Magnera Corp (MAGN) 2016 Q4 法說會逐字稿

Good morning. My name is Kayla, and I will be your conference operator today. At this time I would like to welcome you to the Glatfelter 2016 fourth quarter earnings conference call. All lines have been placed on mute to prevent any background noise. After the speaker's remarks there will be a question and answer session. (Operator Instructions). Thank you. Mr. John Jacunski, you may begin sir.

Thank you Kayla. Good morning again, and welcome to Glatfelter's 2016 fourth quarter earnings conference call. I am John Jacunski, I am the Company's CFO. 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 material from these forward-looking statements. These forward-looking statements speak only as of today, and we undertake no obligation to update them.

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 provided. 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 fourth quarter results. Our results reflect operating income performance in line with our expectations, with a slightly better effective tax rate. As noted on slide three of the presentation, we reported adjusted earnings per share of $0.40, down $0.12 compared to the prior year. We continue to operate in a slow growth environment, with challenging and competitive conditions in several of our key composite fiber markets, and soft demand in the North America uncut and free sheet market. However we continue to deliver on growth in our Airlaid business, growing [18%] in the quarter.

Overall revenue for the quarter was $391 million, down 4% on a constant currency basis. Composite Fiber shipping volume was down across all product lines compared to the year ago quarter. However food and beverage shipments were up 2% on a sequential quarter basis. Cost controls and ongoing success with our continuous improvement program, helped to mitigate most of the impact from machine downtime that was incurred in the quarter to manage inventory levels. For the quarter operating income was $2.1 million lower compared to last year, including a $900,000 impact from foreign currency.

During the fourth quarter we also began implementing a cost optimization program that will significantly reduce operating costs. We will speak to this in more detail in a moment. Fourth quarter results for our Advanced Airlaid materials business reflects a strong finish to an outstanding year. Customer demand for our products continues to be strong, with double digit growth in many of our product segments. Shipments were up 3% in square meters this quarter, supported by excellent operating performance, and record Airlaid production, which drove a 9% improvement in operating income. For Specialty Papers, shipments were down 5.8% compared to last year, which tracked the market. On a full year basis shipments were down 1% outperforming the broader uncut and free sheet market for the 12th year in a row.

Overall selling prices were down year-over-year, reflecting soft market conditions and declining industry operating rates, which finish the year below the 90% level. Lower selling prices led to a $2.6 million drop in operating income compared to last year. Specialty Papers continues to operate well and generate productivity improvements that offset the impact of market related downtime in the fourth quarter. We continue to make progress during the fourth quarter with our significant capital programs. We successfully completed the environmental compliance projects in Specialty Papers in January, to meet the month end compliance date.

With this project now behind us we expect lower capital expenditures in 2017. Our Airlaid capacity expansion projects is tracking to our schedule for a late 2017 start up. Our cash flow for 2016 was in line with our expectations, and our balance sheet remains solid. Lastly there have been some recent developments related to the Fox River that provide greater clarity about our ultimate costs. This resulted with us recording a $40 million charge to operations taken during the fourth quarter of 2016. John will discuss the specifics during his comments. At this point I will turn things over to John, who will provide a more in depth review of our fourth quarter results. And then I would like to offer some closing comments before taking your questions.

Thank you Dante. For the fourth quarter we reported a loss of $16.2 million, or $0.37 per share which included an aftertax charge for the Fox River environmental matter of $25.1 million. After excluding this and other noncore business items, we reported adjusted earnings of $17.6 million, or $0.40 per share, compared to $0.52 in 2015.

Slide four shows a bridge of adjusted earnings per share from the fourth quarter of last year to this year. Composite Fibers results reduced earnings per share by $0.04, including a negative $0.02 impact from foreign currency. Advanced Airlaid Materials results improved earnings per share by a penny, including a negative $0.01 impact from foreign currency. Specialty Papers has also reduced earnings per share by $0.05. Higher corporate costs for the Fox River legal matter, and higher incentive compensation expense, reduced earnings per share by $0.06, and lower pension expense added $0.02.

Slide five shows a summary of the corporate results for the Composite Fibers business. Total revenue for this business was $125 million, down 4.9% when compared to the prior year, and down 1.6% on a constant currency basis. Selling prices were slightly lower compared to the prior year, and shipping volume was down 6.6%. Together impacting earnings by $1.1 million.

Food and beverage shipments were down 3% compared to the year ago quarter in the full year, and were up 2% in the fourth quarter compared to the third quarter. As previously discussed during 2016 we had a few customers reduce inventory levels. There were some shifts in customer market shares, and the excess production capacity impacted the food and beverage market. We believe these markets have stabilized and we expect modest growth in shipments in 2017.

Shipments of wall cover products were off 4% compared to the fourth quarter of 2015, and were up 1% for the full year. This market is stable, but we have not seen a recovery of the important Russian market as of yet. Shipments of composite laminates and technical specialties were also down for the quarter, and flat for the full year. Finally our metallized product shipments were off 13%, as this business is impacted by a customer changing substrates for its packaging application. Raw material managed energy trends followed the same pattern through the year, with prices lower compared to the year ago quarter.

Tightness in the availability of a backup fiber continues, and has lead to a substantial increase and the cost for this fiber. These increases have been more than offset by lower prices in more purchased pulps and energy. This business took machine downtime during the quarter to manage inventory levels, which were down 17% during the quarter. The $2.5 million cost for the downtime was nearly offset by continuous improvement activities, and cost control initiatives. Overall the operating profit declined to $13.8 million, including a $900,000 negative impact from foreign currency. Despite the top line challenges this year, the business was able to hold EBITDA margins largely flat for 2016 at 16%.

During the fourth quarter we initiated a cost optimization program in Composite Fibers to better align our cost structure with near term demand, and align our production output following years of productivity gains, created by our continuous improvement initiatives. While we see long-term growth in our core markets, this initiative ensures that we will serve our customers in the most cost effective manner, by reducing the number of shifts on certain machines, to better manage production output with market demand. The program also includes spending reductions, workforce, rationalization administrative staff, and bringing certain sales activities that are currently serviced via agent agreements in-house.

We expect to incur one-time costs of $8 million on a pre-tax basis to implement this program, of which $3 million was recognized in the fourth quarter. We anticipate the analyzed benefits to be approximately $13 million once fully implemented, with a $10 million impact to 2017. For the first quarter when compared to the fourth quarter, we expect shipping volumes to increase approximately 5%, with the benefit of these increases offset by lower selling prices. Raw material and engine prices are expected to increase slightly, driven by continuing tightness in the supply of backup fibers. And in the first quarter we should start seeing benefits from the cost optimization program.

Advanced Airlaid materials results are summarized on slide six. This was another solid quarter for Advanced Airlaid materials business with wipes volumes up 18% compared to last year, as well as volume growth in tabletop and home care and food pet products. These gains were partially offset by lower volumes in hygiene products, which were down 6%. Overall shipments for this business were up 2% in tons, and 3% in square meters. The lower selling prices were driven by customer contract provisions that require the pass through of raw material price changes. As a result net revenue was down 0.5% to $61 million on a constant currency basis.

Operations for the Airlaid business continue to perform well. Operating income for the business was $6.6 million, up 9% including a $400,000 unfavorable impact from currency. For the year, the business has delivered total operating income of $26 million, which represents a 24% improvement over last year, and EBITDA margins were an all-time high of 14.4%, which is 210 basis points higher than 2015. For the first quarter we expect shipping volumes to be slightly higher compared to the fourth quarter, and we expect average selling prices and raw material and energy prices to be in line with the fourth quarter.

Slide seven provides a summary of the results for Specialty Papers. Revenue for Specialty Papers was $204.7 million, or 6.7% lower than the prior year quarter. Shipments for Specialty Papers decreased 5.8% when compared to the fourth quarter of last year. On a year-over-year basis, our shipments were down 1% compared to the broader uncoated free sheet market decline of 1.9%. Shipments during the quarter were flat or down in every market segment except engineered products where volume was up 8%, driven by increased shipments of inkjet, playing card, greeting card, and other specialized products.

Selling prices in the fourth quarter were below year ago levels in all major product categories, resulting in a $4.8 million impact to operating profit. Lower raw material and energy prices provided a partial offset of $2.1 million. Operating performance at our facilities was quite good during the quarter and for the year. We delivered improved pulp and paper productivity and this improved operating efficiency and cost control, offset the negative impact of machine downtime that was taken in the fourth quarter to manage inventory levels.

Overall operating results declined $2.6 million to $13.3 million when compared to the year ago quarter. On a full year basis operating income for Specialty Papers improved 25%. For this business in the first quarter we expect shipping volumes to be slightly higher than the fourth quarter, with selling prices declining slightly. Raw material on energy prices are expected to be similar to the fourth quarter. Overall energy costs are expected to increase by approximately $4 million due to seasonal demand, and the recently completed boiler conversions to natural gas to coal. The higher costs for energy are expected to be offset by less downtime in the first quarter than in the fourth quarter.

Slide eight shows corporate costs and other financial items for the quarter. During the fourth quarter we incurred costs related to the environmental compliance and Airlaid capacity expansion capital programs, and the composite fibers cost optimization program that were excluded from adjusted earnings. We also recognized a pension settlement charge that I will speak to in a few slides. In addition we took a $40 million charge for the Fox River environmental matter in the fourth quarter.

As we reported in an 8-K filed with the SEC on January 19th, NCR and Appvion entered into a proposed consent decree with the United States and the state of Wisconsin. This proposed consent decree helped clarify the ultimate potential cost of the Fox River environmental matter for Glatfelter. This consent decree requires NCR to complete the remaining river remediation, at an estimated cost of $200 million, and NCR and Appvion have agreed not to seek claims against Glatfelter, so long as we don't pursue claims against them.

The consent decree if approved, would result in Glatfelter being responsible for past and future government oversight costs, and monitoring and maintenance of the completed remediation. Some of these costs will be shared with another responsible party, Georgia Pacific. The adjustment to the reserve recorded in the fourth quarter reflects a change in the most likely cost to Glatfelter for this matter, and results in a total reserve as of December 31st of $53 million. We will also be significantly lowering the upper end of the reasonably possible range of loss that we have disclosed in our prior SEC filings.

We continue to analyze the consent decree, and consider how we may respond, including potentially challenging it through the courts. As a result of the consent decree, the trials in this matter previously scheduled to begin in April have been stayed. We will include a more detailed discussion of this matter in our 10-K, which we will be filing on or about February 27th. Corporate costs during the fourth quarter were $7.7 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 first quarter to be approximately $2 million lower than the fourth quarter.

Slide nine shows our free cash flow. During the fourth quarter cash flow from operations was $57 million, slightly lower than last year. Total capital expenditures for both the quarter and the year were higher than the year ago periods, due to our two major capital programs. Excluding these projects our 2016 capital expenditures are closely aligned with our historical investment levels.

Slide ten provides estimates for capital expenditures and related costs for 2017. The boiler environmental compliance work at our health facility was completed in the fourth quarter, and we successfully completed the compliance work in Spring Grove in January. The total capital investment to meet the environmental regulations is estimated at $113 million, most of which was paid by the end of 2016. The early capacity expansion project and the one-time implementation costs remains on target. For the full year of 2017, we expect capital expenditures to total between $125 million and $140 million, and we expect depreciation expense to increase to $72 million versus $66 million in 2016.

Slide 11 shows the status of our pension plans during 2016. We offered a lump sum cash out to deferred vested participants. As a result of this program we recognized a charge for a partial settlement of planned liabilities of $7.3 million on a pre-tax basis, which we excluded from adjusted earnings. The funded status of our plans improved in 2016. We have not had to make cash contributions to our qualified plans for some time, and do not expect to for the foreseeable future. With respect to pension expense, we expect 2017 expense of $5.3 million, compared to $5.5 million in 2016.

Slide 12 shows some balance sheet and liquidity metrics. Our net debt on December 31 totaled $317 million, up $62 million from the end of 2015. The increase was driven by the $100 million spend in 2016 on our two major capital programs. Last week we finalized an amendment to our revolving credit agreement to increase our financial flexibility. The provisions in the amended agreement provide for the carve out of certain one-time costs in calculating our bank availability. We finished the quarter of $55 million of cash, and $177 million available under our revolving credit facility, after reflecting the recent amendment. Our balance sheet remains in good shape with leverage based on adjusted EBITDA and on a net debt basis of 2 times. This concludes my comments. I will turn the call back to Dante.

Thanks John. 2016 was a solid year for Glatfelter considering the competitive pressures from overcapacity in key markets. Our operating income is stable, and our adjusted EPS is up 3%. As shown on slides 13 and 14 adjusted earnings per share finished at $1.38, versus $1.34 last year. To start Fox River litigation costs and unfavorable foreign currency impacts created a $0.15 headwind for our businesses. The impact of lower selling prices was offset by continued favorable pricing from raw materials and energy. Our Advanced Airlaid materials business unit grew shipments 3% in 2016, and our Composite Fibers and Specialty Papers businesses each declined 1% in facing overcapacity in competitive markets.

Our continuous improvement initiatives drove outstanding operations performance in 2016 resulting in a substantial benefit to operating profit. These operating improvements included record Pulp production in Specialty Papers, and record Airlaid production in our Gatineau Canada facility, allowing us to meet growing demand from our hygiene and personal care customers. This resulted in an approximate 25% improvement in operating profit for both Advanced Airlaid materials and Specialty Papers. While Composite Fibers operating profit declined 12%.

As I look forward for the Composite Fibers business, we expect a return to growth in 2017 despite the continuation of competitive market pressures. We remain the global leader in markets like tea, single serve coffee, and wall cover, with attractive long-term growth rates. We expect growth to return to each of these segments. We will continue to invest in new product and new business development, to build our position in electrical products, dispersible wipes, and other technical specialties. And we will execute our cost optimization initiatives to take advantage of productivity improvements, and improve our cost structure to deliver a $10 million benefit in 2017.

For our Specialty Papers business, we expect to outperform the uncoated free sheet market for the 13th consecutive year. With the broader market declining approximately 3% per year, business will remain very competitive. So we will continue to focus on the things we can control. Delivering a great customer experience, offering innovative and competitive products to the market, and delivering operating improvements to help mitigate the impact of inflation on our operations. The advanced Airlaid materials business continues to have a long runway for growth, with opportunities in specialty wipes, hygiene products and niche applications.

I continue to be pleased with the Glatfelter people in this business, as they work diligently to deliver on customer commitments and earnings growth. We will continue to drive operating improvements in our facilities to meet customers growing demand, and bridge the supply gap until our new 22,000 ton capacity facility in Fort Smith, Arkansas comes on-line in the fourth quarter of 2017, with commercial shipments beginning in the first quarter of 2018.

We remain focused on executing our long-term growth strategy, including winning in our core market segments, driving efficiencies through cost improvements and cost optimization, and delivering on our new product and new business development goals. As always, we remain committed to identifying growth opportunities through acquisition. I would now like to open the call for your questions.

(Operator Instructions). We will pause for just a moment to compile the Q&A roster. Our first question comes from the line of Dan Jacome from Sidoti & Company.

Good morning. Can you hear me?

Good morning, Dan, yes, we can hear you.

Great. Just four quick questions. First, Airlaid, it looks like you are continuing to do an excellent job there. I think you said your wipes were up 18% in the quarter, and looking at my notes at the end of September you were up 11% year-to-date. Can you give a little bit more flavor there, tell us what improved that sequentially or what is driving that?

Sure. Your data are correct, and wipes were up 18% in Q4, and 12% for the year, and so as we have been saying, associated with the investment in the Fort Smith capacity expansion, we have continued to develop relationships with customers, and supply in an oversold market in North America, and are leveraging our Gatineau facility, as we continue to get Fort Smith ready for production by the end of the year. So I would say that this is a favorable and encouraging development. It is consistent with our internal expectations, and was part of the calculus for the investment in Fort Smith.

Got it. Turning to uncoated. I think you said the cap utilization rates are now down under 90. What level in your view, do things get really sloppy or maybe you can instead of answering that, give us what is your line of sight for operating rates may be for the balance of the year. What are you baking into your calculus or guidance?

Fourth quarter operating rates were about 88%, December was 85%. So the year-ended soft which was not always that unusual, as people look to manage inventory levels, and focus on working capital optimization as the fiscal year ends. I would say that there are some general rules of thumb that many people in the industry tend to pay attention to. If operating rates are at 92% or higher, that tends to bode very favorably for price improvements. I would say that 90% to 91% is a stable market. When you are in the 80s, that's when things can become weaker, and at times you can see this manifest itself in a less favorable mix, sometimes market pricing, more market related downtime, or all of the above.

I don't have a crystal ball, and we use some of the same data as well as our own perspective on the outlook, but clearly some level of capacity rationalization would certainly be constructive for the industry, and then help us push back toward that 91%, 92% level. We will continue to operate with the assumptions that we will have to focus really hard on the things we control. Managing great day-to-day execution, being very aggressive on our cost structure, leveraging our continuous improvement infrastructure, and the fact that we have a repeatable model that has outperformed the market for twelve years in a row.

Two quick last questions. CapEx, remind us again, what is your real maintenance CapEx? Last year you had it pegged at 60, and now taking the midpoint of the 2017 outlook it jumps to maybe I think 75. So remind us again. I kind of know the answer, but remind us what is there, and then if we were to guess what 2018 maintenance CapEx would be, do you think directionally it would be lower? And then the last one quickly on Fox River, I guess we have to wait for the 10-K in a couple of weeks. What can we expect? Can you give as you trailer of what we can expect in that? Will you end that filing possibly reject the decree? Is that how to read it?

Let me just provide a couple of comments on Fox River and I will come back to the CapEx question you had. Yes, when we file a 10-K we will obviously be giving a more full discussion of the situation, as we said in our 8-K we filed in January. There are different avenues that we can take if we would like to contest the consent decree. We have not formed an opinion yet as to whether we will do that or not. We continue to study it. However, we made an accrual in Q4, because as we look at the range of possible outcomes, we previously had about $13 million accrued, and we said that the range of loss was up to just over $200 million. Based on this consent decree, we think the most likely point in that range has changed, and we accrued the $40 million to get to $53 million, which we now think is the most likely range. We also expect that the high end of the range is going to come up down dramatically. So we will finalize our thoughts on that with a disclosure in our 10-K, and we will continue to determine how we will approach this, of whether we will sort of contest or not the consent decree.

Okay. And then CapEx?

On the CapEx, so our CapEx maintenance typically is $70 million to $80 million per year. It can ebb and flow a little bit. We spent, I said maintenance and that is our normal CapEx. That is maintenance CapEx plus some improvement programs. Our normal capital expenditures were $73 million in 2015. Given the significant capital programs we have going on with the Board of environmental compliance, and the Airlaid capacity expansion, we pulled back a little bit this year to $60 million, for 2017 and we expect to be in the $70 million to $80 million range, and we would expect to largely complete the Airlaid capacity expansion. There might be a little bit of carryover of spending into 2018, as we finalize payments. Clearly the boiler environmental compliance will be concluded, payments on that will be concluded early this year. We would expect in 2018 that our CapEx will be in that $70 million to $80 million range as our normal CapEx.

Thank you guys.

Sure.

(Operator Instructions). Our next question comes from the line of Steve Chercover from D.A. Davidson.

Good morning, Dante. Hi, John.

Good morning, Steve.

Just a couple of quick ones also on Paper. So you said that you finished the year with operating rates below 90%, above 92% is where you might have some pricing power. I am just wondering, is it getting harder to find alternatives as traditional applications decline?

Yes, I would say that we continue to work harder every year, but I would go back to the fact that we have a track record and a repeatable model. One of the things that we have baked into our operating strategy is to leverage the flexibility of the portfolio of assets we have. So, and when we make these smaller investments on a year to year basis, clearly we are looking at things that can improve our cost position, but also improve the asset flexibility, so that we can be much more nimble, and recognizing that we only represent about 7% of market share. What might be very material to Glatfelter may not be so material to some of the larger players that have a different operating strategy, and a different asset configuration.

And so if you look at engineered products by way of example in the fourth quarter was up almost 8% year-over-year. Digital inkjet was up almost 13%. Playing card was up 40%, greeting card was up substantially. We have got a great cross functional group of technical and commercial people, that are constantly scouring the markets, and have strong relationships that can identify underserved sub segments and underserved customers, and can also pick up the pieces when some of the larger assets may be rationalized. Yes, it is hard work. It is pick and shovel work, but it is something that is part of, a way of life for Glatfelter, and we have a demonstrated track record of doing it, so we have every reason to believe that 2017 will be our thirteenth consecutive year of outperforming the broader uncoated free sheet market.

It sounds like a way of life for all of us, working a little bit harder. And also on the energy costs, up $4 million in Q1, as you swap from coal to natural gas, but is there an element of start up expense in that? I would have thought that natural gas was cheaper. If that was the case, what was the financial outlay for the project, and how long is the pay back?

We did have some start up costs, but we have excluded those from the adjusted earnings. You can see that in the reconciliation in the earnings release and on our slides. The natural gas is on an MMB2 basis is a much more expensive fuel than the price we are paying for coal. There is a cost penalty in the fuel shift. And obviously the first quarter is the coldest quarter of the year. There is some seasonal demand that increases. We expect that for the full year, that there will be a slight benefit to our EBITDA. We will have some lower maintenance costs because we will have new assets, we will not be using coal, so there are some fewer positions that we will have, so we expect to overall have it slightly positive to EBITDA. But when you factor in the depreciation expense that comes from this $100 million investment, it will be negative to our operating profit overall by about $2 million.

Okay. But in the long run the switch to map gas should yield benefits, despite the fact that it is a bit higher cost fuel?

Slightly, yes. Remember the reason for the investment was to comply with new boiler emissions regulations. This wasn't an investment done to create a return. There is a small benefit to EBITDA, but that's not the purpose. It was to be able to meet the new emissions regulations.

Understood. Well, maybe without touching the third rail, but are there any early indications that some environmental regulations are going to become less onerous for you?

That is a question that we have been asked on more than one occasion with the change of administration. And so I think it is too early to tell like some of the rhetoric and the positioning you are hearing, may suggest more business friendly environment, in terms of regulations and taxes and other things. I think it is a wait and see, but encouraging narrative and dialogue coming from Washington DC, but we'll see.

Thank you both.

There are currently no more questions. And at this time, I would like to hand the call back over to Dante for any closing remarks.

Okay, well thank you for joining us on our call today. We look forward to speaking with you next quarter. Have a great day.

This is the end of today's call. You may now disconnect. Presenters, please hold.