Mativ Holdings Inc (MATV) 2010 Q4 法說會逐字稿

Welcome to SWM's [third] quarter earnings conference call. Hosting the call today from SWM is Mr. Frederic Villoutreix, Chief Executive Officer. He is joined by Pete Thompson, EVP, Finance and Strategy, and Scott Humphrey, Corporate Treasury Director.

Today's call is being recorded and will be available for replay beginning at noon Eastern daylight time. The dial-in number is 800-642-1687, and pin number, 17067448. At this time, all participants have been placed in a listen-only mode and the floor will be open for questions following the presentation. (Operator instructions)

It is now my pleasure to turn the floor over to Mr. Humphrey. Sir, you may begin.

Thank you, Wes. Good morning. I am Scott Humphrey, Corporate Treasury Director at SWM. Thank you for joining us to discuss SWM's fourth quarter 2010 earnings results. Frederic will discuss the key factors impacting our business. Pete will then provide additional details related to our fourth quarter results and outlook. We will then take your questions.

Before we begin, I would like to remind you that the comments included in today's conference call constitute forward-looking statements. Actual results may differ materially from the results suggested by these comments for a number of reasons, which are discussed in more detail in the Company's Securities and Exchange Commission filings, including our Annual Report on Form 10-K. Certain financial measures discussed during this call exclude restructuring expenses, and are therefore non-GAAP financial measures. I will turn the floor over to Frederic.

Thank you, Scott, and good morning, everyone. On to this call. I will share some high level comments about our fourth quarter performance, and comment yesterday's announcement regarding changes in our reconstituted tobacco plant in Asia.

I will also cover our working agenda and priorities for 2011, including dates on the progress of our expansion plans for LIP in Europe. Pete will then take you through a more detailed review of our financial results and guidance.

Slide 4 summarizes our financial results for the quarter, and full year 2010. Our fourth quarter results reflect increased earnings versus the fourth quarter 2009, despite lower revenue, primarily due to increased sales volume of high value RTL and LIP products, lower levels of plant equipment downtime at year end, and excellent manufacturing performance. The improvement in fourth quarter results was despite continued higher pulp prices and unfavorable foreign currency translation impacts.

For the full year, SWM achieved a record level of net income and cash generation, due to the benefits of cost reduction actions derived from both our operational excellence initiatives, as well as the benefit of restructuring actions, and the continued growth of high value products. Each of these drivers of SWM's outstanding financial performance during 2010, with return on invested capital reaching 17%, are core elements of the business strategies put into motion over the last two years.

I will next address key operational developments in our business, and Pete will further review the financial results in a moment.

Moving to operational trends on slide 5, our solid fourth quarter results essentially reflects reduced [unit] year-end downtime, which in turn, allowed us to remain operating and generate an increased level of cost savings, both of which, combined, increase operating profit by $13.2 million for the quarter.

Fourth quarter LIP volume increased 33% year-over-year, and we realized RTL unit volume growth as expected, both sequentially and versus the prior year fourth quarter, totaling 15.9% and 14.1% respectively.

Pulp prices declined during the fourth quarter on a sequential basis, with NBSK falling 3%. However, pulp prices were still up 17% over the fourth quarter of 2009. The US dollar strengthened 9% versus the euro relative to the fourth quarter 2009.

From a broader perspective, we continue to actively manage and make progress executing our business strategy, especially concerning the initiatives to grow with our high value LIP cigarette paper and RTL franchises, while increasing our operational excellence.

For the full year, LIP cigarette paper unit volume grew 46%, and RTL volume was essentially flat, at 76,000 metric tons, both compared to 2009. Both LIP and RTL generated all-time high levels of earnings, and our global base paper franchise increased in profitability, despite significant pulp price and foreign currency pressures.

Our Chinese paper joint venture continues to perform well, with positive (inaudible) fourth quarter, and our full year share of net income, totaling $3.2 million, versus $1.2 million in 2009.

We reduced corporate unallocated expenses, despite increased legal fees associated with LIP patent activity. Very importantly, we not only generated more than $20 million in year-over-year cost reductions, we improved in key measures of safety and overall equipment efficiency.

All in all, we are quite pleased with our overall performance for the fourth quarter and for the full year of 2010.

Turning to slide 6, as our recent status report concerning EU LIP customer agreements, and yesterday's announcement about changes in our Asian RTL strategy attest, we continue to [adapt] our strategy to grow high value products, while remaining flexible to market requirements. A few words on both developments.

European LIP activity remains at a high pace, as we work to finalize customer supply agreements, and prepare for the initiation of commercial supply of LIP cigarette paper, likely by mid-2011. (inaudible) agreements with customers, any of which still need to be reduced to [recent] contracts, are definitive enough at this stage for us to firmly plan for volume requirements and pricing. The matters that remain open are the implementation details about product specifications and order timing.

Overall, we are pleased with the approximate 40% share of the EU market secured to date, and we will work to further increase this level. Pete will provide an updated indication of the substantial earnings increase EU LIP is expected to provide SWM.

While great progress has been made on direct EU LIP customer supply agreements, effort continues to secure license agreements for the portion of the EU market not supplied by SWM. As in the US market, where we recently filed an enforcement action with the US International Trade Commission regarding our LIP patents, we will vigorously defend our LIP intellectual property in Europe.

I will next cover the changes announced yesterday, regarding our Asian RTL strategy.

I will now provide comments on slide 7 regarding yesterday's announcement, regarding changes in our Asian RTL strategy. We are seeing increased volatility and a developing oversupply condition within tobacco leaf, impacting demand for RTL products in coming years, with several key industry forces combining to create a turbulent market cycle, starting with weak cigarette sales in western markets during 2009 and 2010, and downtrading away from premium branded cigarettes with highest RTL use rates.

Last year, several cigarette companies increased direct contract growing with tobacco farmers at a time when large, non-contract, high quality tobacco leaf harvests are coming to market. Cigarette companies are also increasing their focus on cost, including inventory reductions, at a time of lower cigarette sales volume growth. As a result of these factors, tobacco prices are expected to drop considerably over the next twelve months. This enables cigarette tobacco plant changes detrimental to RTL usage, given ample availability of good quality tobacco leaf at low prices.

As to the (inaudible) project, its RTL sales growth, excluding the China market, will decline by approximately 10,000 to 15,000 metric tons, or essentially the amount needed to initiate operations of the new Philippine site.

While fundamentals for increased usage of RTL continue to hold solid potential into the mid-term, now is not the time to add capacity in southeast Asia.

The decision to suspend the construction of the (inaudible) facility in the Philippines was made easier by recent progress in obtaining approval of the China RTL joint venture. The final formal approval is now expected in the coming months. Redirecting equipment, which is of the same design as needed for the China market, provides an opportunity for three to six month earlier startup.

Accelerating establishment of domestic production in China is important to SWM, at a time when domestic RTL demand is expected to more than double in the next four to five years, driven by the adoption of tar ceiling regulations. It is an opportunity for SWM to considerably strengthen its business platform in these strategic markets, with a particular focus on the fast-growing premium cigarette segments.

Tobacco supply and price will likely tighten within the next two to three years. We stand ready to reinitiate the Philippine project based on market conditions and customer requirements. In the meantime, we intend to actively manage the capacity utilization in France, which is currently projected to be at levels approximately 10% below 2010, with the remainder of the capacity used to opportunistically develop new growth opportunities for RTL usage in Asia. Pete will cover the financial implications of this decision.

Now, a word on our restructuring program, on slide 8. After four years, we have essentially completed our significant restructuring of SWM's base paper operations. We have final wrap-up activities remaining to dispose of the Malaucene plant site, and fully effect the few remaining staff reductions at the PDM site in France.

Going forward, our global base paper focus will be on further driving cost reduction to remain competitive, and especially for France and Brazil paper operations, serve SWM's important and growing LIP franchise. We will also continue to focus on managing our global capacity to meet market needs, but do not anticipate large scale restructuring events such as undertaken over the last four years.

We will seek opportunities to grow base paper market share and resulting capacity in the growing Asian market, both in and outside of China.

Slide 9 summarizes our key business drivers for 2011. We remain focused on executing against our strategies, and are pleased to have delivered a second consecutive year of record earnings. We look forward to a likely third and fourth year of record earnings in 2011 and 2012 on the strength of EU LIP expansion.

Further growth will likely follow, as we likely see LIP regulation advance worldwide, and [comments] RTL expansion in China. The change in our RTL growth plans for non-China markets is a setback, but RTL will remain a key strategic product for SWM, and a primary contributor to our earnings.

We remain diligent in monitoring and adapting to market forces impacting RTL, and will be opportunistic as time goes by in how to best take advantage of non-China Asian RTL growth.

As SWM has an outstanding group of employees, we'll continue to perform with excellence in carrying out our plans. We remain focused on further improving the quality of our execution as we head into the critical 2011 period.

With that, I would turn the call over to Pete, to cover our financial results and outlook.

Thank you, Frederic. I will now review our results for the quarter, and update our financial guidance.

On slide 11, net sales decreased 2.7% year-over-year for the fourth quarter. Excluding currency impacts in the idle Malaucene, France finished tipping paper facility, net sales increased 1.7% for the quarter. This is largely on the strength of full LIP sales in the North American market, and an increase in RTL shipments both year-over-year and sequentially, partially offset by a decrease in global base paper demand.

For the full year 2010, net sales, holding currency constant and excluding the discontinued Malaucene operation, increased 4.1%.

On slide 12, the picture of our sales volume trend is, again, mixed for the fourth quarter, with a good level of growth in SWM's high value products volume, both RTL and LIP, but a decline in traditional tobacco paper sales volume. RTL sales volume increased 16% sequentially.

All three measures of SWM unit volume increased for the full year at a low single digit rate. Importantly, full year LIP growth totalled 46%, and RTL sales volume was essentially flat, to 2009 levels.

SWM's full year sales volume growth outpaced an estimated increase of 4/10ths of 1% in worldwide cigarette production during 2010, with all markets -- excluding China, which grew an estimated 2.2% -- declining by just under 1%.

On slide 13, SWM generated a $9.9 million, or 9%, increase in adjusted operating profit during 2010, reflecting cost reduction efforts, including the benefit of restructuring actions, and despite inflationary increases, primarily from higher wood pulp prices and unfavorable foreign currency exchange rate impacts.

Year-over-year operating profit increased $5.6 million during the fourth quarter, due to cost improvements, including the benefit of lower year-end production downtime, increased sales volumes, and higher average selling prices, including a favorable product mix. These positive impacts were partially offset by an increase in inflationary costs, primarily from higher wood pulp costs, and from unfavorable foreign currency impacts, largely due to a 9.1% strengthening of the US dollar to the euro.

Of note during the fourth quarter, US segment operating profit was negatively impacted by increased LIP patent litigation expenses, and pre-operating costs for SWM's new facility in Poland. North American NBSK wood pulp prices averaged $960 per metric ton for the fourth quarter, down 3% from the third quarter, and 17% above prior year levels. Pulp prices further declined slightly at the start of 2011, while foreign currency exchange rates, especially between the US dollar and euro, continued to fluctuate.

On slide 14, earnings per share, excluding restructuring and impairment expenses for the fourth quarter totalled $1.06, 10% above the prior year quarter. Full year 2010 earnings per share totalled $4.35, 2% above 2009 levels, despite an unfavorable $1.20 per share impact caused equally by higher pulp prices and share count dilution.

On slide 15, adjusted EBITDA from continuing operations totalled $159.2 million for all of 2010, an increase of 4.8% over 2009.

On slide 16, cash flow from continuing operations was excellent during 2010, totaling approximately $164 million, due to higher levels of net income, and a significant $26.7 million reduction in working capital. Uses of cash during 2010, primarily for strategic capital investments, employee severance payments at the idled Malaucene facility, share repurchases, and dividend payments, totalled approximately $135 million. As a result of generating more cash than used, SWM's net cash at year-end increased to $35.5 million, and total cash remains high at $87.3 million.

Borrowing activity on our credit facilities continues primarily to manage certain foreign currency balance sheet exposures. We expect to reduce cash on hand during the early 2011 period, due to seasonal working capital increases, and for completion of Asian RTL equipment purchases. However, SWM will likely remain in a net cash position, or move to a slight net debt position during 2011.

On slide 17, given yesterday's announcement of changes in SWM's Asian RTL strategy, cash use will be impacted during 2011. A more precise estimate of cash use will be determined upon conclusion of plans for redirecting the RTL equipment from the Philippine project to SWM's expected RTL joint venture in China. SWM cash use will initially continue at roughly the 2010 pace as RTL equipment purchases are completed, and then decline later in 2011, as proceeds from the expected equipment sales are received, before rising again with the China RTL joint venture investments.

All non-RTL cash uses are expected to range between $50 million to $90 million during 2011, including $20 million to $30 million in capital spending, $16 million to $20 million in employee severance payments in France, and other potential cash uses, including pension funding and deferred software spending.

On slide 18, full year 2010 return on invested capital averaged 17.1%, increasing impressively over the last three years, reflecting the beneficial shift in our business to higher value products that leverage returns on our existing asset base, especially the growth of LIP cigarette paper. We expect to further grow return on invested capital during 2011, and will continue to report our progress against this key indicator of SWM's success in driving sustained increases in shareholder value.

On slide 19, SWM expects 2011 earnings per share, excluding restructuring expenses, to be at least $5.00, a 15% increase over comparable 2010 actual results. This level of performance is despite a projected $10 million to $13 million decline in pretax earnings from SWM's RTL business, given reduced volume and selling price expectations. The pace of SWM's earnings is expected to accelerate during the second half of 2011 upon commencement of the EU LIP supply. Given the expected significance of EU LIP sales growth to SWM's overall financial results, any changes in the three key business drivers of market share, pricing, and cost performance will have a material effect on our earnings outlook. We will provide updates to our expectations for these drivers during our normal quarterly earnings communications during the course of 2011.

Pulp prices are expected to decline somewhat from year-end 2010 actual levels before rising again later in 2011. Thus, pulp prices are expected to be relatively stable on average during the course of 2011, compared to current levels, but provide a moderate year-over-year benefit to earnings.

The US dollar to euro exchange is expected to vary around $1.30. SWM does not anticipate any significant changes in corporate unallocated expenses, including legal costs associated with LIP intellectual property litigation. Our 2011 earnings guidance anticipates continued success in achieving cost reductions from our ongoing operational excellence efforts.

That concludes our remarks. Wes, please open the line for questions.

(Operator instructions) And our first question comes from Ian Zaffino of Oppenheimer and Company.

Hi, great, thank you. As far as your ability to supply demand for RTL outside of China, would you be able to do that from that JV, or would you need to revisit that from maybe the Philippines or France again?

Good morning, Ian, this is Frederic. The reconstituted tobacco is a product controlled by the Chinese monopoly in China. So the investment in China is tied to the domestic market. We talked about the size of this market, our expectations see double over the next three to four years, which -- you know, if I qualify that, it's an additional 100,000 plus tonnes of demand to develop over the next few years, and our investment is for 30,000 tonnes, with ample new demand, especially targeting the premium cigarettes to utilize the capacity that we're adding in China.

If [vertically] we were going to look at exporting recon out of China to Asian markets, this will require approval from the partner, from the Chinese monopoly, which we could seek. But this is not our plan. Our plan is clearly to serve the Chinese market out of our Chinese reconstituted tobacco joint venture, to -- for the short term, to sell the non-Chinese market out of France, with the capacity that we have installed there. And then, as I said earlier, when it -- the market conditions and some of our key customers, their volume projections for the following years, and decide when to reinitiate the project in the Philippines.

Okay. And just backing up a little bit, can you explain the difference in the market dynamics in China versus the rest of the world for RTL, and your confidence in the Chinese JV, and your lack of confidence now in the Philippines operations?

So if we look at the drivers for the project demand in China, it's all about meeting new regulations for tar ceilings. As we talked in the previous calls, the Chinese monopoly has adopted the strict tar regimes that are already in place in western Europe, with a goal to have no cigarette sold by 2015 that delivers more than 10 milligrams of tar. And this will require some changes to the cigarette design in China. And the solution that has been used in the western world to bring cigarettes to less than 10 milligrams of tar uses a higher rate of reconstituted tobacco.

And all the discussions that we had with the monopoly, and some of the key cigarette companies in China that are going to be our partners on this joint venture, there is a significant need for premium reconstituted tobacco in order to lower the tar ceiling without affecting the taste of the Chinese style cigarettes.

In the -- outside of China, you know, there is no new market that is moving towards low tar regimes today. There are consumer preferences to go towards lower tar brands of cigarettes, but the underlying force, especially in Asia, where both -- they still go up in total, their consumption, and the western style cigarettes are growing at a faster pace.

What is happening right now is, this situation, I mean, reconstituted tobacco competes against good quality tobacco. The value proposition that we offer to the industry all the time is comparing it, which is what has been the primary driver for our recon sales over the last ten years plus.

However, the net Belgian tobacco market is a cyclical activity, and for some of the reasons I mentioned during the call, there is a combination of a low, lower than planned sales of cigarettes in the western markets, and excess supply of virgin tobacco, which is expected to hit 2011 and probably also 2012, at the time some of the major cigarette companies have integrated vertically their supply of tobacco by contracting directly with farmers.

So the open market for the excess tobacco leaf products, if you want, is shrinking, at a time there is imbalance between demand and supply. And so the market has to address this situation, which has gone through, if you go back in time, every six years, you repeat a full cycle, and it looks like we are entering in 2011 to a very depressed period for our tobacco leaf.

Okay. Thank you very much.

Welcome.

Your next question comes from Rick Skidmore of Goldman Sachs.

Good morning, Frederic and Pete. Can you just maybe talk a little bit about -- more about RTL? Do you have with your customers -- did you have contracts in place for any of that potential business that was going to come up in the Philippines? And if so, do you have any recourse, given that you're suspending the planned project there?

Good morning, Rick. We do have some contracts, in fact. What we communicated over the last 18 months, when we talked about initiating this project in the Philippines, is that we have secured long-term supply agreements with a major cigarette company. And this supply agreement is still in place.

What -- as what we have announced yesterday, is obviously the fact that two of our customers have notified us, very recently, of a drop in demand for 2011 and 2012. And, you know, this has been a sudden change in their strategy, as we were actively working with these same two customers throughout 2010, securing a multi-year supply agreement for their RTL needs at much higher levels than what we are talking about today.

So I think, with the [road] being oversupply condition, is [one], and the pressure also that they have to lower their costs in an environment where volume growth is very difficult, pressure on working capital reduction, the combination of all of that is what is driving the change in demand.

And so, if they -- to go back to your point, there is no contract that has to be undone, if you want. That there were contracts that we were working to finalize in late 2010 but have to be adjusted now for -- with a much lower baseline for demand.

Okay. And then, just -- so maybe just to conclude on that topic, so there's no -- because there's no contract, there's no potential recourse that you have to have them help make you whole, or something like that, on the project?

No, and this would be not be any intent. Clearly, this is an adjustment that we have to make, as our customers have to make. Again, on the discussions we have had with them, I see nothing that really will have -- you know, permanently has to have their views on usage of recon in their cigarette plans. There's a lot of opportunistic reasons for them to take advantage of this ample availability of good tobacco at low prices, plus also, the need to use the tobacco leaf that is currently sitting on their books in a reasonable timeframe.

And Rick, this is Pete. Good morning. To be express about it, there's not take or pay provisions, or specific support for our investment in the Philippines that was underwritten by the customers that somehow results in a financial penalty to our customers.

Okay, got it. And is there any read-across, from what you're seeing with these two customers in the Philippines in RTL, to potentially Europe and European volumes, and how it may or may not impact European LIP, and how it ramps?

Well, I think it's unrelated. I would not connect what we see on recon to paper, because you need paper on every cigarette that is being sold, where you can adjust the rate of introduction of recon in any given cigarette.

However, I think one of the drivers for this imbalance in demand and supply, which is not a decline in cigarette consumption in western markets, and EU is one of them, at a higher pace than historical attrition rates, it's only something that is a concern for us in terms of the full effects of the LIP -- conversion of the EU markets to LIP on our earnings.

And right now, the attrition we have seen in western Europe has been in the 4% plus range, looking at some of the data that's publicly released by our customers for part of 2010. And there is also some downtrading, which is hurting RTL usage more. But that will not be a factor for LIP consumption.

So there is a concern, in terms of a greater than normal declining consumption of cigarettes in the EU market, and we need to monitor it further.

Okay, and then maybe just shifting -- just quickly, to a different topic, on pulp prices. Can you just remind us how your contracts work there? Pulp's been, actually -- didn't decline as much as anticipated. Seems like it may have stabilized here, and actually started to go up in some of the regions like China. Can you just help us -- remind us how your contracts work on pulp?

Yes, there's two perspectives on that. For the purchasing agreements, we essentially pay a discount to list price around the world. So whatever list prices do, then we'll ultimately see our cost structure move in tandem with changes in list prices following the roll-through as we consume inventories of the previously acquired pulp.

Then the other side of it is, our customer agreements for pass-through on pulp prices, January 1 would have been a reset period, so we have been, quote, made whole to what had happened with pulp prices through the course of 2010. So now it starts over again as to what happens with the direction of pulp prices going forward. If they go down, margins slightly expand until we get to the next reset point. If pulp prices go up, margins contract, until we get to the next selling price reset point.

So at this point, given where we are, and that we just passed over year-end and a price correction point, it's really going to be about the direction of pulp prices. Right now, our view is -- as you said, prices are declining in some markets a little bit, but it's very small. It looks fairly stable. We happen to be at about where pulp prices averaged throughout all of 2010, and right now, our view is that pulp prices will stay about at that average through 2011, down, then up.

So we expect that pulp prices, year-over-year, are fairly neutral in our view right now, in our earnings guidance, with a little bit of a benefit. But it's not a lot. Obviously, that's a risk, then -- if pulp prices go back up, it would be a margin contraction.

And is the next reset July 1?

For some of our accounts. Other accounts, it would not be until December 1 of next year -- or, January 1 of next year.

Okay, thank you.

Yes.

Your next question comes from Bill Chappell of SunTrust.

Good morning.

Good morning, Bill.

I guess, first, on European LIP, Frederic, you had said, I think, last quarter, that if you had held your 30%, 33% share in Europe, it would equate to at least $40 million of incremental profit. I mean, can we do the algebra, that you're now at 40%, so that equates to $40 million -- I mean, to closer to $50 million in operating profit? And can you maybe give us some clarity of what progress means, versus commitments, versus signings?

Okay. Well, I think your math, I would agree with the math that you just stated. I think the -- you know, if you look at the guidance, that at least $5.00 per share for 2011, taking into account the contraction in profits from RTL, and our view is that the demand for LIP products will start late second quarter, getting into the third quarter with -- of '11, with a market that will be essentially compliant by late 2011.

This gives you an idea of what the full implementation, the potential for LIP pretax earnings. Maybe to help everyone here, I think if we look at the progression ramp-up curve, which is still a lot of unknowns, to the shape of its curve, but for 2011 earnings guidance, we assume about a 40% implementation level in the earnings guidance that we are providing.

The other point, Bill, on the guidance that we've provided today, previously, when we said more than $40 million, that was really an extrapolation from our North American experience. Now our earnings guidance reflects where we're actually at in terms of customer agreements on volume or market share, pricing, our cost expectations for servicing the European market. So this is a -- our first indication of what we expect profitability to be, based on the specifics for LIP in Europe.

Now, on the specifics about the activity to finalize the contract, and then, this is very typical, whether it's conventional cigarette paper, RTL, LIP products, it takes several -- I would say, a couple of months, for those contracts to be inked. And the activity is ongoing right now.

But clearly, the focus on both sides, our customers and ourselves, are moving to implementation issues, where the qualification of the products in the various plants, and getting -- you know, joint activities between the supply chain teams in order to make sure that we are working on the same agenda in terms of ramp-up.

So I guess, two follow-ups on that. Are you saying that you're expecting 40% of the full potential this year? Or it just will -- you'll be, kind of in the back half of the year, kind of at 40% of capacity? And then also, on the -- of the market that you've locked in, why not go to 50%? Why not go to 60%? If the competitors aren't willing to sign licenses, why not take the whole market?

On your first question, the 40% is what the impact to our earnings for -- what we have built into the guidance for 2011, which will be the -- you have to think that there's a pipeline of products to be built ahead of the full implementation of EEU. So if we -- we will start seeing a demand for LIP products in late second quarter, and progressive ramp-up in the third, to be at near full steady state, when you come sometime during the fourth quarter. And so, the -- with the need to replace inventory of conventional product with LIP-compliant papers, obvious is that we will realize 40% of the full potential, if you want, in 2011, considering the timeline that has been set by the EU and somewhat of a consensus between our customers and ourselves on how this is going to shape up.

And directionally, the way the year will play out, Bill, is -- the best way to think about it is, first and second quarter will be reflective of our current business. Obviously, the RTL change is starting right away here in the front of the year, and then all other changes in the business.

So, first half of the year, the first two quarters will be at one level. The second half of the year will be at a significantly higher level, ramping up to full LIP implementation, which would give an indication of, going forward, earnings levels.

The 40% literally means, if we sell -- once LIP is fully in place in Europe, if we sell 100 units to meet the market requirements for -- that we've secured for LIP, we'll sell 40 of those units in 2011.

And then, in terms of market share, why you can't just continue to -- or, why wouldn't you want to go and take the entire market?

Well, I think we always said and assumed that we will not supply 100% of the market, due to the competitive nature of our industry. We have, as you may remember, we have offered the opportunity to obtain licenses to our competitors and our major customers. As I said in my talking points, effort continues to secure license agreement for at least a portion of the EU market.

However, I think it's fair to say, and looking at what is currently taking place in the US market, I think it's fair to assume that we -- not all of the products that will be sold in the EU market in 2012 will necessarily be covered either directly from SWM, or through license agreements.

We will have to, obviously, evaluate those products, and for that, we need to be able to have access to commercial products, which is not the case yet, and then make sure that if we see issues in terms of infringements of our patents, then we'll likely proceed with the same kind of actions that we are -- that we have implemented and are implementing, are pushing through in the US.

And (inaudible) to ask one last question, but going back, I guess, now, 15 months ago, you did a secondary offering, raised $100 million to pay for this Philippines facility. It was $0.75 dilutive to earnings, but with the -- the payout would have more than offset that.

Now for a variety of good reasons, you're scrapping the project. You've got good cash flow visibility over the next two years, and plenty of cash on the balance sheet. Why not return that, or a fair amount of cash, back to investors today, tomorrow, in terms of dividends, share repurchases, and kind of recoup some of those losses that you won't have -- or, some of the gains you won't get from the Philippines facility?

Yes, and that's an excellent question, and obviously, we will need to address use of cash strategies here as we go forward in 2011, because we have the wonderful position of excellent existing good cash generation. Now we will have a slightly reduced -- but obviously, this is fresh news on the Asian recon strategy shift, so we've got to work through that, and that just happened. So we need time to finish that up, and there will still be spending, as we've said, before we effect the transfer of assets to China. So we've got to get through that.

But the combination of an excellent unleveraged balance sheet, excellent cash generation in the base business, significant growth in high cash generation earnings going forward, and the absence of significant identified investment strategies, obviously requires us to articulate a use of cash strategy, so that's coming. I can't give you a date when we will have that strategy, but we fully recognize the need to articulate what we're going to do with our cash.

Your next question comes from Ann Gurkin of Davenport.

Good morning.

Good morning, Ann.

Good morning, Ann.

Just continuing on with a couple of LIP EU questions. Are you going to issue a release when that contract -- those contracts are inked?

Probably not, no. We've given you the magnitude of the expected financial impact of European LIP, beginning -- the contracts will be simply ordinary course of business agreements with our already existing primary customers for paper that we've supplied them for years, just have a different value level. So probably not.

Okay.

We'll give a status report when we have our earnings calls, obviously, on where we're at with implementation. But no, we don't see another bright line event that we would need to issue an update on.

Okay. It's my understanding that the issues left and the contracts are -- implementation and quality, that kind of stuff, but the pricing and margin is fixed. Is that correct?

Yes. The major elements on share are volume, price, term, they're multi-year agreements -- those are all set. The details that are really being worked out now are timing, specifications, what brands our paper will be on, what factories will supply, when does the pipeline fill begin, what's the order of brand conversions -- all of those detailed implementation steps. And then the key commercial aspect that's still open is, as Frederic mentioned, is discussion regarding potential for licensing.

Okay. And then, the $5.00 -- at least, $5.00 earnings target for this year, we still have a disconnect with our numbers. I understand you were targeting at least a 40% share of the EU, but either that number needs to move up closer to a 50% share, or the margin is coming in much stronger than what we see in the US for LIP. Can you help me reconcile that?

Yes, I think you have to keep in mind in the US, a significant amount of our LIP sales is to Philip Morris USA, with a cost-plus agreement. So this -- as we have said in the past, if you look at -- expect from a -- on profit margins on one side at the lower end, you have conventional cigarette paper. On the high end, you have the sale of our proprietary Alginex product, and then the MOD paper specific to Philip Morris USA would be somewhere in between.

Now, if you look at the mix, the makeup of our LIP activity in Europe, it will be essentially all proprietary SWM product, at much higher margins.

And then, what have you put in your model for 2011 for estimated European cigarette volumes?

The best way to answer that, we have, in our planning, that we would see another low single digit decline in market requirements. The bigger driver, though, is our share increases fairly dramatically. We do not today have an approximate 40% share of the European market. So our unit volume of cigarette paper sales in Europe will go up pretty sharply, because we're growing market share into a declining market. But the primary driver will be higher market share, therefore, higher volume.

Okay. And are there any other countries looking at requiring the use of LIP? I know we've heard comments about eastern Europe, you all talked about South Africa in your progress report.

Yes, I think there are activities in many different countries, but nothing that is really as advanced as South Africa, which, you know, I think we stated in the press release, beginning of the year, that we have -- the timeline was not secure. There was not certainty of the event, sometimes in the future, that some of our customers had wanted to contract and reserve some of the capacity, which we will serve out of Europe, at least, initially.

So South Africa is probably most advanced, but we see activities, as you mentioned, to a few countries in eastern Europe. Thailand was also one where we -- there were some developments, at least some talks were initiated. And always, you know, a positive -- some limited activities in terms of pushing the legislations in -- whether it's Korea or Philippines, Japan, Brazil. So these are some other countries that could go on the map down the road, but nothing definitive at this stage.

All right, and then, can you give us any guidance for capital spending for 2012?

Probably maintenance CapEx, so $20 million to $30 million would be a normalized range.

Okay. That's great. Thank you.

Thank you, Ann.

Your next question comes from Elie Mishaan of Corsair.

Hey, guys.

Hello, Elie.

I actually was going to ask, on eastern Europe, because as Ann mentioned, we've -- I think people have been hearing a little bit there. But I guess Frederic addressed that.

Just -- I'm not sure if I heard -- so I'm sort of changing my question, too. I think I heard Frederic say, when you mentioned PM USA, are you guys supplying them with more of the SWM offline LIP versus the online LIP, or is that agreement staying the same as it always has been? I thought I heard a change there.

No, there has been -- there is no change in the supply of technology, if you want, product and technology to Philip Morris USA, which -- we are their sole source for the online LIP product, and as you can read through the year results, sales and volume-wise, out of our US segment, we continued to be the primary source to Philip Morris USA with their own online technology.

Yes, the point, to be clear, the point that Ann had raised, the relative profitability of LIP in Europe will be higher, because the mix of the product is all our Alginex proprietary product, and not any of the cost-plus product that we supply within the US market to PM USA.

So of the range of profitabilities of our LIP products, we're selling only the highest profit product into the European market, which is why, for a respective market share point, it's a bigger market, we have a higher share than we currently do. Those are both sources of growth and earnings. But very importantly, the per market share profit in Europe is substantially above the per market share profit on average in the US.

Got it. Okay, great. Thanks, guys.

And at this time, I'm showing no further questions. I'll turn the conference back to Mr. Villoutreix for any closing remarks.

Thank you, Wes. Thank you very much for attending the call. We appreciate your interest in the Company. A few final thoughts.

The Company's performance during the past two years reinforces our belief that we have been pursuing the right core strategies. In spite of the strategy realignments of our investment priorities in Asia, we remain on a solid trajectory today to deliver significant earnings growth in the coming two years.

Our ability to anticipate, act quickly, and execute, while always maintaining long-term perspective, is what makes us confident in the long-term potential in investing in this Company.

Thank you, and have a good day.

Ladies and gentlemen, that concludes SWM's [third] quarter earnings conference call. We appreciate your time. You may now disconnect.