Magnera Corp (MAGN) 2016 Q3 法說會逐字稿

Good morning. My name is Crystal and I will be your conference operator today. At this time, I would like to welcome everyone to the Glatfelter third-quarter earnings 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 session. (Operator Instructions). Thank you.

I would now like to hand the conference over to John Jacunski. Please go ahead.

Thank you Crystal. Good morning and welcome to Glatfelter's 2016 third-quarter earnings conference call. This is John Jacunski. I'm the Company's CFO and President of the Specialty Papers business unit.

Before we begin our presentation, I have a few standard reminders. During our call this morning, we will use the term adjusted earnings as well as other non-GAAP financial measures. A reconciliation of these financial measures to our GAAP-based results is included in today's earnings release and in the investor slides.

We will also make forward-looking statements today that are subject to risks and uncertainties. Our 2015 Form 10-K filed with the SEC and today's release, both of which are available on our website, disclose factors that could cause our actual results to differ materially from these forward-looking statements. These forward-looking statements speak only as of today and we undertake no obligation to update them.

And finally, we have made available a slide presentation to accompany our comments on this morning's call. You may access the slides on our website or through this morning's webcast provider.

I will now turn the call over to Dante Parrini, Glatfelter's Chairman and Chief Executive Officer.

Thank you John. Good morning and thank you for joining us to discuss our 2016 third-quarter results.

As noted on Slide 3 of the presentation, we continue to operate in a slow growth environment with challenging conditions in several of our key markets and soft demand in the North America uncoated freesheet market. Revenue for the quarter was $405 million, down 3% on a constant currency basis. And we reported adjusted earnings per share of $0.54, up $0.07 over the prior-year quarter, supported by a favorable tax rate and improved operations in all three businesses.

For the Composite Fibers business, shipments increased slightly compared to last year. Wall cover shipments were flat but lower than we anticipated as we entered the third quarter following a strong Quarter 2. However year-to-date shipments are up 3%. While the economic situation in the primary end markets for these products has somewhat stabilized, order patterns are a bit irregular. We do, however, expect near-term demand to remain at or slightly better than year-ago levels.

Shipments of tea and coffee products were 3% below last year although we anticipate fourth-quarter volumes will be above third-quarter levels as these markets begin to return to more normal growth patterns, as we've discussed in previous quarters.

Composite Fibers' operating profit for the third quarter was $14 million, flat compared to prior year, driven by success in continuous improvement initiatives that absorbed a $1.5 million negative impact from foreign currency.

It was another solid quarter for our Advanced Airlaid Materials business. Shipments were up 2% with operating profit slightly down as gains from volume and operations were more than offset by unfavorable foreign currency impacts. Customer demand for our hygiene and wipes products continues to be strong in 2016 with hygiene products up 2% and wipes up 11% year to date.

For Specialty Paper, shipments were down 3% compared to last year, similar to declines in the broader uncoated freesheet market. On a year-to-date basis, shipments were up 0.7% versus the broader market, which was down 0.8%.

Overall selling prices were down on a year-over-year basis and flat compared to second-quarter levels. Soft market conditions and flat industry operating rates has limited the effectiveness of price increases announced earlier this year. However, strong operations in Specialty Papers coupled with favorable pricing on our raw materials and energy costs lifted operating profit by 7% to $18.7 million.

This concludes my opening remarks. John will now provide a more in-depth review of our third-quarter results. Then I will offer some closing comments before taking your questions. John?

Thank you Dante. For the third quarter. we reported net income of $19.6 million, or $0.44 per share. After excluding non-core business items, we reported net income of $24 million, or $0.54 per share, compared to $0.47 in 2015.

Slide 4 shows a bridge of adjusted earnings per share from the third quarter of last year to this year. Composite Fibers' results were neutral to earnings despite a negative $0.03 impact from foreign currency. Advanced Airlaid Materials results decreased earnings per share by $0.01, including a negative $0.01 impact from foreign currency. Specialty Papers' results increased earnings per share by $0.02. Higher corporate costs for the Fox River legal matter and higher incentive compensation expense reduced earnings per share by $0.02. And income taxes increased earnings per share by $0.07 as the third quarter benefited from investment tax credits, the release of reserves for closed tax audits, and changes in certain statutory tax rates.

Slide 5 shows a summary of third-quarter results for the Composite Fibers business. Total revenue for this business was $132 million, down 1.7% when compared to the prior year but flat on a constant currency basis. Shipping volume was up 0.5% while lower selling prices negatively impacted operating profit by $1.6 million.

Following the declining pricing environment in 2015, selling prices the last three quarters have remained generally stable. Strong growth in coffee products was offset by continued slow demand for tea products with overall food and beverage shipments down 3% compared to both the year-ago quarter and year-to-date.

As previously discussed, a few key customers have been reducing inventory levels this year, and others lost market share, resulting in lower demand for our filter papers. We believe these markets are stabilizing and expect shipments will begin to return to more normal growth patterns in the fourth quarter.

Shipments of wall cover products were flat this quarter and are up approximately 3% year to date. While the economic situation in Russia and Ukraine markets remains uncertain, we expect fourth-quarter demand to be in line with the third quarter.

And finally, we continue to see growth in our technical specialty and composite laminate segments with shipments up 13% and 12% respectively. Raw material and energy trends continue to follow the same pattern as we discussed from the first half of the year with prices lower compared to the year-ago quarter, but tightness in the availability of a backup fiber continued, and has led to substantial increases in prices for this fiber. These increases have been more than offset by lower prices for purchased pulps and energy.

Operational performance was strong this quarter as we continue to focus on our continuous improvement programs. Overall, operating profit was flat at $14 million, and includes a $1.5 million negative impact from foreign currency due to a less favorable impact from our hedging program in 2016.

For the fourth quarter, when compared to the third quarter, we expect shipping volumes to decline approximately 5%, driven by slower seasonal demand for metallized products and a change in material use by a large customer away from metallized papers. We expect selling prices and raw material and energy prices all to be in line with the third quarter.

In the fourth quarter, we will be taking downtime in our machines to reduce elevated inventory levels. We will largely offset the impact of this downtime with cost control and cost reduction initiatives.

Advanced Airlaid Materials results are summarized on Slide 6. This was another solid quarter for the Advanced Airlaid Materials segment with wipes volume up 25% compared to last year as well as volume growth in tabletop, homecare and food/pet products. These gains were partially offset by lower volume and hygiene product, which were down 4% in the quarter, but up 2% year to date. Shipments for the business unit were up 2% in tons and 5.6% in square meters, reflecting growth in wipes and other lower basis weight product. The lower selling prices are driven by customer contract provisions that require the pass-through of raw material price changes. As a result, net revenue was down 2% to $62 million.

Operations for the Airlaid business continue to perform well with high levels of output to meet customer demand. As a result, operating income for this business was $6.4 million, down $400,000, including a $700,000 impact from unfavorable currency in the comparison.

For the fourth quarter, we expect shipping volumes to be slightly lower compared to the third quarter. In addition, we expect average selling prices and raw material and energy prices to be in line with the third quarter.

Slide 7 provides a summary of the results for Specialty Papers. Shipments for Specialty Papers decreased 3% when compared to the third quarter of last year, approximately the same rate of decline as the broader uncoated freesheet market. On a year-to-date basis, uncoated freesheet shipments are down 0.8% while log shipments are up 0.7%. Shipments during the quarter were down in nearly every market segment with the exception of our Engineered Products, where volume was up 3%, driven by increases in inkjet, playing card and some other customized products.

Selling prices in the third quarter were below the year-ago levels, resulting in a $2.5 million impact to operating profit. During the second quarter, we began implementing a previously announced $60 per ton price increase on a range of products. However, due to soft market demand, industry operating rates have not improved and we do not see additional price improvement in the third quarter.

Operating performance at our facilities continues to improve, resulting in higher levels of pulp and paper production. And lower raw material and energy prices more than offset selling price declines, contributing a net $800,000 to operating profit.

Overall, operating results improved 7% to $18.7 million when compared to the year-ago quarter. For this business in the fourth quarter, we expect selling prices to decline slightly and shipping volumes to be flat compared to the third quarter with product mix being less favorable, resulting in a negative impact to operating profit of approximately $5 million.

Raw material costs are expected to increase somewhat.

We will also be taking some down time in our paper machines in the fourth quarter to reduce elevated inventory levels. The impact of this downtime is expected to be offset by lower maintenance spending.

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Also during the fourth quarter, we expect to permanently close a small paper machine at our Spring Grove facility that produces less than 10,000 tons annually, or about 1% of our total production. Virtually all products made on this machine will be transferred to other machines at the facility. We will incur a one-time charge for this shutdown of approximately $600,000 on a pretax basis in the fourth quarter.

Slide 8 shows corporate costs and other financial items. During the third quarter, corporate costs were $5.6 million compared to $4.6 million in 2015. The increase was driven by higher legal costs for the Fox River matter and higher incentive compensation. We expect corporate costs in the fourth quarter to be in line with the third quarter.

During the quarter, we also completed a substantial amount of work on the environmental projects in Specialty Papers that required downtime as well as other one-time costs. The impact of these items was excluded from adjusted earnings.

Slide 9 shows our free cash flow. During the third quarter, on an adjusted free cash flow basis, we generated $4.2 million compared to $23.8 million in the third quarter last year. In 2016, cash used for working capital totaled nearly $17 million versus a provision of nearly $9 million in 2015.

The third quarter of last year reflected a successful initiative on payment terms with our vendors. In addition, we built inventory during the third quarter of this year as a result of market softness combined with improved production output from all three business units. As I mentioned earlier, we will be taking machine downtime in the fourth quarter to reduce inventory levels.

Total capital expenditures for both the quarter and the year have increased due to the Airlaid capacity expansion project and Specialty Papers boiler environmental compliance products. We continue to expect total capital expenditures of $155 million to $170 million in 2016.

Spending on remediation of the Fox River in the first three quarters of the year totaled $4.2 million. Our remediation work is complete for the 2016 season, and we expect our total spending for the year to be approximately $5 million.

Slide 10 provides estimates for capital expenditures and related costs. We are making significant progress with the environmental compliance products in Specialty Papers to allow us to meet the compliance deadline in early 2017. The work at our house facility is nearly complete. The work in Spring Grove is much larger in scope and more complex than the Ohio project and the cost of installation has increased the total project costs by approximately $10 million. The impact of this higher cost was partially offset by reduction in our normal CapEx.

The AMBU capacity expansion product project remains on target. The result of these changes is a $5 million increase to the bottom end of our total capital spending range for 2016 to $155 million. The top end of the range remains at $170 million.

Also on Slide 10, we Have made minor changes to the one-time P&L costs with the building and startup of these major projects.

And finally, we expect our depreciation and amortization to increase by approximately $8 million to $76 million in 2017, primarily to reflect depreciation associated with the Specialty Papers environmental projects.

Slide 11 shows some balance sheet and liquidity metrics. Our net debt at September 30 totaled $328 million, up $73 million from the end of 2015. The increase was driven by the $74 million spend year to date on our two major capital programs. We finished the quarter with $51 million of cash and $228 million available under our revolving credit facility.

Our balance sheet remains in good shape with leverage on a net debt basis of two times. We believe this provides sufficient liquidity to meet our near-term investment needs and to continue to execute our growth strategies.

This concludes my comments. I will turn the call back to Dante.

Thanks John. The operating environment for the first three quarters of 2016 can be characterized as slow growth with strong competition for available market opportunities. Despite the continuation of these challenging conditions, our adjusted year-to-date earnings are up 19%.

Looking at our three businesses together, favorable prices for raw material and energy costs are slightly outpacing selling price declines, and higher shipping volumes coupled with better mill operations have improved earning significantly.

For Composite Fibers business, we remain the global leader in markets like tea, single-serve coffee and wall cover, plus healthy long-term growth rates. We continue to work on building our positions in electric products, dispersable wipes, and other technical specialties. Our battery separator papers are up double digits year-to-date and we began shipping disposable wipes products Europe in October.

The wall cover markets in Russia and Ukraine are more stable on a macro basis but monthly order patterns are choppy, making forecasting growth difficult.

Prices for some of the key products in Composite Fibers declined in 2015 due to soft market conditions and increased capacity and competition. However, in 2016, prices have been generally stable. We expect this level of market competition to continue for the fourth quarter and into 2017. As a result, we are finalizing plans to reduce our cost structure in Composite Fibers as we focus on continuing to improve our profitability in a slow-growth economy.

For Specialty Papers, we've outperformed the uncoated freesheet market for 12 consecutive years and we expect this trend to continue. With the broader market declining approximately 3% per year, business will remain competitive. In response, we will continue building on our reputation of delivering a great customer experience, offering new product and service innovations, and driving costs and efficiency improvements through our continuous improvement programs.

The Advanced Airlaid Materials business continues to deliver solid performance with earnings up 30% year-to-date. Growth opportunities in specialty wipes and hygiene products are promising. I continue to be pleased by the improvements I am seeing in our Airlaid production metrics, particularly in Canada, as we work diligently to meet our customers' growing demand and bridge the supply gap until our new capacity comes online.

By way of update, the construction of our new Airlaid facility in Fort Smith, Arkansas is progressing as planned. As you will recall from previous discussions, this facility will add 22,000 tons of capacity to serve the growing demand for wipes and hygiene Airlaid products in North America. We expect the facility to be operational in the fourth quarter of 2017 with commercial shipments beginning in the first quarter of 2018.

As we navigate through this slow-growth environment, we will continue looking for ways to create a more competitive cost structure while remaining focused on growth opportunities that fit our long-term investment strategy.

I'll now open the call for your questions.

(Operator Instructions). Mark Wilde, BMO.

Good morning Dante. Good morning John. I wondered if we could start first with just the guidance comment over in Specialty Papers. As you talked about sort of $5 million from price mix, and I wondered if you could sort of break that out a little bit for us.

On the pricing side, we expect prices to be down slightly. We don't expect any significant move, but certainly enough to impact the operating profit from quarter to quarter. And as is fairly typical from a seasonality perspective, we expect our mix to be not quite as strong in Q4 as it is in Q3. So if you go back and look at some of the trends even for last year, we saw a similar fact pattern.

One of the differences between the movement from Q3 to Q4 this year versus last year is that we had an uplift last year from much higher production levels. And this year, we expect to take downtime. So when you combine the mix and pricing impacts with some downtime, even with lower spending on maintenance, we expect profitability to decline in Q4 compared to Q3.

Okay. And then I think, John, you also flagged some cost inflation in the fourth quarter, and I wondered if you could just help us quantify that.

We use the word somewhat. I think the increases typically would be around wood in the fourth quarter as we build some inventory getting into the winter months, so we typically see a little bit of cost inflation there. And then chemicals and energy are trending up a little bit. So from a broad perspective, I would call it may be about a $1 million impact from Q3 to Q4.

That's really helpful. And John, can you update us on sort of the volume trends you are seeing kind of within that business? Because it seems like the stories around the book market actually have been encouraging over the last year or two with the erosion in the book volume actually slowing. I haven't seen any figures recently on the carbonless market, so maybe you could just kind of help us with the different pieces within that market.

Sure. On the trade book side for sort of hardbound best-selling novels, we've seen very good demand this year. It's been up pretty significantly, so that's helped us.

On the carbonless side, the declines this year are similar to what our market expectations were and what we saw last year were down on the order of about 10%. And it's, again, consistent with movement in the market.

We did -- we have seen, in the broader uncoated freesheet market, we saw some slowing in demand in Q3. So year-over-year demand was down 2.7%. If you go back and look at the prior quarters, that's the worst performance since the first quarter of 2015. And so the typical strong period coming out of the summer months would be sort of August/September. And the industry shipments were just weak, and so we saw the impact of that in our third quarter. And we expect that's going to continue a little bit into Q4. And so we've guided to sort of flattish shipments for Q4.

Okay. And I wondered. Just turning over to Composite Fibers, you were down 3% in food and beverage. Can you give us some sense of where you think kind of the trend growth rates are in that business going forward? I don't know that single-serve coffee has really slowed down, what you are seeing in terms of the teabag market as well.

So, we were down a few percentage points in Q3. The impact was really more related to our teabag than our single-serve coffee. Single-serve coffee was actually up double digits in Q3 versus Q3 2015. And as you might recall from the conversation we had last quarter, the movement of destocking with our tea and coffee customers, we didn't see as much in Q2 as we thought some of it was going to slide to Q3 and the guidance that we gave three months ago was, by the time we get to Q4, we're going to resume more normalized industry growth levels, which in aggregate is going to be that 4-ish%, 3% to 4% range. So, the weakness in Q3 was really driven more by tea than coffee, and we expect to be at more normalized levels of demand and growth in Q4 as we roll into 2017.

Okay. So there's no kind of share loss or anything that you've taken there, Dante?

I would say there's no structural changes in our markets. Occasionally, you may encounter where market share is traded from customer A to customer B to customer C, and we have different share of wallet with different customers. But we have close to 60% global market share, so we are fairly represented across the board. And sometimes you see a little bit more period-to-period volatility, but in the longer-term and even in the intermediate term, we think the trends are favorable and we like our positioning in those markets.

Okay. And you also in that business, you mentioned that you lost or you had a customer moving away from metallized paper. And I wondered if you could talk about that and how that impacts that segment of Composite Fibers.

Sure. I would say the biggest impact is going to be on volume, and they have really a negligible impact on our profitability, and I'll get into that in a second. But we had a customer that had been using a metallized product as an inter-liner packaging material for quite some time. And the customer has moved to a different paper-based substrate, a lower-tech option. So this particular piece of business represented about 10% of Glatfelter's total metallized volume this year.

Now, if you may recall, the metallized business is a converting business and the margins for metallized are the lowest of CFBU. So we expect to be able to offset the impact of the lower volumes through cost reduction initiatives.

Okay. That's helpful. I'll turn it over and I'll get back in the queue. Thanks very much.

James Armstrong, Vertical Research.

Good morning and thanks for taking my question. The first question is on the CapEx range. It's still pretty wide. Could you tell us the difference between the low end and the high end of the range, and maybe give us a little guidance on what to expect going into 2017?

Sure. The range is really driven by some of the large projects we have going on between the Specialty Papers boiler compliance investments as well as the Airlaid capacity expansion and just the timing of payments. So the estimates that we have provided sort of get at what we expect the total expenditures to be, but the timing between year-end and Q1 could move a little bit. And that's the reason for the broader range. So, our normal CapEx for next year we expect to be $70 million to $80 million, which is pretty standard for us. Then when you add in the remaining spending on the boiler environmental compliance project, which will be minimal because we will be finishing those projects in early 2017, we will have a little bit more spending on the A and B capacity expansion. We estimate that at $35 million to $40 million. So for the full year of 2017, we expect the range to be $107 million to $132 million. And again, that's a little bit wide because of just the timing of payments on these major programs between 2017 and 2018.

That helps a lot.

(multiple speakers) 2017.

And then on the maintenance in 2017, in Specialty Paper, is that still scheduled for the second quarter, and could you give us an early readout the impact that maintenance will have?

Sure. It is still scheduled for the second quarter. We take our annual maintenance outages for both of our facilities in that quarter, and we would expect that it's largely going to be in line with what we had in 2016, which was about $26 million.

Okay. That helps. And then lastly, could you talk about the environmental compliance line items that you had? Should those continue through the first quarter, maybe the second quarter of next year depending on the time, and then fall off, or could you give us some guidance on how those costs will flow through?

Sure. And if you have access to our slideshow on Page 10, there are some details on this. So we will have a little bit in Q4, and then it will continue a little bit in Q1, so our total after-tax cost estimate for this is $9 million. And we've incurred already after-tax on the order of I would say $4 million to $5 million of that. I don't quite have the number from earlier in the year. So we will still have a little bit in Q4 and I can give you some more details on that off-line. But next year, we expect $3 million after-tax.

Perfect. Thank you very much.

Dan Jacome, Sidoti.

Thanks a lot for your time. Just a couple of questions. On the Spring Grove, the 10,000 tons of paper you're transferring, did that already happen or is that all going to happen in the fourth quarter?

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That will happen largely in the fourth quarter.

Okay. And then, on Fox River, I think you said $5 million in remediation. Have you called out what you expect for next year or it's similar to this year?

The remediation plan has not been put together, but we would expect it to be in a similar range for us, yes.

Okay, got it. And then last one, it looks like you guys are obviously aggressively hiring for the Fort Smith project, which is good. I'm just kind of wondering how that's tracking, if it's meeting internal plans and where you guys stand on that.

Yes. So my comments about the Fort Smith project- -- in its entirety, it's on plan on budget. And when we are all done, we will have around 83 employees there. So the human capital elements of planning for the startup are not inconsequential. We've got a site leader in place who is a legacy Glatfelter AMBU operations leader, so somebody who knows Glatfelter, knows the technology, has started equipment before.

And we've begun to put the leadership team in place in Fort Smith. We have been very pleased with the labor market down there and the sport we've received from the community in general. So that's a part of the project that gets a lot of close attention and scrutiny, as you might imagine, but happy to say right now that all elements of the plan are tracking according to the schedule that we've laid out previously.

Got it. Okay, thank you.

(Operator Instructions). Mark Wilde, BMO.

First, a couple of just modeling questions. What kind of effective tax rate should we be using for the fourth quarter?

About 24%.

Okay. Is that a good number for next year, do you think?

Yes, I do.

Okay, all right. The second question, the financial impact of that 5% drop in fourth-quarter volume in Composite Fibers?

I think, as Dante commented, that will be minimal. That's the metallized product, and we expect we will be able to take some cost reduction initiatives to help to offset that, so we expect it will be minimal.

Okay. And then from a little broader perspective, Dante, it seems like, in about the half-dozen years that you've owned Airlaid, the mix of business has shifted. Can you talk a little bit about that shift in mix? It seems like you've moved away from hygiene and core materials more toward wipes. I wonder if you could just update us on that process.

I'd be happy to. I may choose to recharacterize the way you presented it. I would say that our mix has expanded, which is a positive thing and has been part of our strategy because we are growing, and we are serving markets that are growing 5% to 6%, and our CAGR on volume growth since buying the business is about 100 BPS ahead of what the market growth has been. So we are not moving away from hygiene in our core legacy customers. We are expanding capabilities and adding capacity to make the pie bigger. And so what you are seeing is that a lot of good work on a technical and commercial level that's enabled us to establish a foothold in the broader specialty wipes and some of the lower basis weight product categories that's helping to diversify the portfolio, kind of lower the beta for this business unit, which is our smallest one and was the most concentrated, and be able to satisfy our Tier 1 global fem-hy customers, adult incontinence customers, and at the same time continue to grow and diversify, which I think is a positive story for all of our customers, both current and potential, because Glatfelter is asserting itself as the largest leading producer of specialty airlaid materials worldwide. And as we build a bigger footprint with broader capabilities and stronger innovation capabilities, I think that's going to really set us apart from the rest.

Is there a margin differential, Dante, between sort of what you can achieve in sort of core materials versus what you can pick up in wipes?

No. We really don't comment on margin profile by segment, but you have to think about the transition that we are creating by serving all of our customers out of Gatineau and Falkenhagen until we have Fort Smith stood up. So once Fort Smith is stood up, we expect a lift in the overall margin profile of AMBU and that Fort Smith will be a strong contributor to Glatfelter's overall profitability.

Okay. And we get some questions sometimes about sort of differences between what you do and, say, guys that make wipes and nonwovens from like polypropylene and things like that. Can you just help us understand sort of technically what you are making and how that is different from, say, some of the stuff that uses synthetic materials?

Sure. So, there are a number of different nonwoven technologies that can be used to produce wiping type materials. And I'd say your question is if there's a spun-laced or a spun laid or spun melt kind of material versus an airlaid, and it has to do with the feedstock. As you said, it's polypropylene or polyethylene or some mixture of petroleum-based raw materials versus our raw material, which starts with fluff pulp and then adds other materials.

So there are different performance features in terms of softness and density and things of that nature, and there are different preferences by consumers and our customers in various regions of the world. So we think it's a broad market and there's application for all of the different technologies, and we are seeing a lot of demand for the airlaid technology in North America as a pertains to wipes, which is why we were motivated to build a facility in Fort Smith.

Okay. That's helpful. I'll turn it over. Good luck in the fourth quarter.

At this time, I'm showing there are no further questions. I would like to hand the conference back over to Dante.

Thanks Crystal. Thanks to everyone for joining our call today. We look forward to speaking with you next quarter. Enjoy the rest of your day.

This does conclude today's conference call. You may now disconnect.