Smurfit WestRock PLC (SW) 2014 Q2 法說會逐字稿

Good afternoon, ladies and gentlemen. Welcome to the Smurfit Kappa half-year results conference call. (Operator Instructions). Just to remind you, this conference call is being recorded.

Today I'm very pleased to present Gary McGann. Please begin your meeting, sir.

Thank you, Operator. Good morning, or good afternoon, ladies and gentlemen, and thank you for taking the time to join us on our first-half earnings call.

I'm joined on the call by our President and COO, Tony Smurfit; our CFO, Ian Curley. And before commencing, I just want to refer you to the note on forward-looking statements set out in our press release, which also applies to our discussion here today.

In the first half of 2014, EBITDA increased by 10%, to EUR564m, and the EBITDA margin improved to 14.3%.

This strong earnings performance reflects the strength of the business, supported by our integrated business model, despite short-term volatility in European containerboard prices.

Through the delivery of increasingly innovated packaging solutions to our customers, organic and acquisition-led growth, particularly in the Americas, and consistent sustained cost takeout, we've fundamentally improved our business performance in recent years.

The Group's European operations are continuing to show demand improvement, in both corrugated and containerboard, and our operations in the Americas are performing well with volume growth expected to improve in the second half of the year.

As a result of continued demand growth, a fundamentally stable containerboard supply outlook and consistently high recovered fiber costs, we've announced a price increase of EUR60 a tonne from August 1 in recycled containerboard, and EUR50 a tonne from September 1 in kraftliner.

These initiatives will underpin current-year corrugated prices and, when successfully implemented, will provide scope for further corrugated price recovery in 2015.

We continue to deliver strong free cash flow. In the first six months of the year free cash flow amounted to EUR135m; an increase of 87% year on year. This underpins our ability to drive our medium-term capital allocation initiatives through the cycle.

A sustained strong business performance, robust cash-flow generation capability and continued debt reduction supports our progressive dividend policy. As previously indicated, we are pleased to confirm a 50% increase in the interim dividend, to EUR0.15375 payable on October 31.

Looking at our first-half operating performance in more detail, European revenues in the first six months increased by 3% year on year, to over EUR3b, with an improved underlying performance in both corrugated and containerboard, together with a small contribution from acquisitions.

European EBITDA of EUR421m in the first half was EUR50m or 14% higher than the same period in 2013. This was primarily driven by a combination of higher volumes and higher corrugated pricing.

Growth in European packaging volumes has continued at steady levels, with a 1% growth in box volumes in the year to date, and an improving trend in quarter two.

While volumes shipped in France have decreased year on year, this is more than offset by good performances in countries such as Germany, the UK and Spain. Average corrugated pricing has remained steady over the course of the second quarter, and is 2% higher year on year.

Successful implementation of our recent containerboard price increase announcements will underpin 2014 corrugated prices, and further support price recovery in 2015.

As mentioned, we've announced our intention to increase recycled containerboard prices by EUR60 a tonne from August 1. Demand for containerboard has been strong, with year-on-year growth driven by relatively good market demand.

OCC prices have also remained at a relatively high level, which has acted as an underpin to pricing during the recent period of softness.

Overall OCC demand remains strong, with the underlying trend expected to be upward, as capacity additions are implemented.

In kraftliner, a price increase of EUR50 a tonne has been announced, effective from September 1. This increase reflects the positive developments in the recycled containerboard market, and a tight kraftliner market.

The Group's 1.6m tonne European kraftliner system provides a significant strategic advantage, as recycling rates reach upper thresholds in Europe and adequate availability of recovered fiber continues to be a strategic consideration for industry participants.

Turning to the Americas, our business has performed well in the year to date, with an EBITDA margin of 17.4% in the first six months. The majority of countries delivered strong underlying performances, reporting good volume growth, pricing progression and delivery against cost takeout targets in the majority of countries.

However, the segment reported a 7% and 4% decline in revenue and EBITDA respectively, reflecting the negative effect of adopting the Sicad 1 exchange rate in Venezuela in quarter one.

Against that, however, operations in Colombia and Mexico reported particularly good performances, with underlying volume increases of 6% and 3% respectively.

We expect good growth for the remainder of the year in these markets.

Despite the continued challenging economic environment in both Argentina and Venezuela, the Group is performing well in these markets.

Smurfit Kappa Orange County also continues to perform well, with higher year-on-year EBITDA, with the business -- sorry, with the business clearly benefiting from increased cross-border activity with the US.

Our disciplined focus on pricing at Smurfit Kappa Orange County, at the expense of some lower-margin volume, has resulted in a 2% increase in the EBITDA margin year on year. And we expect a stronger second-half performance as a result of underlying demand growth and improved productivity.

Looking at our first-half financial performance in more detail, revenue for the half year grew by 1%, to approximately EUR4b. Underlying growth in both Europe and the Americas increased revenues by 5%, but was partly offset by negative currency movements.

EBITDA for the first half of 2014 has increased by EUR52m, to EUR564m, with higher comparable earnings in both Europe and the Americas.

Allowing for net negative currency movements of EUR43m and a contribution of EUR2m from net acquisitions, the underlying move was an increase of EUR93m or 18%.

The Group's margins for the six months benefited from the relatively strong growth in EBITDA, and increased to 14.3% from 13.1% last year.

Operating profit before exceptional items for the half year increased by 18%, to EUR363m.

Exceptional items amounted to EUR9m, and related to losses on the translation of non-Bolivar denominated payables in Venezuela in quarter one, following the change to the Sicad 1 rate.

Operating profit after exceptional items for the half year was EUR354m; a 29% year-on-year increase.

Free cash flow of EUR135m in the first half of 2014 compared to EUR72m in 2013. The increase of EUR63m reflects higher EBITDA, lower cash interest and lower exceptional charges, partly offset by higher capital expenditure.

Working capital increased by EUR117m in the first six months, broadly in line with 2013 level. The working capital/sales ratio was 8%, compared to 8.7% in June 2013.

Capital expenditure amounted to EUR152m in the first half of 2014; approximately 78% of depreciation compared to 75% in 2013. There will be higher capital expenditure level in the second half of the year, as projects are progressively implemented.

Looking to our capital structure, as a result of the Group's strong free cash flow generation, our net debt has decreased by EUR141m, to below EUR2.7b at June 2014.

Our net debt/EBITDA has reduced to 2.3 times in June 2014, from 2.7 times last year, and has remained broadly flat since March 2014, despite a EUR71m outflow in May relating to the 2013 final dividend payment.

On July 3, we completed the refinancing of our EUR500m 7.75% senior notes due 2019, with a seven-year bond at a rate of 3.25%; the lowest-ever bond coupon achieved by Smurfit Kappa.

The transaction will save an annualized EUR23m in cash interest, and mark the completion of a two-year program in which over EUR3b of debt has been re-financed. As a result, the Group's balance sheet has been fundamentally re-positioned as an unsecured corporate credit, with diversified funding sources and materially lower interest costs.

Turning to cost takeout, our EBITDA margin of 14.3% in the year to date is underpinned by the achievement of cost takeout initiatives, which primarily offset inflationary pressure.

Almost EUR650m in costs have been taken out of the business since 2008 and the Group is committed to continue its focus on delivering cost efficiencies in future periods.

At June 30, our 2014 cost takeout program has delivered cost savings of EUR50m, predominantly in the areas of raw material usage, with further material savings in the areas of labor and energy. The Group will deliver at least EUR100m in cost takeout for the full-year 2014, as previously guided.

Under the heading of branding, Smurfit Kappa Group has launched a differentiation initiative across its total system, following almost 18 months of empirical research as to how the Company can work with its customers to improve the cost efficiencies, and enhance the value of the offering in their end markets.

This will be done through better insight, increasing innovation initiatives and a strategic value-selling focus. These initiatives will be advanced over the next couple of years under the value proposition, Open the Future. And examples of some such initiatives can be seen on our microsite, at openthefuture.info.

In summary, ladies and gentlemen, we are pleased to report another strong quarter and first half year. These results reflect the resilience of our earnings profile, underpinned by our integrated model, together with the benefit of geographic diversity.

We have a robust capital structure and strong free cash flow, which has supported the delivery of previously-announced capital-allocation decisions. With year-on-year earnings growth expected in 2014 alongside considerable cash interest reductions, the Group is increasingly well-placed to deploy capital to enhance returns for shareholders.

I'd like to thank you for your attendance here today and, Operator, we are now happy to take any questions.

Thank you very much, sir. (Operator Instructions). There will be a brief pause while questions are being registered. (Operator Instructions).

James Armstrong, Vertical Research.

Hi Gary, congrats on a good quarter.

Thank you very much.

My first question is actually on the ability to pass through pricing into the boxes. A large competitor of yours talked about the market in Europe being weak and likely not being able to pass along any paper prices in the boxes, as we go into the back half of this year and into 2015, whereas historically you've been able to do a very good job of that.

Could you just talk to that issue a little bit and tell us your opinion?

Let me get Tony to take that one, James.

Hi, James. Yes, obviously it's never going to be easy to pass price increases through. But you know the reality is we didn't get any increase, or enough of an increase, from the paper increases we had last year and into the early part of this year.

So the necessity for us and the industry will be, if the full 60 goes through, is to get some box price recovery. And obviously, while not easy, it's going to happen; we'll have to make it happen.

And remember, James -- the -- about 42% of our business is indexed or formula driven. The formula-driven business tends to happen in any event and it will be up and down depending on the timing and phasing.

The open-negotiated pricing, I think it's informative to remember that through the decline in paper pricing in quarter two, which was a self-inflicted issue and I think it's important to note we did flag at the end of quarter one on our call that we didn't see any structural problem, and that this was an inventories problem, which the industry could fix in the same way [it was caused].

And the industry seems to have, in its own systems, done something to address it, because inventories are now 506,000 tonnes, which gives pricing power in paper.

But in the negotiated pricing, we held our corrugated price increases, even though paper prices were dropping. It's part of the value of the integrated model, number one. But number two, our business is packaging.

Really -- it -- paper pricing up or down is interesting, but the main issue for us as a business is packaging and packaging pricing, and packaging value-add for the customers. And so, therefore, in a way we have no choice but to find a way to get this down, and certainly the confidence level will be that our guys are able to do that.

Very good. And then addressing that self-inflicted wound, what are you guys doing to keep inventories under control into the back half of the year? And are you willing to let inventories get maybe even a little too tight, going through the Christmas holiday season, just to make sure that what happened in the Christmas and winter season of this year doesn't happen again next year?

Tony, do you want to take that?

I think it's a little bit early to look at it, James. I think what we are doing right now is we are concentrating on the recovery of the price increase that we currently are putting through into August and September.

And then obviously we have, as you know, a rebuilt paper machine starting up in January -- end of January. And that's something we will make sure that we don't lead with our -- do something that's really silly and introduce new tonnage -- effectively new tonnage, even if it is replacing our existing tonnage that we've taken out, with a -- we are not going to do anything silly.

And James, it's worth noting on -- at the end of quarter one, if you remember, Tony indicated that we would -- we were part of the inventory build. And when I say self-inflicted wound, it's worth bearing in mind the backend of 2013 containerboard inventories, recycled containerboard inventories had got tight. And we were going into Christmas expecting 2014 recovery to start earlier.

It has been later. Half year to date our volumes are up 1%; second quarter they're up 2%, so you can see the phasing is more into quarter two and we believe, trend-wise, continuing that way.

But as a result of those two actions, the inventory has built. And we took 18,000 tonnes of downtime in quarter two, to address our inventory levels and, recognizing the consequence of excess inventory, we are not going to let that happen. So we'll take whatever appropriate actions within our system are necessary to keep our systems balanced.

Very good. Thank you very much.

Thanks, James.

Thank you. (Operator Instructions). Gerard Moore, Investec.

Hi, good afternoon gentlemen --

Hi Gerard.

-- and thanks for taking my questions. Again, just two follow-on questions.

One, I was wondering if you could say a word about some of your other products within the Group, such as the Bag-in-Box business and how that performed within the quarter and maybe the year to date. And maybe a word or two about some of the other grades, like sack craft paper, etc.

And then a second question in terms of -- I was wondering if, Ian, perhaps you could give us some guidance on the full-year cash interest charge; what you expect it to be now. Thanks.

Tony, you're good on this subject.

I -- Gerard, thanks for the question. I think that -- so basically our Bag-in-Box business continues to improve and go from strength to strength. We are seeing very strong order books and very strong development in that area. Hence the reason we've just completed the re-building, as Ian would have mentioned earlier, of a new plant down in Spain, where we've spent EUR28m on developing a new facility there. So that business continues to do very well.

The other grades that you are referring to are -- we have a mill -- two mills in Northern Spain; one in MG papers and one in sack kraft, and both of those businesses are exceptionally strong right now.

We have very long order books. Some predicated on European recovery and some predicated on global expansion into -- in our grades and new markets for specifically MG papers, which we are -- we're -- we've announced a development of -- investment of some EUR27m into the MG paper mill, whereby we will remove 60,000 tonnes of containerboard and replace it with some MG papers.

It'll take about 18 months to two years to get that done, but that will happen in early 2016.

And Ian, on the cash interest.

On cash interest -- if you take 2013 as [EUR197m], in 2014 it will be [EUR143m]. And on a like-for-like on a pro-forma basis, it will be [EUR130m] during 2015, Gerard.

That's very clear. Thanks a lot.

Thanks, Gerard.

Thank you. [Patrick Foscht], Schroders.

Hi, good afternoon, gentlemen.

Hi Patrick.

Hello. Just if I could ask you to expand a bit more on the -- on your acquisition strategy. I know it's further down your list of what you're going to do next, but if you can guide us to how you are thinking about accretive acquisitions, how much you would be willing to pay, how would you finance that, etc., that would be great, please.

And if there's any potential target you are looking at in terms of geographies and size that would be great as well.

Sure. Ian?

In relation to the focus of the business, the focus of the business is on acquisitions, so that would be our priority number one. And what we've said is when we look at the cash flow and dividends, there's been a 50% increase. The capital structure, we just alluded to there slightly, and we've a BB plus credit there; capital expenditure 110% of depreciation over the next three years. So our focus is very much on the M&A side.

And within that, countries that we like are those that we are in, where we get synergies, for example in Orange County in Mexico. We employ 3,700; they employ 2,000. We are able to extract a lot of synergies in that country.

So where we've got a presence. Also those adjacent countries, where we would have the ability from an operational point of view, to extract synergies as well.

So they'd be the main areas. Latin America, Eastern Europe and then within the States itself, our focus is on integrating the four new mills. Our focus there would be sort of for the purchase of standalone box plants.

And then with regards to the actual size itself, I suppose the focus really is that -- a number of years ago it was on debt pay down and leverage was an issue.

We've hit our leverage targets. We always said that we wanted to be at BB plus credit and that's our focus and we've achieved that now. So within that, we can do a reasonable sized acquisition, quite frankly. And if you just sort of [solve] for say 2.7 times EBITDA, you can see the size there.

But we've put out there that something in the order of about EUR300m per year is something that we can quite easily do.

With regards to pipeline, yes, we've a reasonable pipeline. We look at acquisitions within those various criteria, as I outlined. But we've nothing that we wouldn't -- until we complete something, that's when we will announce it.

Okay, that was very helpful. If I may just add on to that --

Sure.

-- would you be looking straight -- purely into -- paper packaging that you are doing now or would you be willing to go slightly wider in the packaging space? I'm not talking very off the grid, glass or anything or metal or anything like that, but slightly -- if you know what I mean, paper-based packaging, but maybe some -- not as straight forward as your products at the moment.

Well, we have, Patrick, it's worth bearing in mind we have a small, growing, leading position in the Bag-in-Box business, which includes also basically a pouch business with taps and -- based on the tap technology, as well. And this is an area where we have skills, expertise and a track record, which is clearly an area of interest in terms of A, it's growing as a sector and B, we are an important player in it.

So that clearly will be something that is definitely on our agenda. Wider than that at this point of time I think would be purely speculative.

Thank you very much.

Thanks, Patrick.

Thank you. Cole Hawthorne, Jefferies.

Morning, everyone.

Hi.

Congratulations on the good quarter.

Thank you very much.

Tony, this question is for you. It's just with regards to the operations in Mexico. I know you're working on basically taking an extra mill capacity in Mexico with the machine you brought online. But I just want to know how that project -- how that project's going and what the end result will be.

Will you still be net buying a certain amount of testliner and kraftliner, or how will that play out in Mexico?

And then I also wanted to get the general view of how operations are -- well, the market down in Argentina.

Okay, thanks Cole. We are -- we haven't pushed the button yet on the paper machine in Mexico. We are laying the groundwork for it; we are getting all the permits; we are making sure that we have sufficient electricity, water, etc., etc., within the mill system that we know we will get. But we need to get those permits first.

So we are continuing to look at it and probably will decide fully -- certainly by Q4 as to whether we push the button or not; whether the return is adequate.

If it is adequate and we do decide to fully push the button with the machine, the amount of tonnage will be about 90,000 tonnes, introduced in 2016 -- middle 2016. And by that time -- and even today, we would still be long about 50,000 tonnes without any market growth.

Short.

Short -- sorry, short 50,000 tonnes without any market growth, which we anticipate. We would still be a significant buyer of kraftliner in the market. So Mexico will still be a big buyer of paper for our system.

Okay.

On Argentina, basically the operating conditions there are difficult in volume terms. We have been able to recover pricing, but the -- right now the market is difficult from a volume perspective.

But, as we've said before, Argentina is a relatively small country for us. So, therefore, whilst important, it's not something that overly concerns us in relation to how it affects the Group.

It's a good market -- it's good market position for us. We -- obviously our balance sheet is hedged with local borrowings. And a key part of our customer market are exporters, which obviously are critical to Argentina more than ever, in the context of whatever the outcome is with the bond holders.

So we're set there. We've had experience of these type of challenges over many, many decades or in quite a number of decades and have tended always to come through in good shape. So we wouldn't be dismissive of it, but certainly it's not something that's keeping us too much awake at night.

Sure. And Gary, it's still a little bit -- in your view, is it a little bit too early to say whether there would be a position for further expansion, or do you view it as the country risk is a little bit too much at this stage?

[Aye], I think we always keep it in view. Certainly it -- if the opportunity was tomorrow, we would be certainly stopping and pausing. We have positioned ourselves -- Ian and the team have structured the balance sheet in Argentina in a way that has us hedged against most of the risks. The challenge is to maintain that type of profile. Ian, I don't know whether you want to comment on it.

I suppose from the last banking crisis the bank market doesn't have a huge amount of [depth] to it. And if you were -- and typically our approach always is to go and borrow locally in a country. So that would be an issue for us within that.

So -- but otherwise it's a country -- we've been here. In 2002 we had the convertibility issue. It has issues at the moment, but fundamentally it's a very good country.

And we've a good team, good business there, and certainly we have a long-term view on it, that's for sure.

And including -- it's been potentially and certainly in the future, not right now, a target for further expansion.

Great, thank you very much.

Thanks Cole.

Thank you. (Operator Instructions). There are no questions registered at this time. I'll hand the conference back to you.

Many thanks. Ladies and gentlemen, again thank you for participating in today's call. As I said earlier, we are very pleased to report another strong performance in the second quarter and year to date.

We have a robust capital structure and strong free cash flow that supports the delivery of previously-announced capital allocation decisions. And with the earnings growth expected in 2014, alongside considerable cash interest reductions year on year, the Group is increasingly well-placed to deploy capital to enhance returns for shareholders.

So thank you for your attendance and have a good day.

Ladies and gentlemen, that does conclude our conference for today. Thank you very much for your participation and you may now disconnect your lines.