Packaging Corp of America (PKG) 2007 Q2 法說會逐字稿

Your host today will be Paul Stecko, Chairman and CEO. Upon conclusion of the narrative, there will be a Q&A session.

Mr. Stecko, you may begin.

Good morning, and welcome to the second quarters earnings release call, with me on call today as usual is is Bill Sweeney, who runs of corrugated products business, Mark Kowlzan, who runs our mill system, and as always Rick West, as most of you know is our CFO. I want to thank you for participating, and after we complete the presentation as always, we will be more than happy to take your questions, so let me get right to it. I'll start with the summary, and I'll get into the details. Yesterday, we reported second quarter earnings of $46 million, or $0.44 a share, compared to second quarter 2006 earnings of $32 million, or $0.31 a share, and compared to the first quarter of $31 million, or $0.30 a share. That's the first quarter of this year. We performed exceptionally well the entire quarter, and exceeded our own earnings expectations by a significant amount.

The $0.13 per share increase in our quarterly earnings compared to last year's second quarter, was the result of better pricing, mix, and volume. And that amounted to about $0.15 a share, and we also have a lower annual (inaudible) cost of about $0.02 a share. These earnings and proven items were partly offset by increased recycle, and labor and recycled fiber and labor and benefit costs, taken together they lowered earnings by about $.05 a share. Compared to the first quarter of this year, our earnings were up $0.14 a share from $0.30 to $0.44, and this improvement was driven primarily by increased price, mix, and volume, of about $.06 a share, and lower mill outage, and other mill manufacturing costs, including wooden energy, a well as the certain timing of benefit costs which taken together, totaled $0.09 a share. These earnings and proven item were partially offset by a higher recycled fiber cost of about a penny a share.

Net sales for the second quarter increased 6.3%, the $586 million, and that was also a second quarter record, compared to $551 million in the second quarter of 2006. Net income for the first six months of 2007, was $77 million, or $0.74 a share, compared to $43 million or $0.41 a share, in 2006. Net sales for the first six months of 2007, were $1.14 billion, compared to $1.06 billion in 2006, and that's up 8.1%.

Let me now turn to some specific details of operations, our mills produced 615,000 tons of containerboard, that's a new record for the second quarter, up 24,000 tons compared to the second quarter of 2006. We completed our annual maintenance outage at our Tomahawk medium mill, which was down for about six days, and that reduced production by about 10,000 tons. The earnings impact from this outage, from lower production and increased operating cost, was about $0.02 a share. Our corrugated product shipments in total, and for workday, essentially equaled last years all time record second quarter shipments, and were up 5.5% per workday, compared to the first quarter of 2007. Our demand was steady, the entire quarter, and it exceeded our original expectations. Both our domestic and export sales of containerboard also remained very strong. With outside domestic shipments up 7,000 tons or 11%, and export shipments up about 15,000 tons or 38% over last year's second quarter.

Even with record second quarter mill production, our containerboard inventories declined significantly. Down 11,000 tons to 3.3 weeks of supply, compared to the end of the first quarter. This is a very low inventory level for us, but fortunately we have no scheduled maintenance outages in the third quarter. For the year, our containerboard inventories are down about 13,000 tons. The FBA reported Tuesday, that industry containerboard inventories also fell to historically low levels. June inventories for the industry dropped 34,000 tons to 2.368 million tons. Or 3.7 weeks of supply. And on a weeks of supply basis, this is the lowest June ending inventory level, on record. And we think that's significant.

Moving next to mill cost, we continue to benefit from our operational efficiencies and flexibility, including low use of recycled fiber, natural gas and fuel oil, and from our record mill production. Compared to the second quarter of 2006, our mill cash costs per ton were up only about $4 a ton, during the quarter. And were down about $14 a ton, compared to the first quarter of 2007 when we had our accounts in Valdosta mill down for their annual maintenance outage, we achieved these results despite recycled fiber being up -- about $38 a ton, over last year's second quarter. Along with the reduced availability of residual wood chips, from wood product plants. Our ability to produce more-- or make chips in our mills, rather than purchasing higher priced residual chips allowed us to keep our wood fiber costs, slightly below last year's second quarter.

Looking at other costs , higher labor costs, reduced second quarter earnings by about $0.03 a share, compared to last year's second quarter, with annual wage and benefit increases of about $0.02 per share, and higher accruals for 2007 incentive compensation, of about a penny a share. Which we prorate each quarter based on our earnings. Higher outbound transportation costs from both our mills and box plants, lowered earnings by about $0.01 a share, compared to last year's second quarter, but our interest expense was about a penny lower, and offset that.

Looking at pricing, our corrugated products and containerboard sales prices, were higher in the second quarter, were higher, excuse me, were higher than the second quarter of 2006, as would be expected with the full realization of the 2006 price increases. We also continue to do a very good job in improving both our product and customer mix, and our box plants, which also contributed to improved earnings.

Turning next to cash utilization, our capital expenditures were $21 million for the quarter, and we ended the quarter with $208 million cash on hand, that's up $61 million from the end of the first quarter. Our long-term debt remained at $687 million.

Overall, I'd say we're pleased with our second quarter results, as they once again demonstrated the operating strength that we possess. This is our fourth consecutive quarter with record earnings, excluding special items-- we also have our biggest mill shop balance behind us, and through the fiber and energy flexibility, we continue to minimize the impact of higher fiber and energy costs. Our mills ran extremely well, setting new records for production and efficiency. Our box plant volume was steady during the quarter. Almost matching last year's all-time record shipments, and beating our earlier expectations. Our outside sales of containerboard also remained very strong, both in the domestic and export markets, and our containerboard inventories continued to decline which is significant.

Looking forward to the third quarter, we have no annual maintenance outages planned, which should result in increased mill production, which is needed considering our anticipated demand, and our low containerboard inventory levels. Our transportation, and recycled fiber costs are expected to be up in the third quarter but should be partially offset by some seasonal improvement in energy costs.

In other areas, we expect our operational efficiency to remain at the same high level as we experienced in the second quarter. But this by no means, is a given. But, we have been on a roll, and hopefully we can keep it up. Considering all these items, we can currently expect third quarter earnings to be about $0.45 a share. With that, I would be happy to entertain any questions, but as always, I must remind you, that some of the statements we've made on this call, constitute forward-looking statements, these statements were based on current expectations of the company, and involve inherent risk, and uncertainties, including those identified as risk factors, in our annual report on form 10K on file, with the FCC. Actual results could differ materially from those expressed in these forward-looking statements. So with that, I would ask the operator to please open the lines and we'd be happy to take any of your

(OPERATOR INSTRUCTIONS) Our first question comes from Chip Dillon, from Citigroup.

Good morning, and good quarter. Question I had is-- you know, the revenues were quite good given the mix of business, all the growth was basically in outside board sales, not in boxes, and did you see an increase in your price realizations for board because you are sending-- your growth is so big in the export market? I guess, asked differently, are export realizations on a mill in that basis higher today, than they were a year ago?

Yeah, they are higher than they were a year ago, in a lot of cases they are comparable, and a few cases better than domestic realizations, depending on the freight situation, obviously you have to include freight in the equation, and you know, we've got our Valdosta mill close to several ports, and so, when we're exporting Valdosta ton, that freight advantage, you know, it's a lot less expensive to send paper to the port of Jacksonville, compared to the city of Boston, so that helps.

The other thing that I would point out, and I mentioned this, although our volumes, we came very-- we came within tenth of a percent of equaling our volume last second quarter, which is an all time record volume, way above anything else we had. But what we were able to do, and it got to bottom line of results is in our corrugated products business we continue to improve the mix, both the customer mix, and the product mix. More higher value added products, and business from customers who demand more in terms of service, product attributes, etc, and that translates into higher pricing for those types of products because they provide more value. So, although the volume was equal to last year, our mix was better, and that got to the bottom line.

Okay. And then, secondly, Paul, when you look at the industry data, I guess-- the good news is, is the box is going to keep getting heavier, since the box-- I guess was down 1.8% year to date, and the consumption is only down 0.8%. On the other hand, the consumption and the shipments are down, even though the economy is still growing, and in fact, accelerating in the second quarter. What are you-- do you have any thoughts about that, and could you also let us know how it looks so far in July, based on your early experience in the quarter.

Sure. Well you know, I think what you point out is true, as a matter of fact, I saw the data that you put out that said that basically although the industry was down 1.8%, the basis weights up a percent, so-- when you, if you look at it on a square foot basis you get one thing, but on a tonnage basis, demand is actually not down 1.8%, it's down 0.8% . We looked at our data, and basically, our weight did not change that much. So for us, our weight basically stayed where it was. A little different than the industry, which has gone up in weight, by about a percent-- and then, that does need to be factored in the equation, I think, as you point out, demand was probably understated for the industry a little bit. June is a funny month, I'm going to answer your question, but I have to give a disclaimer on June being a funny month. It's only got 19 shipping days this year, last year had

You're talking about July

I'm sorry, I said June, I meant July. So July is a funny month, through the first nine days of July, on a pro-workday basis, our demand is off about 2% , but, with the two extra days, our total demand, if we continue at this pace would be up 8.5% -- because you got two more days.

And so, when you have an anomaly like this, when you got so few days last year, you got to kind of figure out what does this really mean? And I think what most people say, I subscribe to this theory, when you've got a big difference in days, you kind of average the two, and you average your total volume and the per day, and if we did that, and we continued to pace, you know, our total, our total volume would be up 8.5% for the month, and then you average 8.5 with the pro-workday number, and that would be up roughly 3.5%. And if I got up 3.5%, I would be

Got you. And I guess this year when you say there's two few, or more, shipping days in '07, that in a sense is because we gave two days to fourth of July last year, and this year, because it was a Wednesday, we only give one day, but you know.

And there's a weekend, too. You got, there's one less day on the weekends too--so you gave one to the fourth and there's one on a weekend, you got one less weekend, I forget if it's a Saturday or Sunday

Right, and the weekend day is is legitimate, but my point is, I think you might agree with this, not everybody worked, if you will, balls to the wall on Tuesday and Thursday of the fourth of July week, they are kind of charging you for a day this year, when they weren't really the busiest days, you know, Tuesday and Thursday surrounding fourth of July.

Yeah, I think there's some truth to that.

All right. Thanks.

Thank you, Chip.

Thank you. Our next question comes from Mark Wilde, from Deutsche Bank

Good morning, Paul.

Good morning, Mark.

Can we talk a little bit about that cash position that you are building?

Yes, we can.

You know, just kind of thoughts about, sort of, use of that, it would look like, with no down time, and a healthy market that you are going to continue to build cash in the second half.

That is our expectation, we had very strong cash quarter in June up, I mean in the quarter, we were up $61 million. The third quarter is is not as good because we have to make our semiannual interest payment, and then we have a $10 million debt pay time on our, on one of the loans that's due, so that's going to eat up about $25 million in the quarter, but it's still, it leaves us with a substantial amount of cash, and obviously, we got as a high as $200 million a couple of years ago, and then we spent $100 million of that to buy back shares, and obviously, we have to deal with that same situation.

We can't let the cash keep accumulating to too high a level, and we're thinking about what we want to do. Obviously, one of the things we've always said, the two principal uses of free cash would be increase the dividend level and share buy back, and we haven't changed that philosophy at all, the tougher of the two is to determine what the dividend increase should be, because you want that to be a sustainable number, and whereas share buy back you can turn on, turn off. It's not something if you are not, you are going to buy back X number of shares, once you get done, there's no commitment to do that every year, so the dividend is the one where we are trying to figure out what is the best number to go with, and you know, there's, the one important piece of data, one more I would like to have before I pick that number, and you can probably guess what that is. But it's something that we know we've got to deal with.

Okay. One other question, if we just step back a little bit, if you look over 25 or 30 years, the correlation between the box shipments in the industrial production of non-durable goods has been almost like a perfect fit over time, and I'm just kind of trying to figure out what's going on here the last 6 months, where we've had good industrial production numbers and the box numbers seem to be lagging, and I wonder if you or Bill Sweeney has any thoughts on whether that's just a timing issue, or whether there's something else going on.

You know, when we look at the box shipments, you got to remember that we've got a tough comparable from the previous year when the thing took off, and the second thing you got, is that we see all these industrial production numbers, supposedly they are accurate, but they change the DDP numbers every quarter, too. That's probably a long-winded way to say, we really don't know.

You think, Paul, is is there any impact that you guys can see from this Wal-Mart packaging initiative where they are going to push some people like us to use 5% less packaging, can you see that coming from any of your customers?

This is nothing new. I mean people have tried to manage costs, reduce cost, not only in packaging, but in every area, the companies have come up with, probably the two most popular are six sigma and (inaudible) initiatives where people look at every aspect of their business, including their packaging costs, to reduce costs, and this is just a way of life, but if we've seen something precipitous in the last year that could affect the trend, and the answer is no. This is just something that will always continue, and it's a part of doing business, but nothing that we could highlight to you, Mark, that we know, that could answer your question.

All right, very good. Thanks a lot. Nice quarter.

Thank you.

Thank you, our next question comes from Mark Weintraub, from Buckingham Research.

Thank you. Paul, I wanted to flush out, you made that comment that there's another important piece of data that you would like to understand before acting on the dividend, I guess there are two things that come to my mind, one would be the upcoming price increase, and the second though, potentially might be what develops with the warehouser situation, I wasn't sure which of those two you were referring to, and maybe help us understand how to incorporate those into the thinking.

Well, the way I would answer that is that, when we look at how we run the business, and how we make these decisions about share buy back, dividend, etc., it doesn't include any consideration of any dramatic changes in our strategy. We have to run this business like the business we have now, and if something ever did change, then we would adapt to that at that time, and so of the two items you threw out, you got it right, and it was the first one.

Okay. And so you would act independent on the dividend as to whatever might happen in warehouser so one shouldn't read anything into whatever action you do on the dividend relative to the other profits.

The best way for me to answer that question is is that I said there's one piece of data that I need and you guessed way it was.

Okay, fair enough. And then just lastly, in understanding the beat from the second quarter to the first quarter, you, relative to your expectations, too, you talked about demand exceeding original expectations, what else might have been there? Because I imagine that was $0.08 of beat. So I'm just trying to get my--

There are really three things, Mark, that we didn't get right. The first one is is volume, and again, last year's second quarter, I don't want to say it's an anomaly, because we basically matched it this year, but it was way out there. We did not think at the beginning of the quarter, we could match last year's second quarter. It was an all-time record.

And in order to meet it, we would have to be up about 5.5% from the first quarter, and everything you read, and what the economic forecast were, that would be a stretch, so we are a couple percent below that in our estimation of volume, and lo and behold, we did essentially match it. The second one was in the price area, and again, especially in the box area, Bill has done a very good job continually now for a dozen years or so, continuing to improve our customer and product mix, and we continue to make progress and you know, it's his fault, he did better than he told me he was going to do, so I can't take the blame for that one. And the third area is cost, we performed very, very well cost-wise, particularly in our mills, although we had very good yield in our box plants also, and again, we just, in the mills is--I'm not worried about, but I'm worried about -- We operated incredibly high efficiency level in the quarter, and Mark is is planning on sustaining that in the third quarter, and I'm rooting for him, but, and that was the third aspect. And just to give you some numbers, if you disregard increase in OCC prices, year-over-year, our mill costs actually came down compared to the second quarter of last year, by about $3 to $4 a ton, and that's eating labor increases, and every other bit of inflation you have. And to be down $3 or $4 a ton is an amazing accomplishment, and that was the third item, so it's volume price and cost, and those things added up, get you about $0.08.

I know this is tough, but it sounds like a good portion of that should be sustainable, or how would you think of that?

If we operate very well, it's sustainable. If we don't, it's not. So the bet here is is how can we continue to perform at this level? And we think we can, but we're not always right.

Thanks, Paul.

Thank you. Our next question comes from Mark Connelly, from Credit Suisse.

Hey Paul, just two things. In the past I've asked you whether the restructuring that is going on at other companies might end up hurting you. But I wonder if we could flip that around and ask whether the restructuring that is going on at the other companies might be is part of what is helping you, improve your mix?

Well, I'll tell you what, I'll let Bill answer that. You've heard my answer, so I've told you, I think the answer, try to address this question in the past-- Bill, you want to talk about that for a second?

The answer is absolutely yes. For two reasons, one is a lot of insecurity in our competition, so we have record a number of people trying to come to work for us, we can look at that, that's one side, and the other side is that there are the race to be low cost producers and they are pushing out the hard to do business, which we are picking up.

So do you expect, Bill, your mix probably has some potential to continue to move in the direction you want to move it?

We've been improving our mix on the continuing basis for decades, and we intend to do that every day of the week.

Okay. That's fair, that's very helpful. Thank you. Here is is one more question, Paul, how do you think about export sales in terms of, you know, the choices between selling internally and increasing the amount that you sell externally?

Sure, our number one priority, is in a league by itself is to take care of our box customers, so people that buy box from us know that no matter how tight paper gets, they are who we take care of. And then the long-term customers, and they're primarily domestic, they get taken care of, and then export, and we do swing a little on the export market, but again, we have some people we've been selling in the export for a long time, you know. They are higher in the pecking order than other people. We made a decision last year to basically pull out of China in that export market, because we never had any long-term oil customers there, and so that's where we gave up the tons.

But, you know, and that becomes a relevant question. We're down to PCA, 3.3 weeks of supply, the industry is down to an all-time record of 3.7, and you know, I think the one thing that our box customers understand, we've never let them down, we've always been able to get them paper, and that's a harder proposition today because with the freight situation, there's some darn good export business out there, but when you only got so many tons, you got to choose, and sometimes you have to choose and sometimes we do choose customers over margins, when we have long-term customers we have to take care of, and so that's how we look at it.

Very helpful both of you, thanks.

Thank you, our next question comes from Edings Thibault, from Morgan Stanley.

Thanks very much, and nice quarter, gentlemen. Paul, I was hoping, you could, you sort of talked a little bit about the potential strategic activity in the industry that may or may not occur, clearly the wire Houser assets, they are pretty vocal about their situation, and there may be others, can you talk about just, you know, level of interest at PKG? Not necessarily at specific companies but in further strategic activity. You said in the past that you were looking for sort of bolt on box plan acquisitions, could you update us on where you are thinking right now?

Yeah, I can update you in very, very general terms, and nothing is really changed. We've had a fairly successful record of good bolt-on acquisitions, that both improve our mix and customer base, and we would obviously like to continue that. We have always said, however, if is something developed that we thought would create a lot of shareholder value for us, and it would involve something bigger than just that, we would consider it, but what has not changed at all is is the concept of shareholder value. We don't need a bigger company, we need a company that creates more shareholder value, and that will never change. And so that's how we look at everything, and no, we have no ambition to be bigger, we have ambition to create a larger amount of shareholder value set in other way. Now, if getting bigger will help that, we entertain it, if it won't, then we don't entertain it, and that's really about all I can say.

Got it. And then perhaps to follow on some earlier questions, on mill efficiency, because you know, particularly if you look back over the last couple of years, it truly has been stunning what PKG has been able to do with this alleged 2.4 million tons of capacity, and I'm being a little facetious on that, but you know, as you guys kind of pushed the envelope on really hitting the outer limit of productivity there. Do you start to see some capital creep, to maintain these levels, do you need to take Cap Ex up $10, $15, $20 million or so, in order to keep the machine really running flat out?

The short answer to that is no. We've been spending about $110 million a year, we think that's what it takes to run at this level. But you know, I have to give, I got two guys sitting at this table today, Bill Sweeney, and Mark Kowlzan, who really deserve a lot of accolades for what they was been able to do.

As Bill said, a dozen years now he has been improving the customer and product mix in our box plants, and that continues to pay big dividends, and he has done it with a fair amount of capital, but he hasn't done it simply by the use of capital. It's more on the people side of the equation.

Correspondingly, Mark has done a remarkable job in terms of getting a lot out of our mills with minimum capital, a lot of people can do wonders, but they spend a lot of capital, and Mark has the ability to get what we need to get with minimum capital, and just the verge-- I think it's an interesting point, and the other thing that I've said to people on many occasions, from a personal point of view, one of the best things that's ever happened to me was my association with the people that originally bought us, Madison Deerborn, a leverage buy-out firm, because I learned a little bit, to think like they do, when I ran paper mills, if I got a 20% -- return, I was a happy guy.

Some of these buy-out guys, they think in terms of 100%. So what I learned from that experience, well maybe, I have to start thinking of bigger numbers, and we've done that. I asked Mark, you know, I want to see 40% or 50% projects, and what we found out is that one of the ways you get to 40% or 50% projects with your capital spending, is you don't gold plate it, you may be able to get 85% of what you need for 20% of the money, and that last 15% that you give up, you don't, you save a lot of money. And I think we've developed a core competency in knowing what is the exact amount of money to spend on something until you get into diminishing returns, and our track record there is is pretty good, so that's a long-winded answer, but I think it does demonstrate the competency we have in term of the use of capital, that's why we think we are spending the right amount at about $110 million a year.

Got it. Thanks very much.

Thank you, our next question come from Richard Schneider, from UBS.

Hi. Paul, you mentioned that your box demand was stronger than expected in the quarter. I wonder if you can amplify on that, was that coming from the manufacturing, maybe side of the economy, we're seeing good ISM data numbers, or also reflecting the weak dollar and the ability of US products to be exported?

We have over 8000 customers, about 8500 customers, Rich, so we have a much broader customer base than anybody in the industry, and there are obviously a lot of small customers in that mix, we saw it basically, it's hard to find a trend, I would say the answer is no, it didn't come from any particular area with one exception: our display, point of purchase, point of sale, high end graphics business was a little stronger than we would have expected and what that means to me is that the economy was a little slow in the first quarter, and people decided that, to get the quantity moving, they were going to promote their product, and one of the most powerful vehicles to sell more of your product, is displays in stores, end aisle displays, other displays and packaging is, has become a little sales pitch for the packaging business, the so called silent salesperson, if you got attractive packaging, we think, and I think a lot of people buy the attractive packaging, thinks it helps sell products, so we did see particularly strong advertising, merchandising type products in our display and point of purchase sale business. That would be the only one that I'd say jumped out a little.

Also, I know you commented on the improvement in mix and some detail, but if you look at that, do you also think there may be a trend towards more value-added type boxes, or is that not the case?

I don't think that's the case. I don't think -- We don't see a trend. What we do see is, it's like any other business, its got ups and downs, some people don't advertise enough one year, so they try to make up for it the next year, don't promote enough, it's just the normal ups and downs, and but I don't think there's a trend in that regard.

Okay.

That's noticeable to me. There may be, but we have, I don't know of it.

Just curious, we have a price increase out there for August, and August is usually a seasonally slower period. Are you seeing any signs that we could avoid some of the seasonal slowness in August, and how do you view going out with increase during a, what has been at least the first half of August a seasonally weak period?

I would just say that, I'm going to take exception to what you say about August being seasonally slow. August is is usually better than July, and for us, I wish you could see the chart that I have, but in our business, it used to be pretty seasonal. Kind of like upside down "U" with December, January, February being the worst month, and over the last five years, our demand is fairly constant, year over year. And we really don't have much seasonality to our business. Last year, for example, let's talk this year, for example. We don't think we're going to see much difference in volume between the second and third quarter, so in terms of seasonality, the third quarter we think will be higher volume, in our box business than the second, but not by much. And that was the same way it was last year. They were pretty close.

Last year we shipped 8 billion feet in the second quarter, and we shipped 7.8 billion feet, so pretty darn close in the third quarter and don't forget, last year, the second quarter as I said was an anomaly, it was incredibly high for us last year, so our business is is pretty flat, and as a matter of fact, I've gone back and looked at industry data, it's not as flat as ours, but it has flattened out a lot over the past five years if you go back and take a look at that data, -- So we don't think we're going to see that. The only negative is the third quarter does have one less day than the second quarter, but that's only one day out of sixty three so, not that much.

Isn't September normally and particularly October pretty strong seasonally?

Yeah, they pick up, they are strong seasonally, but the, what pulls the fourth quarter down has historically been December, but the weakest month, and it's not by much, of the third quarter is usually July. I feel pretty good about where we are in July. I obviously can't speak for the rest of the industry, but I feel pretty good about our start in July.

Just the last question, I know you don't buy much OCC, and you are in great shape on that. But you are the first company to report, could you give us some idea of where you see the OCC supply right now? Obviously it has gotten tighter than it was at the end of the second quarter, and do you think this could be a situation that remains that case pretty much through the third quarter?

Yeah, you know, we don't buy a lot, but you don't have to buy a lot before it starts to hurt you. ROCC, we are a net buyer of about 16%, we use about 23%, we generate about 7% of that in our own box plants, so we're only net bias of about 16. But the price jumped up $20 in July, I'm hearing rumblings from my guys in the field that it could go up another $10 in August, if those two things happen, even only buying 16% could cost us $0.02 to $0.03, in third quarter. It even hurts people like us who don't buy a lot. Where that's going, I have been singularly unsuccessful in predicting where OCC prices are going to go. Recognizing my inability to forecast, that's why we built fiber flexibility in our system, if the stuff ever got cheap we could use a lot more, if it doesn't, we continue to look for ways to use less. I do think OCC, based on what we know right now is going to be higher in the third quarter, and it's going to hurt us by at least a couple of cents, and that's what we've got in our forecast.

Terrific, thanks.

Our next question comes from George Staphos, from Banc of America Securities.

Hi everyone, good morning.

Good morning, George.

Most of my questions have already been asked. But, maybe, quickly parts and some of the cost questions. Looking forward, longer term, if you continue to perform on productivity they way you'd expect Paul or Mark, what do you think you can do on controllable costs, obviously you can't really control the price of fiber in the market, but on labor, on other costs, internal, what kind of productivity gain do you think you can get over time, 1%, 2%, 3%?

You are in the range, and the answer, I wish I had a better answer, unfortunately, not much, we are operating at a very high productivity, we ran at 103% of our capacity in June, we can't sustain that. But you know, probably 1% to 2% would be the answer. You know, it was a lot more in the last ten years, but we're getting near diminishing returns. So 1% to 2% would be what we think.

Would that be true, Paul, I know you don't run the box network for cost per say-- would that be also true in terms of the box network or the things you could do maybe there, to on a step function basis improve the margin, if you will, on the cost side.

Again, I'll speak about our box business. We run with a totally different philosophy than our mill business

I understand,

Revenue is is what it's all about, doing hard to do things, is what it's all to do about, and you got to be careful to let cost get in the way, when you want to do something that nobody else can do, as long as you can get paid for that, and so the answer is we can improve the productivity in the box business, we've continually improved the productivity in the box business, that's a much harder number to give you and it would be simply a guess and Bill could also give you a number, his guess would be better than mine, but it would still be a guess, because our mix continues to change, so instead of guessing on something that's not as strategic priority for us, I'm just going to say we don't know.

Fair enough. In terms of the $0.15 that you enumerated before, could you price that, my sense of pricing is probably a little bit more than 50% mix and pricing is over 50% of that $0.15, and what was energy in the quarter for you? I don't know that you mentioned it.

What particular $0.15 are you talking about?

The $0.15 in your bridge analysis, that came from volume mix and pricing. My sense is is pricing and mix were probably more than half of that.

I thought, what we said was, you mean compared to the first quarter?

Yep.

It was $0.14, not $0.15.

I think -- it's the 2Q versus 2Q.

Okay. The 2Q versus 2Q is $0.13.

Okay.

That's why the $0.15 threw me for a loop. You want the 13 or the 14?

Use the 13.

All right. The $0.13, obviously, the biggest item was price and mix, and that was, and volume, they were about $0.15, and then we have had $0.02 in outage cost, recycled fiber hurt us a couple cents, labor and benefits, and incentives cost us about $0.03, freight cost us about a penny, and energy was actually about a penny better.

That's what I thought. And last, Paul, what's the situation on virgin fiber in the quarter? We've heard things have gotten a little bit better here versus 2Q -- could you comment at all on that?

I would say things were about the same as 2Q, although I've heard just recently, heard rumblings about ship shortages in the southeast, and the extent of those shortages, I haven't heard, but I've rumblings of ship shortages. I haven't had a chance to quantify that.

All right. Thanks, good luck in the quarter.

Thank you.

Our next question comes from Richard Skidmore, from Goldman Sachs.

Richard?

Good morning.

Good morning.

This is is Alex [Oshadt] on behalf the Rick Skidmore. I'm looking at the June box shipment numbers and it seems June was really the first month we've seen modest growth on top of what was a pretty tough year, year-over-year comp, can you just comment on some of the factors that perhaps we saw in June that we haven't seen the other months of the year that is is resulting in pretty solid box shipments?

The economy, I really can't come up with anything more profound than that. Just economic activity seems like a few more things going on, people more optimistic, and so that's about all I have to offer in that regard.

Okay. Looking forward as we look towards the, over the next couple of months, potential August price increase, do you see those factors as being sustainable over the next couple of months? Is your sense of box --modest growth and box demand over the next couple of months, can you comment on that?

We don't see anything, in terms of-- we exited June into July, things feel about the same, and as I said to an earlier call, you know, where we are with our box volume in July, I hope we can sustain that rate the entire month and I'd be pretty happy. Based on 9, 10 days into July, feels about the same as June.

Thanks a lot, Paul.

Thank you, our next question comes from Claudia Shank, from JP Morgan.

Hi. Thanks very much, just two quick ones. One, Cap Ex through the first two quarters is about $42 million which is is lower than what I expected. Are you still expecting about $110 to $120 for the year?

Yeah. We are. We have a couple of projects that will accelerate spending on in the second half of the year, and that was planned, but you're right, if it were linear, we are a little behind, but the way we have it loaded this year, we think we're going to come in pretty close to our number.

Okay. And then just on the earnings guidance for the third quarter, just to be clear, that doesn't incorporate any of the price increase that's outstanding for August?

You know, what's advice from counsel, I'm not going to comment-- it adds public information that we have announced the price increase for August 2nd, and we're going to wait and see what happens before we comment further on that, and that's for legal reasons.

Okay. Thanks.

Thank you, our next question comes from Edison Lang, from Trust Company of the West.

Hey guys, just one quick question. Just going over your cash position, I know you guys said you were looking at, you know, increasing the dividend, or share buy back with your increased cash flow. Do you have any sort of plans for the debt, in terms of paying down the debt, is that sort of a distant priority when it come to cash position?

Third or distant priority, you nailed that one.

And basically, again, great quarter, guys, and you guys have a clean, I'm assuming there's no bonds under the current revolver?

No. As a matter of fact, we've never borrowed under any of our revolvers, but you have to have one unfortunately and pay for it, I get on Rick all the time about why we need one, but he insists we do. But we've never drawn on one.

Alright great, alright thanks a lot.

Thanks. Our next question comes from Michael Scott, from Benoir Capital--

Michael? Are you there? Hello? We've lost him.

Okay.

You want to try to re-connect him?

(OPERATOR INSTRUCTIONS) Our next question comes from Arjuan [Vishwana], from Goldman Sachs.

I don't have a question. Sorry.

(OPERATOR INSTRUCTIONS)

That's it.

I'm not showing any further questions.

Okay. We are about out of time anyway. I think it's good timing. I would like to thank everybody for participating and showing such interest in PCA, and hopefully we can continue to perform at the level we need to create the proper amount of shareholder value, so thank you very much.

Thank you.