Mativ Holdings Inc (MATV) 2014 Q3 法說會逐字稿

Welcome to SWM Third Quarter 2014 Earnings Conference Call. Hosting the call today from SWM is Frederic Villoutreix, Chairman and Chief Executive Officer. He is joined by Jeff Cook, Executive Vice President and Chief Financial Officer; Steve Dunmead, Chief Operating Officer; and Mark Chekanow, Director of Investor Relations.

Today's call is being recorded and will be available for replay later this afternoon. The dial in number is 855-859-2056 and the PIN number 24850534.

At this time, all participants have been placed in a listen-only mode and the floor will be opened for your questions following the presentation. (Operator Instructions).

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

Thank you, Kate. Good morning. I am Mark Chekanow, Director of Investor Relations at SWM. Thank you for joining us to discuss SWM's third quarter 2014 earnings results.

On today's call, Frederic will share some high level comments about our third quarter performance and strategic priorities. Steve will provide details on our operations and Jeff will take you through a review of our financial results and we'll then take your questions.

Before we begin, I would like to remind you that the comments included in today's conference call include forward-looking statements. Actual results may differ materially from the results suggested by these comments for a number of reasons, which are detailed in -- in more detail in our Securities and Exchange Commission filings, including our quarterly report on Form 10-Q and our annual report on Form 10-K.

Certain financial measures discussed during this call exclude restructuring and impairment expenses, results of discontinued operations, non cash amortization expenses, startup costs of a new mill, and purchase accounting adjustments and are, therefore, non-GAAP financial measures. Reconciliations of these measures to the closest GAAP measures are included in the appendix of this presentation.

I'll now turn the call over to Frederic.

Thank you, Mark and good morning, everyone. Late yesterday, we released our third quarter 2014 earnings and this morning we are pleased to present our financial results and business updates.

Our third quarter results demonstrated sound earnings performance in the face of continued challenges within the tobacco industry and specific challenges SWM has been facing throughout 2014.

Third quarter revenues were up more than 10%, driven by the addition of DelStar. Adjusted diluted EPS for the third quarter of $0.94 was essentially flat with the year ago period and year to date was $2.69, down 8% versus a year ago period. While continued tobacco-driven volume declines and LIP pricing concessions are pressuring operating profits, they have been partially offset by the additional of our high-growth filtration segments as well as continued operational excellence initiatives and other cost reductions.

As Steve and Jeff will elaborate, we have also taken some right-sizing actions regarding our capacity, with benefits beginning to impact reserves in the third quarter. In addition, we have successfully implemented a global asset realignment program in support of future growth initiatives, which has also resulted in substantial and sustainable tax savings that would support our capital allocation strategy.

Our EPS also benefited from our share buyback earlier this year, as we remained focused on returning cash to shareholders. In this regard, I'm pleased to report that SWM has raised its dividend by 5.6% effective with the fourth quarter of 2014 payment, marking the third straight year of dividend increases and integrated five-fold increase in our dividends per share over that timeframe.

LIP volumes were down 5.7% in line with our expectations given the strength we experienced in the second quarter of this year. The constituted tobacco segment volumes were down approximately 24% in the third quarter, consistent with our expectations in the second half declines would be less pronounced than the first half, albeit still down significantly versus last year.

We continue to generate high levels of free cash flow and have less than one times net debt to adjusted EBITDA. We will aim to further utilize our balance sheet to fund potential M&A activities.

Now, I would like to review the status of several of our strategic priorities. As discussed last quarter, our new RTL mill in China, a JV with China National Tobacco, began production this summer. We often refer to this JV as CTS, China Tobacco Schweitzer. To date, we have added successful operational launch of the state-of-the-art facility and its products are currently being approved by our customers [well] JV partners. This mill has a 30,000 ton capacity compared to the 80,000 ton capacity of our French mill and we expect production to be fully ramped by the end of 2016. As expected, startup losses at CTS are evident in our financials for the third quarter, but we expect to see improved financial performance during the fourth quarter and we project the facility to turn profitable in 2015 as volume builds.

DelStar's international expansion project into an existing SWM facility is nearing completion, with product qualifications underway. This project is the culmination of a collaborative effort that began days after we close on the DelStar transaction and it was a most promising and immediately actionable commercial synergy project [advanced] by doing our diligence process. It is expected to deliver savings on DelStar's existing business and provide a platform for incremental international revenue.

We continue to pursue both on acquisitions to the DelStar platform but leverage is customer base, technologies and presence in attractive filtration, healthcare, and industrial end markets. While we have not yet closed a follow-on DelStar acquisition, we continue to explore several opportunities. However, we are maintaining the same discipline and focus, which led us to DelStar. We have strategy criteria as well as financial targets and are confident in our ability to execute transactions when objectives on both fronts are met.

Let me now turn the call over to Steve to discuss our operations in more detail.

Thank you, Frederic. I'll now walk through our volume trends and operational developments, beginning on slide 6.

Tobacco paper volumes in the third quarter, including CTM, our paper joint venture in China, were down 5.6%. This represents a more moderate rate of decline than we had experienced in the first 2 quarters of 2014, as total first half tobacco paper volumes were down 9.5%. This relative improvement was driven by good execution in capturing new tobacco paper volumes and better share performance.

With our tobacco paper volume, LIP volumes were down 5.7% in the third quarter. During our second quarter call, we noted that certain customers were likely building inventory ahead of plant closings and that the 1.6% LIP volume decline we saw in the second quarter factored in some volumes pulled forward. When combining second and third quarter results, our LIP volumes were down 3.7%, which is more indicative of attrition rates in our key LIP regions.

The third quarter marked another strong period for our non-tobacco paper volume with each quarter in 2014 showing solid double-digit growth. Strides were made in furniture overlay and battery separator paper, both of which delivered good profitability. Printing and writing paper was also strong. While these printing and writing products have lower margins, they still drive asset utilization and absorb fixed cost.

Recon segment volumes were down nearly 24% in the third quarter, marking a slight improvement versus the declines that we saw in the first half of the year. We are nearing the completion of a very challenging year for RTL, driven by lower customer commitments given an industry wide inventory overhang of recon product as well as the impact of some reformulations by certain customers.

We've already begun implementing cost control efforts with the restructuring earlier this year and continue to plan and execute various other initiatives to bring our costs and our capacity in line with customer demand.

Looking forward, we are currently having initial discussions with our customers regarding 2015 volumes and plan to provide further details next quarter. Our early indications are that volume declines in our French mill should be in line with European smoking attrition rates. With those indications coupled with continuing right-sizing activities and cost structure actions in France, we look forward to better segment performance in 2015 relative to the challenges that we've seen in 2014. Overall, SWM RTL volumes are expected to grow meaningfully in 2015 due to the new volumes that we will see in China.

In the third quarter, we incurred a restructuring charge of $2.5 million in our paper segment, which -- a portion of which was related to the restructuring actions taken in our paper mill in Brazil. Again, these actions were intended to align our capacity of our mills with current demand.

Lastly, we want to highlight that third quarter results include the impact of inefficiencies incurred by the rebuild of one of our paper machine lines in France. While we believe this project will enhance the efficiency of the paper machine and deliver long-term savings as expected, the rebuild did cause some disruptions, which hurt paper segment margins during the quarter.

We turn to the next slide, we'll move on to DelStar, which comprises our filtration segment. DelStar continued to perform well during the quarter and it appears to be on track to deliver double-digit sales growth this year. Demand is strong and solid momentum -- and we have solid momentum going into 2015, with particular strength in liquid filtration including water and other liquid and fuel-based applications.

To illustrate an example, a large desalination plant in California is coming online in late 2015, adding to the US install base for reverse osmosis water filtration capacity. One of DelStar's customers is a key supplier, supporting this new facility. We've already seen orders in DelStar's water filtration netting products ramp up due to this demand.

I'll now turn the call over to Jeff to take you through detailed financial review.

Thank you, Steve. Third quarter net sales increased 10.3% versus the prior-year quarter. Currency impact was again positive for the quarter and on a constant-currency basis net sales were up 7.8%. DelStar contributed net sales of $33 million in the third quarter. Third quarter paper segment revenue, which includes non-tobacco paper but excludes sales from our Chinese JV, was down 4.2% with lower tobacco paper volume and lower LIP pricing as the key drivers with high growth in non-tobacco paper volumes only partially offsetting those pressures. Recon segment volumes declined approximately 24% with a net sales decline of 17.6% due to improved price, mix, and a stronger Euro.

The DelStar business was acquired during the fourth quarter of 2013 and while we had no year-over-year revenue comparison to report for this segment, growth has been in line with our expectations. As you can see on slide 11, adjusted operating profit was down $13.1 million versus the year-ago quarter. Consistent with our first half 2014 results, lower volumes and LIP prices combined with the associated impact of reduced fixed cost absorption were large impacts on the profit decline. Also, as mentioned, a key contributor to margin compression was the impact of inefficiencies associated with the paper line rebuild in France. These pressures were partially offset by DelStar's contribution of $4.4 million of adjusted operating profit as well as a continued focus on operational excellence and other cost reductions.

This chart has looked relatively consistent throughout this year, but we believe the 2014 actions to date to right size our operations coupled with those we are currently planning will help alleviate the fixed-cost absorption issues we have seen this year. Of note, given the recent decline in the Euro, we would expect a currency headwind in the fourth quarter whereas year-to-date currency movements have been slightly favorable.

Paper segment adjusted operating profits during the third quarter were down approximately 35% versus the same period in 2013. The paper segment's adjusted operating profit margin in the quarter was 14.2%, 700 basis points lower than the prior-year quarter. The line rebuild in France and the restructuring in Brazil, which resulted in accelerated depreciation, combined for approximately one-third of the decline in paper segment adjusted operating profit. In addition, increased line shutdowns, driven by lower volumes, also negatively impacted our profit margins.

For the reconstituted tobacco segment, adjusted operating profit in the third quarter of 2014 was down 36% with adjusted operating profit margin of 29.5% finishing 870 basis points below last year's third quarter results.

The filtration segment reported adjusted operating profit of $4.4 million and generated a 13.2% operating profit margin. These results exclude the impact of purchase accounting expenses, namely the amortization of acquired and tangible assets such as technology and customer list.

Our consolidated adjusted operating profit margin was 14.3%, down from 22.9% in the third quarter of 2013. Unallocated corporate expenses increased by $0.3 million year over year as the increased costs due to our global asset realignment project tapered off during the third quarter.

Our third quarter 2014 adjusted diluted earnings per share from continuing operations was $0.94, $0.01 below our third quarter 2013 results. Key drivers for the flat EPS performance were lower operating profits in our paper and recon segments offset by the addition of DelStar and the benefit of a sharply lower tax rate.

The 8.8% tax rate booked in the third quarter was unusually low, but puts our year-to-date tax rate at about 21%. In addition to generating a large portion of our profits in lower tax jurisdictions, we incurred some discrete tax benefits during the third quarter, a portion of which related to the Brazil restructuring. We believe our tax rate for the full year 2014 should be in the low 20% range.

While our effective tax rate will always moderate quarter to quarter, we do expect future tax levels to remain lower than our traditional low 30 percentage range due to the effects of various business realignment activities we initiated during 2014 in support of future growth initiatives. As a reminder, purchase price accounting adjustments for the DelStar acquisition, startup losses on the CTS joint venture and restructuring costs are excluded from adjusted diluted EPS.

Our annual guidance for adjusted diluted EPS that we issued in early February was $3.40. While there have been many puts and takes this year in our operations as well as our tax rate, we continued to expect to exceed our guidance with a share buyback and the lower-than-expected tax rate as the primary drivers for any upside. Please recall that our guidance, when issued, did not reflect the full share buyback.

SWM net debt at the end of the third quarter of 2014 was $160.8 million, an increase of approximately $47 million since the end of 2013, primarily due to the execution of the company's $50 million share repurchase program in the first quarter of 2014. Net debt to adjusted EBITDA from continuing operations at the end of the third quarter remained relatively low at 0.8 times. Our balance sheet strength and our cash generation remained strong and well capable of funding our strategic plans.

When considering our 2014 cash flow uses, the only change to our expectations at this point is our capital spending estimate. At the time we formulated our 2014 plan, $30 million was our approximate expectation. However, DelStar's international expansion was not fully incorporated into that view. With the progress to date and continued investments in the fourth quarter, we now believe 2014 capital spending will be slightly over $30 million.

We are also pleased to announce that our board has approved a 5.6% dividend increase, which if annualized, results in a per share dividend rate of $1.52, up from $1.44. We have continued to increase our dividend, demonstrating our confidence in the long-term prospects of our business, the sustainability of our cash flow, and the opportunities to grow and diversify our business, both organically and through prudent acquisitions.

I will now turn the call back to Frederic for his closing comments.

Thank you, Jeff. We are now three-quarters through a year that has presented us with several operating hurdles in our paper and recon segments. However, our investments in the DelStar growth platform and the global asset realignments designed to enhance future growth initiatives provided us with several offsets in the face of those challenges. Despite the significant volume and price headwinds in our tobacco operations, year-to-date adjusted EPS is down just 8% versus last year and our balance sheet remains solid.

We continue to lay more foundation blocks for improved financial performance over the long term as we seek to transform SWM from a largely tobacco-focused enterprise to diversified engineered world goods supplier.

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

Thank you. (Operator Instructions) Alex Ovshey, Goldman Sachs.

Thank you very much. Good morning, everyone. Couple of questions for you guys. First on the DelStar, first on DelStar, a couple of interesting developments there, one on a synergy side and two, on the desalination plant in California which potentially could create incremental volume for the business. Would you be able to sort of help us think about the financial impact of those two developments on the DelStar business?

Sure, Alex, this is Frederic. I think the -- to remember we characterized you know the DelStar business as a 8% to 10% growth rate, steady growth rate long term. And the opportunity in California I think is part of [achieving] that 8% to 10% growth rate. The investments in international production center outside of the US is clearly both a cost saving opportunity as we do some freight cost duties but more importantly long term it's a way to boost our presence in those regions. So therefore, to push that growth rate maybe to the higher end of the scale, at least as we deploy the new capacity being added.

Got it, Frederic, very helpful. Just on the margin for DelStar, can you just remind us if there's a medium to longer-term goal that you're trying to get to?

We do see, you know, the margins gradually improving as time goes by. I mean given the fact that we're such a strong top line growth rate leveraging the infrastructure of the business, but also the international expansion. So we haven't provided any guidance in terms of the numbers, but certainly we look to improve that with the actions that Frederic was just talking about.

Especially if I may, Alex, I mean we have a lot to gain through operational excellence, efficiency, growing the size of the business scale, and synergies with existing SWM technologies. But there are also step changes to be expected with future bolt-on acquisitions. If you remember, the DelStar acquisition really didn't have much in terms of cost synergies. There was a first step of building a new platform. But future deals will have a combination of commercial and cost synergies and I think this would be -- you know probably the reasons will be difficult for us to establish a target today because it's partially dependent on the kind of -- part of bolt-on acquisitions we'll execute.

Makes sense, Frederic. Then just on the RTL and LIP business, if you're right that we get back to more normal smoking attrition rates, which I think is in that 3% to 4% range, you know thinking about the operating profit out of those businesses in '15, given the focus on really taking out fixed costs in '14. If we do see normal volume declines for those businesses, I mean how should we be thinking about the operating profit out of those businesses in '15 versus '14?

Well, obviously, one of things, I mean -- one of the things we've talked about before is that as we look to take out a lot of costs through some of the restructuring actions that we've talked about today and the continuing operational excellence, it helps to really support those margins. But as we've also mentioned, there is some pricing pressure in the LIP area that will impact us going forward. So that needs to be factored into the outlook as well. Then in the RTL area, one thing that we want to point out is that the new joint venture in China is now open, you know the CTS venture. That is going to help actually increase our volume starting next year on an overall basis when you add that to our existing RTL segment volume. So, we look for improved profitability coming out of that.

Got it, Jeff. Then one last one for me, is there an update on some of the new LIP markets that you're looking at, hoping to be able to get into and you know where we stand there?

Well, there's been no new announcements for new markets. The only one that is coming in the midterm, mid of next year is South Korea.

Okay, got it. Thank you, Frederic. Thanks, everyone.

Jan Shicom with Sidoti & Company.

I guess just staying on the South Korea topic, the guidance hasn't changed yet for the incremental $0.20 right? We're still expecting that?

Yes, I think right now we are still in discussions with customers and so we really have no, nothing more to report.

Okay and then just looking at the paper segment margins, obviously a lot of pressure. You had mentioned and maybe I missed it, but what -- the line shutdowns, what percent of the, I guess, degradation in the margins did that account -- how much was the shutdowns?

Yes, I mean we haven't quantified that in terms of breaking it out. I mean obviously we, we mentioned that the, you know, the restructuring actions was probably at least a third or a little more of that. Shutdowns would be another portion of that. We have the normal summer shutdowns that you find, but we also did some additional ones this year given the lower volumes. So that was also an impact on that. Then the remainder would be just under absorption given lower volumes on the machines that are still operating.

Okay, fair enough. Then a couple housekeeping questions. Just on the Euro, I guess, kind of what's your base case assumption. Like what are you -- what's in guidance? Is it like the rate today?

Yes, that's what I was saying. We'll see headwinds in the fourth quarter on that. It'll probably -- it'll impact us by maybe $0.03 or so, depending upon where it says. But if it stays where it's at, we'll probably see about a $0.03 impact. Obviously, with a lot of our earnings coming out of Europe that impacts us there. We do have some natural hedging for offsets of that with some sales out of Europe and the US dollars, but overall probably about $0.03. But we feel that we can, we can pretty much cover that. But it is a headwind.

Okay, $0.03 basically. Got it. Then inventory, you guys have obviously done a very good job there historically. It looks like you're back to now where the, before the DelStar acquisition. So just any grain -- any color there or just kind of what's happening on the inventory line?

No, it's just a -- I'll let Steve talk. Just a very concerted effort to control inventory levels, be smarter in terms of our planning and scheduling and the plants in the different lines.

And I think that as normal during the fourth quarter when we'll see more holiday shutdowns and the like, we should see significant cash generation in the fourth quarter.

Yes.

So you're not expecting like a re-step up in inventory, right?

No.

No, in fact, we still, you know we still have, for reasons that Steve just mentioned, and over here the focus on reducing our inventory, generating cash but also we have that machine that is in the restart process, we have built significant amount of inventory ahead of the upgrade and we are still going to work that inventory down to normal levels. And if I may, I think you know we update then too many days of downtime over the summer due to the volume decline but also our focus being on cash management, cash generation. It has been painful when you look at the profit margins of especially the paper segments. But I think are adding to the fourth quarter in a good position that relates to inventory on hand.

Okay, good. Yes, I've seen that. That's a positive. Great. Then lastly, you said CapEx going up this year. Just thinking about the out years, is there any color there? Are we still thinking $30 million as a normalized number?

Yes, I mean we have nothing unusual that we've announced or anything like that. I mean our normal maintenance levels are probably around 25 to 30. So yeah that would be still a good number in terms of going forward. I also wanted to add too in your last question there, we do see Q4 as being a good cash generation quarter for us, you know several things going in our favor and inventory is just one but we also see some good collections already coming in. So, we do expect to see good cash flow in the quarter.

Okay, great. Looking forward to it. Good luck with the rest of the quarter and we'll talk to you in February, I guess.

(Operator Instructions) Ann Gurkin with Davenport.

I wanted to start with the earnings guidance. Now that you should have a pretty good view into the fourth quarter, why aren't you making a more of an adjustment rather than just a commentary?

You know it's -- Well, we're so close now in terms of getting close to Q4 results in just a few months. I mean it's just not -- we're not in the mode of every quarter trying to up -- you know adjust our EPS targets back and forth. So, it's just not a practice of ours from the past.

Okay. Then in the Q, you talked about concessions for LIP paper pricing. Can you give us any other detail behind that? Is that to keep market share or to keep volumes? Or can you give me other detail?

Well I think this is part of, you know we discussed it at our last quarter, I think this is part of the -- our strategy. You know we are optimizing our share and the pricing and our strategy has been and I think we have good success since 2011 to progressively increase our share while managing pricing responsibly. And I think when I look at reserves here to date, that is still the case. LIP, the LIP franchise is a -- has attractive profit margins, certainly more attractive than some of the other product segments within the paper business reporting segment. So it's a question of managing responsibly the balance. We are looking to maintain our share, be opportunistic if we have, you know if we can -- have you know ways to increase our share but obviously pricing is something we manage carefully.

Okay, can you tell me what your capacity utilization is for the LIP facility is in Poland right now?

Yes, we say that we have in fact flat year capacity available to take on the new markets.

Okay. Then I enjoyed reading about your comments about Korea and the potential market size. Are you willing to comment on your expected share of that market that you should capture for LIP?

No, I think it would be premature as I indicated. We continue to talk with the key players in the region and will provide more detail as when we have.

Okay and is there any update on Russia adopting LIP, Frederic?

No. It's been really silence and really no progress that we have been able to pick up.

Okay and then you had a discussion, a paragraph in the Q about litigation surrounding the European patent, can you comment on what you're including for estimated litigation costs in Q4? Then as we go into 2015, how we should think about those costs?

Yes I think, you know, as you're pointing to patents --

Yes.

Or positions that we have in Europe, which is -- we have (inaudible) for a couple of years now and they're coming through ruling. We were pleased to have a favorable ruling on one of our very key patents last month. The cost to defend our patents, the European patent office is reasonably small and is built in our guidance and, in fact, in our SG&A for 2014. I think it's important to note that this year, with this patent being reaffirmed, we continue to see our intellectual property as a key asset and something that we continue to leverage as we move forward.

But for '15 should we build in some modest litigation cost?

Yes, I mean I think -- yes, I mean there is nothing, nothing to report for '15. You know obviously this is a normal, you know the normal activity that we have seen in fact over the past two to three years.

Okay, great. Then we have noticed some changes in leaf procurement strategies for some of the multinational cigarette companies. I was curious if there's any read through to their strategy towards other key supplies, like paper supplies, LIP suppliers, RTL supplies? And are they changing strategy and are you having conversations with these multinational customers regarding their supply, procurement strategy or contracts? If you could help me at all with that.

It's hard to read because the announcement is taken out yesterday. But I mean clearly the drive for these internationals is to supply chain efficiency. I think when I look at the -- you know as well as I do that couple of years ago that the same customers wanted the opposite way in terms of vertical integration. I think it's opportunistic, obviously takes into account a new (inaudible) with smoking attrition rates that have [actually date] in the western world. As it relates to our product lines, I think we, the answer to your question would be no. I think we already have been following this intense supply chain efficiency roadmap if you want with our customers for the last several years. So it's the same to be expected in the future.

That's great. Frederic, thank you for your time. I appreciate it.

And we have no further questions at this time. I'd like to turn the call back over to management for closing remarks.

Thank you, Kate, and thank you all for attending the call. We certainly appreciate your interest in SWM. Mark, Jeff and I will be in our offices today. If you have any follow-up questions, please give us a call. Have a nice day.

Ladies and gentlemen, this concludes today's conference. Thank you for participating and you may now disconnect.