Smurfit WestRock PLC (SW) 2014 Q1 法說會逐字稿

Good afternoon and welcome to the Smurfit Kappa 2014 first quarter results conference call. (Operator Instructions). Just to remind you the conference call is being recorded.

Today, I am pleased to present Gary McGann, please begin your meeting.

Thank you very much, operator. Good morning or good afternoon and thank you for taking the time to join our 2014 first quarter earnings call. I am joined on the call by our COO Tony Smurfit and our CFO Ian Curley.

Before commencing I would refer you to the note on the forward-looking statements set out in our press release and which also applies for a discussion on this call.

For the first quarter the Group recorded a sharp improved EPS result EUR0.288 and robust EBITDA of EUR269m, a 12% increase year on year. This growth reflects the strong underlying performance in our Americas business, price improvements in our European packaging operations and materially reduced financing costs.

This was offset by a number of factors including downtime in our kraftliner operations at a net cost of approximately EUR8m, and a further EUR18m of adverse impacts mainly from the net negative currency translation adjustment arising as a result of the Group's decision to translate its Venezuelan operations at the Sicad I rate.

Demand for European corrugated packaging remains reasonable with year-on-year growth in Europe. The first quarter was also impacted by weakening recovered paper costs and an inventory buildup of recycled containerboard from the yearend resulting in price decreases which in turn slowed down corrugated price recovery.

Consistent with our track record of delivery superior returns, we are reporting an improved year-on-year EBITDA margin of 13.9% and an increasingly strong return on capital employed of 13.8%. Our ability to drive increasing returns reflects continued operating efficiency and judicious capital investment.

Turning to our financials our sales revenue at EUR1.93b was 2% higher year on year in the first quarter. Underlying sales were EUR139m higher with 2014 revenue including acquisitions of EUR7m offset by net negative currency movements and hyperinflationary adjustments of EUR103m.

Looking at net debt, the Group's first quarter net debt remained largely unchanged compared to the prior period, rising EUR19m to EUR2.64b. This increase is net of the reduction of EUR69m in cash balances as a result of the adoption of the Sicad I exchange rate.

At the end of the quarter, the Group's net debt to EBITDA ratio was 2.3 times, comfortably within our objective of remaining within 2 to 3 times net debt to EBITDA through the cycle.

Turning to Europe, we reported a 12% year-on-year increase in EBITDA to EUR199m in the first quarter reflecting improved pricing across both containerboard and corrugated operations. The improved performance is evident in the segment's EBITDA margin which increased to 13.2% in the first quarter of 2014 from 12.2% in the same period in 2013.

Following a strong pricing environment for recycled containerboard in 2013, the Group has achieved a total price recovery of 2% by the end of the first quarter 2014.

OCC prices have been under downward pressure in recent weeks. However, pricing of OCC is expected to increase in the medium-term as slowly recovery global economies and announced recycled containerboard capacity additions in the US and China bolster demand.

Recycled containerboard pricing will benefit from this upward cost pressure while inventory levels will reduce as a result of improving demand. In the year to date, recycled containerboard prices have decreased by approximately EUR25 a tonne.

Following some substitution into high quality recycled in 2013, the European kraftliner market has become more stable. However, at this time conditions are not strong enough to justify the price increase that was sought in April. Demand is currently reasonable, supported by the regulatory requirement for virgin fiber packaging in the food and agricultural sectors, and the inability of recycled grades to fully match kraftliner in terms of strength and print quality.

Kraftliner remains a fundamental component of the sustainable fiber system. SKG's strong position as the European market leader, with approximately 1.6m tonnes of production, provides Smurfit Kappa Group with a strategic advantage and offers diversification, security of supply, and potential for higher returns through the cycle.

Looking at the Americas, the overall segment continues to perform strongly with average volume growth of 3% year on year, which will further strengthen as the year progresses. The segment reported EBITDA of EUR75m during the period, a 13% increase year on year. And macro environments are improving in the Group's main markets of Colombia, Mexico and the US.

The Group's Colombian business had a strong quarter with a 10% increase in corrugated volumes year on year, and solid price recovery as the local economy returned to growth. The Group will complete the acquisition of a local corrugated packaging business, Corrumed, in the second quarter.

Similarly, Mexico's improving economy drove a 3% increase in SKGs underlying volumes in the country.

In Argentina, despite a 23% devaluation of the peso, the Group's operations performed better year on year with improved costs and price efficiencies.

In Venezuela, our business is performing well in spite of a continuing difficult operating environment. Relations with the government authorities are making some positive progress. Corrugated volumes have increased year on year and cost reduction actions are supporting earnings performance.

Smurfit Kappa Orange County reported a 22% increase in EBITDA year on year due to strong volume growth of 7% at improved price levels, and the further flow of integrating benefits to the business.

Consistent with our continuing focus on operating efficiency, the Group announced the initiation of a further EUR100m cost take-out program as in February. This program, as in prior years, is aimed at tackling inflationary pressures in the business's core cost areas such as raw material usage, energy efficiency and labor costs. In the first quarter we delivered EUR32m of cost take-out initiatives and are pleased to confirm the expectation of achieving the full year target of EUR100m.

For the full year 2014, we will maintain our underlying capital expenditure at 100% of depreciation with additional expenditure of approximately EUR50m per annum for three years 2014 to 2016. As previously announced, this additional expenditure will provide incremental EBITDA of in excess of EUR70m per annum exiting 2016.

The Group's average debt maturity profile at the end of March 2014 was 4.9 years. In spite of the redemption of the 2017 EUR500m bond in November 2013, the Group's cash balances remain strong with undrawn credit facilities of approximately EUR482m and approximately EUR440m cash on its balance sheet at the end of the first quarter.

As our recent S&P credit rating upgrade to BB+ demonstrates, we continue to maintain a strong balance sheet at materially lower average interest rates year on year.

In terms of cash flow, the Group reported a free cash inflow of EUR59m in the first quarter of 2014 compared to an outflow of EUR23m in the first quarter of 2013. This material improvement of EUR82m was primarily driven by higher EBITDA, lower cash interest and a lower working capital outflow in the quarter.

Our drive to delivering increasing returns for all our stakeholders is underpinned by a clear commitment to using our free cash flow to pay a progressive dividend in 2014, as we continue to pursue our objective of accretive acquisitions in our chosen markets.

As a Group, our focus remains on sustaining superior performance and returns. We have the capacity to drive strong free cash flow through our integrated model, and we have an efficient capital structure due to our fundamental repositioning over the past two years.

In addition to a strong operating model and a robust capital structure, innovation and customer focus is central to our ability to drive superior returns. We continually drive innovation in our vast product range across our 350 operations, based on our understanding of customer and consumer needs.

We also have a strong commitment to sustainability and corporate responsibility which is a key element of our offering to many of our customers today. Our ability to drive innovation and establish ourselves as the supplier of choice across Europe and in each of our countries of operation in the Americas is also a reflection of our ability to meet and exceed customer needs through our extensive geographic footprint in each of the markets we operate.

In terms of outlook, we are confident in both the Group's performance and its prospects. We are committed to driving superior returns for shareholders and have outlined a range of initiatives to achieve this including maintaining balance sheet efficiency, delivering a progressive dividend, increasing internal investment for a three-year period to increase efficiency and enhance asset quality, and finally, driving additional earnings growth through value accretive acquisitions.

These value drivers are key components of our investment case. These drivers, together with our integrated business model, one of a customer-focused innovative packaging company backward integrated into a highly efficient paper and board system will enhance returns.

Our increased dividend reflects our confidence in both the Group's performance and prospects, and will be increased in line with the expected earnings and EPS growth.

Thank you for your attention. And, operator, we are now happy to take questions.

Barry Dixon, Davy Research.

Good afternoon, gentlemen.

Afternoon, Barry.

A couple of questions from me if you don't mind. Just in terms of the recent weakness you've experienced in containerboard, recycled containerboard and then in OCC, can you just give me some sense Gary as to how confident you are of being able to hold the 2% increase that you've achieved in corrugated prices to date, and what you might do to achieve that. And maybe as part of that you might just talk about the overall demand environment in both Western Europe in terms of what volumes you are experiencing and how you expect those to pan out over the year.

A second question is really just in terms of the cash generation which is clearly very impressive. And you have a line in the statement about being more active now and having more resources to try to find acquisitions. Can you talk a little bit about that in terms of where you're looking, the types of business that you might consider, the size. And then also how you weight that up against doing a share buyback given the current share price. Thank you.

Let me take the -- I'll take them if I may, Barry, in three pieces. We'll take the weakness in recycled and what the implications are for that. I'll deal with that. I'll get Tony to deal with demand outlook in Western Europe and volumes and expectations. And I'll get Ian to deal with the areas we are looking in terms of acquisitions and trade-off with the share buybacks as you describe it.

I think in terms of the current weakness in pricing it's important to bear two things in mind. One is that the demand situation is relatively good considering the circumstances we've come from where we had recession and now we are back in positive growth mode. And the supply side is not structurally damaged in the sense of a dramatic change in this outlook as a result of something that was unexpected.

What has happened is that mills rang strong over the Christmas period, built inventories that weren't depleted for a variety of reasons including weather but not just weather in January and February. And basically contemporaneous with that the availability of commercial tonnes from the new blue paper machine impacted the market and as a consequence inventories were and remained high. And availability of tonnes were excess to the market needs and discounting took place to impact that and that was somewhat further underpinned by some weakening in OCC which is relatively small but in the scheme of things.

In terms of what are the implications for that, I think the implications are that obviously corrugated pricing is stalled at this point in time. But the issue or the challenge or the factor that has caused the problem is manageable in the context of the scale of the market and the size of the problem.

And Smurfit Kappa all it can do is manage its own system. And we have indicated that we are in the process of taking 25,000 tonnes of downtime on a recycled board system, which follows on from 40,000 tonnes of maintenance downtime effectively that we took in quarter one in terms of our kraftliner system.

So that's the situation and that's the circumstance in which progress will be made. Maybe if I ask Tony to talk about the demand situation in Europe in general.

Yes, I think, Barry, I think across Europe I'd say that demand is steady. I think that we -- it's wrong to pick out any individual markets but we are seeing slightly faster growth in the German market and even in markets like Spain and our Scandinavian markets versus some of the others who are a little bit slower. But I think in a general sense looking across Europe we have steady markets and reasonable demand as we've indicated.

I think in Latin America and the Americas we are seeing very strong demand across most of the regions. And I think that, that looks fairly good for the rest of the year to continue.

And, Ian, in terms of focus on acquisitions.

So focus on acquisition, Barry, (technical difficulty) last time we spoke, we were (inaudible) and one of our four targets was when you look at the cash flows we hit BB+ was a major milestone for us. So when you look at the use of the cash flows we've got the debt into a level where we are happy and we are happy to operate in the range of 2 to 3 times level.

Dividends you've seen and the significant increase. The last time Gary mentioned the CapEx. So our focus as we've said before is on the acquisition side of things. And our focus again is really on the current core grades of the business.

In the current market that we are in or the adjacent market we like obviously the Americas, we like the Latin Americas where we've been in for many years, we'd like further integration into the 40 mill as its more on the Eastern European side of things and also more bolt-ons within Europe.

With regards to size of the acquisitions that we can do given the extent of the balance sheet and the deleveraging that we have undertaken, we can actually do quite significant acquisitions. But I suppose our focus is to keep within that range of 2 to 3 times and keep that BB+, but we have significant firepower.

And in terms of the comment that we had put extra resources in behind it, at the yearend we guided that, as Ian said, we have the financial firepower, we have the intent to focus on the uses of cash as outlined including accretive acquisitions.

And what we are signaling clearly here is we have now put activity levels in behind that in terms of the human capital, feet on the street, in terms of focusing on this as a core activity for the business going forward where previously we would have been in debt-pay-down mode and wouldn't have resources accordingly.

In terms of acquisitions relative to share buybacks, we've been very clear I think and hopefully consistent and clear on our guidance on that, which is that in time we have said we want to remain at between 2 times and 3 times net debt to EBITDA through the cycle which keeps us at a strong sub-investment grade rating.

And in the event that our activities in the various uses of cash cause us to be getting beyond those types of metrics, it would cause us to obviously look at the alternative option of use of funds in the interest of shareholders. But we are not at that point and that's not something that's near term.

And does the relative discount of your own valuation relative to something you might be acquiring does that come under consideration as well or is that part of the consideration?

Well, obviously, the consideration always involves the optimal use of capital, but quite frankly we are in the business of paper making and most importantly in packaging backward integrated into paper. And we are not into tactical activities around opportunistic buybacks of shares at this point in time. We are into expanding the business on a sustainable growth platform. That's absolutely the strategic intent right now.

Okay, thank you very much.

Thanks, Barry.

James Armstrong, Vertical Research Partners.

Good morning and thanks -- or good afternoon and thanks for taking my question.

Hi, James.

My first one -- hi. My first one is on Venezuela. How fast do you believe you can adjust the Venezuelan operations so that they are back on track with their historical performance? And do you see any further currency impact in the second quarter?

And then switching gears for a second question, you're talking about 25,000 tonnes of market-related downtime. Is this all in the European markets on the recycled side? And do you expect it to translate into lower box volumes in that region as well?

Let me take the first one and I'll get Ian maybe to talk about the currency impact going forward. Just from adjusting the operations to its traditional operating performance level, I am presuming by that you mean, James, that it's a high inflation country and we have effectively chosen to translate our earnings at a different exchange rate on the basis that this is a new official exchange rate that is quoted consistently and is more likely to provide the most of the dollars in terms of availability to business in Venezuela.

I should say at this point in time we continue to get dollars -- bolivars at 6.3 to the dollar, dollar I should have said VEF6.3 to the dollar. And this is a translation step we've taken in line with many filers in Venezuela.

In terms of adjusting our operating, we run our operations quite efficiently and as efficiently as possible with capital expenditure as we would in any other country in Venezuela to optimize our operational performance. So the only outstanding point then is, is pricing in the context of an inflationary environment and it is always the objective to reflect appropriate pricing in the context of the high inflation countries.

But in Venezuela we have to remember clearly that there are price controls on the one hand and also upside profit controls. We are in good shape in that regard and have been for some time, and we will continue to be. But as a result of those it's -- there is a quite a cocktail of activity and dynamic within the Venezuelan business. But I think quarter one is not unreflective of the go-forward position with the subject -- subject to obviously some pricing to recover inflation in the context of the market as you would in any other country.

In terms of currencies, Ian?

James, Ian here so when Sicad I was introduced the opening rate off the top of my head was about 11.3 (technical difficulty). And then during the quarter it ended the quarter at about 10.7. So today it is trading in the order of about 10. So it seems to be strengthening obviously over the recent -- since the introduction and over the recent four months. So you can work out your FX effectively from that.

In terms of the downtime, Tony?

Yes, James, hi, we took 25,000 tonnes primarily because we were running extremely well and our demand was in line with expectations. And so as we came up to the Easter period we looked at our own stock levels and we didn't want our stock levels to become too high so we adjusted our level by about 25,000 tonnes.

As I say because box plants don't typically run over Easter and mills do, so we just took advantage of the Easter period to take some downtime and into the May bank holidays as well with a couple of our mills. So it's a perfectly normal thing for us to do. And I would say that obviously we continue to look at our own stocks at all times, and if they do get out of whack we take a mill down here and there to make sure that they don't because I think it's a prudent thing to do from a business perspective.

It's important I think, James, just to note what Tony is saying though that it is -- the mill operation is running very, very well and inventory levels being more than adequate for our purposes is not a reflection of a turndown on the box demand side.

Very good, thank you.

Thanks James.

Gerard Moore, Investec.

Hi, good afternoon, gentlemen.

Hi, Gerard.

A few more questions if I can on pricing conditions across Europe. First of all, could you give us an indication of how do -- what level of European inventories can you see now across the system and maybe what do they look like today compared to what they were at the beginning of the quarter in January?

The second question then is actually going back a little bit to Barry's original question. Obviously this weakness in recycled containerboard prices has stalled the box price recovery. But to what extent are you concerned that it could lead to lower box prices in the second half of the year? Now historically over the recent past it looks like your box prices have proved a little bit more resilient than recycled containerboard prices, but do you think you'll be able to repeat that resilient performance in let's say the second half of this year?

And then the final question just in terms of that downtime is that fairly evenly spread across your system in Europe or are you focusing this on any particular countries? Thanks.

Thanks, Gerard. I'll get Tony to deal with a number of these. Let me just hit the one on corrugated pricing and give you a view, and, Tony, if you want to add to it.

It's important to remember we've guided that we've got a 2% price recovery in corrugated which is well short of where we needed to get to fully recover the type of paper prices increases that we sought and to a certain extent got. Those needs and objectives to get paper price increases to the levels we were seeking hasn't gone away and continues to be our objective.

And by the same token, the fact that we haven't recovered anything like the full amount of it in corrugated pricing of necessity doesn't mean therefore that it should or necessarily will reverse. Obviously a sustained negative progression in terms of paper pricing ultimately ends up with the consequence of some downside on corrugated pricing.

But one of the big, big pluses we have as a company is our integrated model. And over the top of the recessionary period and over long cycles of recessions over the years we can demonstrate, and we've shown you on many occasions in graph terms, how the volatility of our earnings is minimized as a consequence of this integrated model. So I think that should be borne in mind in the context of this near term, for want of a better word, maybe road bump maybe not.

Tony, in terms of the inventories and development of them.

Yes, Gerard, I think first of all on the downtime is that evenly spread it basically is evenly spread. Obviously we take more of our downtime in our German and Dutch system because it is the biggest, but we did take some downtime in our French system and the UK systems but nothing out of whack to where we are making the paper, so basically evenly spread.

On the inventory question if one looks at, as Gary mentioned, the big issue for us has been coming out of Christmas. Inventories prior to Christmas were at historic lows and in fact I've never seen inventories at such a lower level prior to Christmas. So everybody thought that they should run full over Christmas and as a result coming from a low of around 450,000, 460,000 tonnes they've shot up to around now today about 580,000 tonnes which is not that much more than it needs to be to be a tight market.

But still with the around 80,000 tonnes long in inventories is probably where we are at right now and we would obviously see as we move into more busy periods right now May, June, July we would hope --.