in a major or significant way that I'm aware of.

Okay. That's helpful. Anything on the east coast? I've been hearing a little bit about maybe some European paper, Tim?

Haven't heard it, no.

Okay. That's helpful. Good luck in the second half.

Thanks.

Our next question comes from Mark Connelly with CLSA.

Just two things. I wonder if you could tell us how significant the system optimization impact of Valliant might be. I'm thinking a system as big as yours the impact is going to be pretty regional but it is a pretty important region, so I wonder if you could scale that for us?

Hey, Mark. It's Tim.

What it does for us is it gives us a product we need overall and certainly in a geography. It help us as we ship product down in Texas. It helps us with the west coast, and it also helps us with the Midwest. So there's 360,000 tons we're running primarily medium, which we're short on medium to begin with. It's a product we need and it's freight advantage to the places we need to get to.

Okay. That's helpful. Just one other question. How is [ORSA] doing and is that a place where you're likely to find attractive reinvestment?

Hi, Mark. It's Mark Sutton.

ORSA is living in a container board box market that tracks GDP exactly, so GDP is heading toward minus 2, plus a little bit and that's what we're seeing in demand. We've got some big customers that are in special segments that are probably doing a little worse than GDP.

One of them is the Electronics segment. Big year last year with the world cup and television, soft year this year. And we have big poultry and protein customers that are having issues with the regional drought. So demand is down.

The good news on the internal improvements, sufficiency in our box plants and in the container board mills, we've made a lot of improvements. So, further investment. We'll keep our eyes and ears open. We really do need to get the improvement that we think we can get, even with a difficult economy at ORSA before we go to a next step. But we are improving internally. The market's challenging, though.

Sounds like the assets are running pretty well.

We are. We've made some improvements on the mills and the box plants. We've done a lot of best-practice transfer from our US system, which has really taken hold, and so we're making some improvements that we can keep, hold and keep, and we need to get the commercial piece up.

Very good. Thank you.

Thanks, Mark

Our next question comes from Chip Dillon with Vertical Research.

Hi. Thank you. Good morning.

Carol, just one quick clarification. You mentioned the prepayment on the pension plan would prevent the need for having to make a contribution for three years, not to be picky. Does that include 2018 or are we talking 2015, 2016, and 2017?

I was talking 2016, 2017, 2018, generally speaking. Still things can change so -- but under the assumptions we would have today.

I understand. Got you. Interest rates, et cetera. Then on the CapEx, you mentioned this year you're spending, I believe you said, around $1.5 billion or so. Would the projects and the good ideas you've talked about, including the industrial packaging $300 million initiative, does that alone, given the pace you expect that to take, likely take that number up for next year, or would you have to find some other things? And I'm thinking there might perhaps be some offset from the boiler MACK situation? I'm not sure when that actually phases out. Maybe you could let us know how that looks right now.

Yes. That's why I said we haven't finalized our numbers for 2016, but with the slug of capital of that size coming in, a very important project, it's likely that it would be -- might be difficult to maintain the spending at the one side level, because we might not want to. What we want to be careful about is not delaying some really good ideas that are the cost improvement ideas.

So we'll look at it, and we're going to stay in a capital constrained environment. We're going to be very judicious, but we're going to want to make sure that we can run this system the way we want to.

Got you. This is one for Tim.

You know, I know with -- you mentioned the volume. I think Carol and her comments was up in boxes about 3%, if I'm not mistaken, year to year. You know, as you look at your system and I think about the whole country and the continent really not adding to note any virgin quality liner board, are you having to pull tons in from off shore?

The industry data don't seem to suggest that. Or so far have you been able to get those extra tons by flexing your system? And I suppose as you look at 2016, if we see another similar type growth year and kind of before this incremental tons come on, could you see yourself at a situation where you might have to pull some tons from off shore back into the States?

No. Situational, Chip, moment in time but I don't think so I think we have a pretty flexible system. We're adding to that flexibility so we can do what we need to do. And you mentioned the 3%. That was sequential, not year over year. But, yes, generally we have a more favorable view on longer-term growth, and we want to make sure we are doing now what is needed for future periods. So that's the reason for some of this investment.

Okay. Then the last one, I suppose for Mark. I noticed the US portion of the consumer packaging business, and it's great that you give us that detail because the overall segment was down, but certainly the US part was up nicely year to year. And I suppose some of the initiatives there, including food service, are helping. Is that business sort of seen as a rising star within IP, the domestic consumer packaging business? Or even though it appears its returns are still below the other major segment industrial packaging it still has a ways to go?

Jeff, this is Mark. I think consumer packaging in North America, as we said, is important business for us. We've got some really, really good customers both on the coated board side with the high end SBS grades that we make in the US, and on the converting side with our cup business.

It is growing. And it is a business we think we could improve. Riegelwood was kind of a double, not a single. We improve in our fluff pulp business, but that also improves our consumer packaging business by putting all of our board protection in two of the best mills in the world, instead of spreading it across three.

And we're growing our food service business and continuing to look at strategic options to improve that business. And so it is important to us.

You know, International Paper Company increasingly is moving in more packaging and consumer packaging. We made the investment in Quentin, and Europe for high end board and that's working out really well. You mentioned food service here in the US. I don't know about a rising star, we don't use those terms, but it is a business we're excited about.

Got you. Thank you.

Our next question comes from Scott Gaffner with Barclays.

Good morning. Just going back to these capital investments, Mark, you talked about your view of market growth going forward. The market has been relatively flat, at least in North America, the last few years. Can you talk about what's driving that view for potential market growth as we move into later 2016 and 2017?

Scott, I think one of the things we probably need to just step back on, we talked about our industrial packaging business as a multi channel business. So we've got a container board business that underpins the industrial packaging business. And we view container board, the Kraft liner component of container board as a globally competitive product that the US south is blessed with the right fiber to be globally competitive. We're the largest producer of that.

So we've had long-term strategic outlets throughout the world. Not because our price is good or our price is bad but because they need the product. When we talk about investing in our container board system, think outside of just the US market. We're thinking about all channels. Our own box business, the open market customers we have, which are fantastic customers in North America, and the open market in IP-owned box plants overseas and non IP box plants. That's the premise we start with, not the 1% or 2% or lack thereof in the US market.

The other thing you've got to remember is we're always going to have fluctuations in a converting, value-add business. We're going to make the product for the orders we have in all three of those channels. We have seasonality with maintenance outages, so we end up having to manage inventory differently. A lot of things that Tim described make that business better and if there's growth, we capture it, absolute growth. If there's not growth, we lower our costs by making some other decisions down the road with capitol or other types of decisions.

It's a win-win strategy of making a regular good business better. And I don't think about it as a domestic issue of the box market in the US driving every one of these decisions. And we've shown that quarter after quarter after quarter in good FX times, bad FX times. When a product is good and it's needed, it works.

Great. I appreciate that. And then on the returns from these projects, the 20% IRR, how much of that is driven by internalization of tons that you're currently buying in the market versus this overall system optimization strategy?

It's a mix of all of those things. It's making more of the volumes that we've had to buy in the past as the agreement comes to the end. But it's also cost reductions, not only fixed but volume is variable as well. You know, these projects they help improve quality. They give us the flexibility we need.

Just to add on one point that Mark made. We're running a system where the way we think about servicing that system across all the channels is pretty critical. The carrying costs on a few incremental tons of inventory to support our system is pretty low versus the operational cost of not having what you need where you need it when you need it.

We're trying to make decisions to and three months out on somewhere between 12,000 and 15,000 skews of board that gets used on any given day. If we're wrong by 1% in terms of accuracy, it's costing us, you know, $10 million plus to fix all of that. And sometimes a lot more. So all of these projects not only give us incremental capacity in a given region for a given product, but they help us manage and optimize the system.

Thanks for the answers. Good luck in the quarter.

Our next question comes from Anthony Pettinari with Citi.

Good morning. Just to follow-up on the container board system optimization.

Whether you look at the capacity that you'll add, not only the 250,000 tons, but maybe even thinking about opportunities for growth three to five years beyond that, does the opportunity to add low cost capacity come from debottlenecking existing sites, or do you see a potential to repurpose assets that are producing other substrates, like white paper? And then just beyond container board, looking at fluff following Riegelwood, can you talk about conversions generally?

Anthony, this is Mark.

I think we've got opportunities. When you look at our asset base, and I've commented on this before, we've got very, very good assets in really all of our businesses. They happen to make the product they make today, but can be reconfigured to make other products. And we've got the right work us for, the right technical age of the assets, and probably what's more important than anything on the cost side is the right fiber basket.

So we've got opportunities, a lot of opportunities in the Company to make our good businesses better by organic, debottlenecking as you mentioned, but also by facility conversions. There's further opportunity in fluff if we need it and our customers need it. There's opportunities in converting assets that are currently making one type of product to make another type of product.

That's one of the benefits we have is we have a lot of choices about how to do strategic projects that help our existing businesses. We built what we have by big M&A activity, and what we didn't say is we want to be satisfied with what we have. We want it to be the absolutely best it can be, and now we're investing in what we built in one way through M&A. We're investing in ourselves now by making what's really competitive and good great.

Okay. That's helpful. Just to clarify, is the 250,000 tons coming from existing container board mills or could those -- that 250,000 tons potentially come from another source?

These investments are coming -- that Tim described and that Carol described in the opening comments are coming from our existing container board system.

Okay. That's helpful.

I just had a question on the North American uncoated free-sheet market. It's like we're hearing some conflicting things, anti-dumping duties potentially next month. It sounds like some importers have backed off from shipping into the US, but at the same time [Riese] had some price cuts last week. Is the uncoated free-sheet market in terms of pricing in North America, is it getting better? Is it getting worse? Is it stable? I was wondering if you could provide any color there?

This is Mike Amick. You see -- in terms of the pricing, we have seen a little bit of slippage. But in the context of the anti-dumping, overall the -- you're seeing or maybe hearing some of the same things we are. This will play out over the coming months. In August we expect to hear a ruling on the anti-dumping.

And we've -- but right now things are pretty stable. Our business right now domestically is pretty strong. Little of that is actually coming from what we would consider to be a tail wind case itself. This is just continuing to be strengthened -- the strengthening of our business and our brands, which is very encouraging. I think we'll see this play out over the next 60 or 90 days.

Okay. That's helpful. I'll turn it over.

Our next question comes from Chris Meanwell with Wells Fargo.

Good morning and congratulations on a very strong quarter.

Thanks.

You touched on this a couple different ways, but I just want to probe a little bit more about it. When we look at your bulk shipments, first quarter, second quarter they were down 1% each. Industry has been up. Maybe is that some related to just mix or timing or -- you've been now a couple quarters below industry. And then two, kind of in relation with adding capacity and doing some work there. Clearly, at least the data I'm looking at showing, your corrugated shipments up so there's more going to export in other places.

When you think about balancing that, it sounds like -- just maybe help me understand the process of you want to have the right grades, the right places. Even though you're going to have it you don't necessarily operate it. You take more down time in it? Am I thinking about that the right way, as well?

We run what we need to run to service the customers that we have. In a moment in time, I see the perspective of there being a contradiction there. But, you know, on the box side, it's all the things out mentioned.

We made some choices about customers late last year that went through the pipeline and exited our portfolio of portfolio of customers this year, and some of the newer business coming in, as we mentioned last quarter, is ramping up over a period of time. So, yes, in a given quarter or a given moment in time, you can have some of these disconnects. But we do believe that our business grows over time and we want to make sure that we're supporting that growth the most economical way.

Is it your anticipation then that probably as we get towards the end ever the year or maybe into 4Q that you'll begin to track more in line with industry levels?

Well, it depends on what the market does. We know we have a pipeline of business coming in. We know that we have a customer portfolio that is performing at various levels. In some cases some of the customers that we have are suffering their own market-related issues around share and the type of products that they make. But, yes, generally speaking, we would expect that over time we would track closer to market.

Okay. That's helpful. And then, Carol, again in the past you've talked about your capital spending plans being in -- you had $1 billion or so maintenance, but being $1.3 billion, $1.4 billion you know, those extra spending elements helped offset inflation and different components that way. With the identification of some of the new projects, and this year you've already been a bit elevated, should we think about as a whole across your system, if you're spending $1.5 billion or so this year -- I think you kind of hinted potentially it could be even taken a little tick up next year, that as a whole you're spending more than offsets inflation, or is there something you're seeing potentially on the inflation side that you think might be a bigger hole to offset?

Chris, I think you really hit it on the head at the end. Once again, a step back from our capital allocation strategy. We have said we're going to return a lot of our free cash to our investors, which we're doing. But there's cash left. You can reinvest that cash in acquisitions, which we've done, some with great success and some with challenges. Or we could take some of that cash and reinvest that cash into businesses that are above cost-to-capital returns to create even more value. And we've been talking about this.

So the anticipation is that this incremental investment is for earnings growth. It's to do more than offset inflation. We think about that base spending as the kind of things we need to do, that one four level, one four, one five and just depends point in time of some of the maintenance expense we have, about as a sustained level to keep pace.

What you're seeing us do now is reinvest in businesses that we have a right to win and to create more value, not just to stay still. And we think that given where we sit as a Company right now, that deploying some capital in that direction might possibly make more sense than, say, what we've done in the past, which is spend it on a bolt-on acquisition. But at the end of the day it's cash being deployed to create value. So I hope that kind of answers your question and kind of puts a face on this incremental capital that we're talking about.

It does. Thank you.

Our next question is from Philip Ng with Jefferies.

Good morning. You took some economic downtime in Q2 in your container board business. Could you help frame what your expectation in 3Q, and in the back half in general? Are you comfort with your inventory levels? I appreciate you obviously have transportation bottlenecks. But help frame how we should be thinking about it sequentially in Q3?

Hey, Philip, it's Tim. As a general rule, we don't forecast how we're going to run our system going forward, but the philosophy is that we try to maximize our earnings performance given all of the -- if you heard earlier, all the considerations that we take into account about how to have the product we need in the right place at the right time. And so the down time that we took export channel was a little bit softer than we had anticipated in the second quarter, and so we balanced our system out to account for that. That's just how we run it.

Got you. And can you help frame how you think about box demand in the back half? I appreciate you have new business coming in, and Mark you mentioned earlier coming in the year, there's more upbeat outlook on the macro. Obviously Brazil and China slowed down a bit, but just curious to get your thoughts on the US economy and box demand broadly.

For the indicators that we look at, we still think the second half of the year is going to be pretty good. We think that 2015, from a box demand standpoint, should be a fairly solid year. Now, we're not talking about 2.5% or 3% growth, but in that 1% to 2% range, based on the indicators we look at. Those indicators obviously get a lot fuzzier the further you look out in time. Here in the immediate future, we still are somewhat encouraged by market growth.

Okay. That's helpful.

And then when you think about the investments you are making, you obviously stepping a lot of that for internal investments. Is that kind of a reflection on how your pipeline is looking for M&A? And due to some of your recent abroad on the M&A front, has that set the hurdle rate a little higher going forward as you approach M&A abroad?

That's a great question. You know, what we've been saying is what guides our investment strategy is creating value and we've done a little bit of everything. Large M&A as Carol said. Some has worked out very well. Some smaller things in developing markets that are still a question mark or have not worked out very well.

And because of that, we haven't done as much, other than cost reduction, as much of reinvesting into some owned organic businesses. The container board business is a great example. We didn't have that business to invest in several years ago, but we have it now and it's the best opportunity to create value of all the choices we have.

So it's not so much that the hurdle rate's changed. It's back to what guides us and we believe we can create more value for the long term, which our shareholders should appreciate, by making these investments instead of some other choices.

Okay. Very helpful.

Our next question is from Debbie Jones of Deutsche Bank.

Good morning. You have highlighted a lot of expected investment in North America. Mark, in the past you talked about potential for investment in container board in Russia through your Ilim JV. Can you just talk about or frame this opportunity whether or not it's something you would be considering for 2016? Or is this something we would be looking at as more of a three to five-year time horizon.

Obviously processed with the Ilim are a process with the Ilim board, which we of course are members of, but we do make some container board in Ilim. It's going very well.

And Russia is a great softwood basket. But right now the focus on Ilim is really getting the maximum potential of the investments we've already made, specifically the Bratsk pulp mill. So that's going very well.

Ilim has a board and a CEO and we're involved in that and strategy's being developed. But Russia is a great place for container board from a fiber standpoint. More logistic issues have to be solved over time, but we have a small position in container board through our Ilim joint venture and it's going well. There's no imminent next move. It's really optimizing what we're doing right now and that's going well.

Thanks. One last one on printing paper. Your maintenance target for the year seemed to come back, I think primarily related to Brazil and North America. Is there anything that we should read into that? Is there anything being pushed out?

No, not -- this is Mike Amick. Debbie, this -- our maintenance for the large part, the biggest piece of our maintenance is behind us in the first half. We still have some a couple of outages here in the second half but nothing is being pushed out in North America.

The maintenance outages outside of North America, they move around based on what we're trying to accomplish in the particular outage and then managing, obviously, seasonality issues with customers. Some of the mills are comingled with coated board products, and so that is another market that drives the timing decision. But no, I wouldn't read anything into that. We're continuing to do our maintenance outages to make sure that what we return is first and foremost safe and reliable and can make it between outages in the best possible, lowest cost way.

Thanks. Good luck in the quarter.

Thank you, Debbie.

Our final question comes from Paul Quinn with RBC Capital Markets.

Holy cow, snuck in there. Just two easy questions. One on the pulp side realizations North America were up eight bucks quarter over quarter. Just wondering is that a mix issue?

Yes, that -- it is primarily driven by mix. We had a little bit better performance in our fluff system, which was able to generate some -- obviously improvement from that standpoint. So primarily, yes, Paul.

Okay. Then just over on India with printing papers lost money again in the quarter. Is there a longer-term plan here to reverse the slide?

Paul, yes. The India business, the volume is growing. We've got -- we've had some cost issues. And so, there is a plan to improve the business. And as we said originally, what we're trying to figure out with the paper business in India is we're trying to figure out the market and what our participation level could be in the future.

Some of the India numbers that we report are really other activity that we have beyond just the paper business that just gives -- is the carrying cost when you start in a new region. But the underlying demand and how we're running has improved. But we definitely have that in this overall review that I've talked about doing with our portfolio, and India, like everything else, is part of that, and we're making progress on that.

Great. Thanks for the help. Best of luck.

Thank you. That concludes our Q&A portion for today's presentation. I will now hand the program back over to Jay for any closing remarks.

That concludes the call. Thanks for taking the time to join us this morning. As always, Michele and I will be available after the call and our numbers are on slide 18 of the appendix. Thanks and have a great day.

Thank you for joining the International Paper Company 2015 second-quarter earnings call. Have a great day.