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Verso Paper Corp. (NYSE:VRS)

Q3 2012 Earnings Call

November 13, 2012 9:00 am ET

Executives

David Paterson – President, Chief Executive Officer

Robert Mundy – Senior Vice President, Chief Financial Officer

Analysts

Joe Stivaletti – Goldman Sachs

Tarek Hamid – JP Morgan

Bruce Klein – Credit Suisse

Kevin Cohen – Imperial Capital

Richard Kus – Jefferies

David Ross – Citi

Jeff Harlib – Barclays

Joe Von Meister – Bennett

Aaron Rickles (ph) – Millennium Partners

Operator

Good day and welcome to the Verso Paper Corporation Third Quarter 2012 Earnings call. Today’s conference is being recorded. At this time, I would like to turn the conference over to Mr. Robert Mundy, Senior Vice President and Chief Financial Officer. Please go ahead, sir.

Robert Mundy

Thank you. Good morning and thank you for joining Verso Paper’s Third Quarter 2012 Earnings conference call. Representing Verso today on this call is President and Chief Executive Officer, Dave Paterson, and myself, Robert Mundy, Senior Vice President and Chief Financial Officer.

Before turning the call over to Dave, I’d like to remind everyone that in the course of this call, in order to give you a better understanding of our performance we will be making certain forward-looking statements. These forward-looking statements are subject to risks and uncertainties. Should one or more of these risks or uncertainties materialize or should underlying assumptions or estimates prove incorrect, actual results may vary materially from management’s expectations. If you would like further information regarding the various risks and uncertainties associated with our business, please refer to our various SEC filings which are posted on our website, versopaper.com under the Investor Relations tab.

Dave?

David Paterson

Thanks Bob, and thanks to everyone for joining us on the call this morning. Starting on Slide 3, which is looking at third quarter overview, seasonally the third quarter is normally a very strong quarter for us and we saw that this year with volumes both in coated freesheet and coated groundwoods picking up significantly. In terms of pricing, we saw coated groundwood pricing moving up and coated freesheet prices at stable levels. The Verso inventories of finished goods are in very good shape as we enter the fourth quarter. We had a very good cost quarter mainly as we saw our major outages for maintenance occurring in the second quarter, and we’d had no significant maintenance outages in the third; and our input prices moderated and showed declines in most areas in the third quarter.

The major event for us in the quarter was the announcement of the permanent closure of the Sartell mill which had a very unfortunate accident involving a fire and explosion at the site and a fatality of an employee. The result of that decision to not restart Sartell obviously had a significant impact on our earnings with a pretax charge of $107 million in total with 97 million recorded in the quarter.

With that, I’ll turn it back over to Bob.

Robert Mundy

Okay. If you’ll turn to Slide 4, our overall volume for the quarter was about 80,000 tons below last year’s levels; however, you’ll have to recall that last year’s volume included about 92,000 tons of coated groundwood and supercalendar products from four paper machines permanently shut prior to this year’s third quarter. Revenues compared to last year’s third quarter were down due to the volume items I just mentioned as well as lower pulp and coated prices; however, revenues moved back up this quarter versus the second quarter on higher volumes and coated prices moving higher as well.

Turning to Slide 5, coated volumes were seasonally higher versus the second quarter but down versus last year’s third quarter, which included about 55,000 tons of coated groundwood from machines that we have since shut down. Average coated prices were up almost $10 per ton from the second quarter as coated groundwood prices rose throughout the quarter while coated freesheet prices were about flat. Good pulp volumes for the quarter, although pulp prices were lower; however, since the end of the third, we’ve announced two pulp prices in the fourth quarter totaling about $45 per ton.

Turning to Slide 6, you can see that key changes between our third quarter 2012 adjusted EBITDA of $50 million versus the 23 million in the second quarter of 2012. As I mentioned, we had seasonally higher volumes and rising prices during the quarter that contributed about $5 million. The lack of scheduled maintenance outages in the third quarter versus the second, along with realization of the benefits from our productivity, direct costs, materials usage, and indirect cost initiatives, as well as some cost eliminations from the Sartell mill resulted in a $15 million improvement. Input prices trended down as we expected, and we were favorable in the corporate overhead area as we continue to closely manage our SG&A expenses.

Slide 7 gives you a view of the adjusted EBITDA changes between the third quarter of 2012 and the third quarter of 2011. The year-over-year change can pretty much be summed up as due to our overall sales prices being about $35 per ton below last year’s levels, with the other bridge components fairly similar to last year with positive items netting out the negative items.

There’s a bit more information related to input prices on Slide 8 where you can see the direction prices have been moving. As you saw in the previous slides, overall there has been a favorable impact from input pricing relative to the previous quarter as well as last year’s third quarter.

Dave?

David Paterson

Thanks, Bob. Looking at Slide 9, we wanted to give you a recap of where we are on the energy initiatives that the company has undertaken. You can see the expenditures and the flows. I guess the net we wanted you to take away from this is that we have completed both of these projects. The Bucksport project is being commissioned as we speak and is going well. We still see these as very high return projects and well worth the investment that we’ve made, and particularly in the case of Quinnesec we’re very pleased with its performance to date and Bucksport is going to be an equally strong project for us going forward.

On Slide 10, let’s look to the fourth quarter. Again, in the fourth quarter seasonally we normally see a slowdown in volumes, particularly at the back half of the quarter, and that’s what we’re seeing as we looked out into the fourth quarter. We have a groundwood price increase in the market and we expect to implement that . Coated freesheet prices remain flat and pulp prices, as Bob just mentioned, are trending back up, which is a good thing. Our operating costs are stable and continuing to look good, and we’ve got a scheduled maintenance outage at Quinnesec in the quarter.

Our inventories continue to move down, particularly in coated groundwood which is extremely tight for us. As I mentioned, the Bucksport project will be completed this month and it looks great, and we continue the decommissioning work and closure work at the Sartell facility through the fourth quarter.

And with that, Operator, we’ll open it up to questions.

Question and Answer Session

Operator

Thank you. [Operator instructions]

And we’ll start with our first question with Joe Stivaletti with Goldman Sachs.

Joe Stivaletti – Goldman Sachs

Good morning. A few things. One was on your guidance on the fourth quarter on operating cost was stable to lower, but then you talked about the Quinnesec outage. Is the Quinnesec outage included in the comment about costs being lower, or would that be—

Robert Mundy

Yes. No, it’s included.

Joe Stivaletti – Goldman Sachs

Okay. And then your slide on the energy initiatives indicated a hope that you’d be up to your full run rate in the fourth quarter. Would it be possible to give us a little bit of a feel for the benefit of that in the fourth quarter versus what you realized in the third quarter, just roughly?

Robert Mundy

Well, there won’t be a lot of additional benefit in the fourth versus the third because really the only project that’s left, as Dave mentioned, is the Bucksport project which will be started up in the fourth quarter. So what we have achieved through the third, you know, pretty much everything else has been in place. There’s still a little bit more from the Quinnesec project. I guess maybe that will materialize in the fourth quarter, but that would be the difference, Joe. Probably on a run rate basis, something certainly I think north of $10 million once Bucksport is fully up and running.

Joe Stivaletti – Goldman Sachs

Okay. Also was just wondering if you could update us on your thoughts on the term loan, the whole coat term loan, what the timing might be on addressing that and what you might be looking at there in terms of refinancing?

Robert Mundy

Yeah, about all we can say there, Joe, is we’re certainly having discussions and taking some action in that area, but it’s just not something that we can talk about on today’s call. Obviously we’ll have it all taken care of. It matures on February of next year, so we’ll certainly have it taken care of prior to then.

Joe Stivaletti – Goldman Sachs

Okay. And the only thing I had was wondering if you could share a—if you had a 2013 CAPEX budget in mind.

Robert Mundy

Yeah, it’ll be something in that 70-ish range, maybe a little less. And I say that—Joe, one thing that we’ve indicated on previous calls is that we thought we would get—you know, be far enough along in the Bucksport project to have filed our application for the REITC grant money. That’s now been pushed into the—it looks like it’s more like a first quarter item of next year, so that’s like 12 or $13 million that we’ll receive if everything goes well in the first quarter of next year as opposed to the fourth quarter of this year. However, having said that, I think our capital for this year is still going to be something in the low 60s even without receiving the grant money in the fourth quarter of this year.

David Paterson

On a net cash basis, right?

Joe Stivaletti – Goldman Sachs

Okay, thank you.

Operator

We’ll take our next question from Tarek Hamid with JP Morgan.

Tarek Hamid – JP Morgan

Good morning. On coated groundwood price increases, as we think about fourth quarter, should we think about some of the July increase being realized as well as what you announced in October? How do we bridge to think about 4Q on the coated groundwood side?

David Paterson

Well, I guess you can debate how it’s flowing through the marketplace, but essentially we didn’t fully implement the earlier increase. We’ve come back with a second increase, and this one seems to be going very well, as I mentioned, really due to the fact that inventories certainly in our system are low, and I believe the industry statistics show that coated groundwood inventories are extremely low, so we’re getting more traction on this one. So net-net, I think the two announcements will result in $60, the second and third and fourth quarter being implemented out of the total announcements.

Tarek Hamid – JP Morgan

Great, that’s very helpful. And then on Sartell, in terms of insurance proceeds, how should we think about the money flowing in from that over the next couple quarters?

David Paterson

Well Bob is going to cover that, but I just want to comment on Sartell that we continue to be involved in the community up there. We continue to stay in touch with the affected families. It’s been a very difficult thing for us, but I want to compliment everyone up there for working through it with us. Bob can talk about the insurance stuff.

Robert Mundy

Yeah, Tarek, prior to the end of the third quarter, we received $40 million in advanced payments or insurance proceeds, whatever you want to call it. Subsequent to the end of the third quarter, we settled with our insurance carrier and we have since received an additional $44 million, so we have concluded the insurance process; and as Dave indicated, we’re now going through the process of the future of the site and so on and so forth.

Tarek Hamid – JP Morgan

Understood. Thanks for that, and sorry again – it’s a horrible situation. Any kind of guidance you can give us on what the expected cash outlays should be going forward on a rough basis for severance and shut-down costs?

Robert Mundy

We’re still going through that, but it will be something, I would think, in the 30 to $40 million range.

Tarek Hamid – JP Morgan

Okay, thank you very much. That’s it for me. Thanks.

Operator

We’ll take our next question from Bruce Klein with Credit Suisse.

Bruce Klein – Credit Suisse

Hi, good morning. The insurance money, remind us – is the 40 million is in the liquidity or cash, or pay down a revolver in the third quarter. Is that right?

Robert Mundy

That’s correct.

Bruce Klein – Credit Suisse

Okay. And then the volume benefit in your EBITDA bridge, I think was a million on Page 6. I guess I would have—maybe I’m misunderstanding. I thought that would have been a bigger number given the seasonal bump in the 20,000 ton volume improvement. Is there maintenance in that? I guess I would have thought the contribution was bigger on a million.

Robert Mundy

No, there’s no maintenance in that.

Bruce Klein – Credit Suisse

Okay, but the volume at 3Q versus 2Q is 20,000 tons of coated, right?

Robert Mundy

Yeah.

Bruce Klein – Credit Suisse

Okay. And then the coated freesheet hike by your competitor, what are your thoughts on that on whether has anyone else joined or whether you think the market is strong enough in your view? You mentioned how tight coated groundwood inventories are. What’s your view of the coated freesheet market and that hike?

David Paterson

Well, I think on the coated freesheet side, the market is stable. We haven’t seen much price movement in any direction on freesheet for quite a while. I think when you look at it, most of the capacity withdrawals this year for various reasons have been in the coated groundwood side, so with the seasonal pickup plus capacity withdrawals, some of them due to market conditions, some of them in the case of Sartell due to a very unfortunate accident, that market tightened up very quickly.

Bruce Klein – Credit Suisse

Okay. And your view of inventory in coated freesheet is--?

David Paterson

From our perspective, fine. I mean, we normally see a seasonal decline in all inventories, including coated freesheet, and we’re seeing that in our system this year. So from a Verso perspective, we’re seeing the normal pull-down of inventories across the board into the fourth quarter, and normally seasonally as you go into the first quarter, that’s the seasonally slow period so you see inventories build. So it’s the normal pattern, I would say.

Bruce Klein – Credit Suisse

Okay. And lastly just again back to the EBITDA bridge versus 2Q, the $10 million operations is a big number. What was the biggest contributor of that?

Robert Mundy

Well, it’s like I said earlier, Bruce – it’s our initiatives around material usage, productivity, indirect cost reductions, a lot of the things that we work on in the R-GAP program you’ve heard us talk a lot about. There are certainly some reductions relative to Sartell, some fixed cost that was there in the second quarter or for the better part of the second quarter that wasn’t there in the third—or at least a month of the second quarter that wasn’t in there in the third, so you had that as well.

Bruce Klein – Credit Suisse

I got you, okay. Thanks a lot, guys. Appreciate it.

Operator

We’ll take our next question from Kevin Cohen with Imperial Capital.

Kevin Cohen – Imperial Capital

Good morning and thanks for taking the questions. I guess in terms of the Quinnesec outage, is there a dollar figure for the outage cost 4Q versus 3Q?

Robert Mundy

Yeah, it’ll be around $3 million, Kevin.

Kevin Cohen – Imperial Capital

Great. And then I guess in terms of the CAPEX for 2013, any color in terms of the spending above and beyond the maintenance of, call it 30 to 40 million? It sounds like the net number is kind of 57 to 58. I’m just kind of wondering what that’s being directed toward.

David Paterson

Well, we don’t have any big energy projects on the scope for 2013, so we’re looking at product improvements, product shifting, grade improvements, cost reduction, all those type of things beyond maintenance. So I would call it no single big project but a number of smaller projects that have significant benefit to the company and to our customers.

Kevin Cohen – Imperial Capital

And then lastly in terms of the secular demand for coated papers, are you guys seeing any changes on that front or does the secular trend still remain relatively stable from your vantage?

David Paterson

Well, if stable means it’s declining, yes. No, I think it’s continuing to decline, consumption overall. I think most of you saw the announcement by Newsweek Magazine that they’re going to cease printing Newsweek, so it’s not a super-big hit to demand but it’s just another indication of the demand hit in the coated sector. So as we look at 2013, we’re anticipating future demand declines and we’re putting our strategies together to deal with that.

Kevin Cohen – Imperial Capital

But the rate of decline, it sounds like, is not accelerating?

David Paterson

We don’t see any sign of accelerating decline, no. That is true. And there are pockets that are showing—I mean, we continue to see pockets of strength in the cataloging sector and a few other sectors, but overall we see continued rate of decline that we’ve seen this year.

Kevin Cohen – Imperial Capital

And then in terms of the CAPEX to shift into certain other grades, any color on what particular niche grades or anything like that the company might be more focused on in 2013?

David Paterson

Well, I think we as a company have been doing some product shifting and going into release liners and papers that are not what you’d call traditional printing and writing that we can make on those machines, and we’ve been doing it without spending a lot of capital because our capital over the last couple of years has been really directed to energy. So now, we’ve got enough traction in some of those markets. We want to invest to make them at scale and in longer runs, and that’s going to require some improvements on our equipment. So it’s really just accelerating or trying to continue to accelerate the growth in non-printing and writing bleached coated products.

Kevin Cohen – Imperial Capital

Great, that’s very helpful. Thanks for your thoughts.

Operator

We’ll take our next question from Richard Kus with Jefferies.

Richard Kus – Jefferies

Hey guys, good morning. Just a little bit of a bigger picture question. With the capacity restart up there at Port Hawkesbury, do you think that has the potential to put any pressure on coated groundwood prices as we move into ’13?

David Paterson

We do. I think we’re not—again, with the closure of Sartell, we’re not really in the SC business any longer, but it is in that general category of coated mechanical papers; and yeah, we do believe it will have an impact and that’s part of the reason that you’ve seen a lot of discussion around what really will be the impact of the restart of Port Hawkesbury. It’s yet to be determined. I think it’s a phenomena for next year in the first half, but right now it’s not much of a factor but it’s certainly out there on the horizon.

Richard Kus – Jefferies

Okay, thank you. My second question is are you guys concerned about the amount of capacity that’s coming online on the pulp side of things?

David Paterson

Well, I guess we don’t really focus on that. We’re aware of it coming. We’re sort of neutral in our pulp position. We consume as well as sell pulp. We’re a hardwood pulp seller focused on the North American marketplace, and we’ve got a very good cost position at Quinnesec. So we like our pulp business. It’s not our biggest business but we enjoy the pulp business. I think typically in periods of large pulp expansions, you will see declines in pulp pricing and that’s just the normal course of things. Again, we like our business but we don’t have a huge exposure either way to the pulp business.

Richard Kus – Jefferies

Okay. Thanks for taking the questions.

Operator

And we’ll take our next question from David Ross with Citi.

David Ross – Citi

Yes, good morning. On the restart in Canada on the SC mill that restarted, it seems like trade representatives from the U.S. and Canada have raised—or from the U.S. and Europe have raised concerns as it relates to subsidies going into that mill. Do you have any idea of the timing of how those officials are going to proceed with that argument against the restart and the subsidies?

David Paterson

Well normally in these type of things, they take an extended period of time. I would say this one has gotten a lot of attention very quickly and sort of the energy around it from the government officials is high, which is a good sign. They’re actively engaged, at least on the U.S. side. I haven’t heard much from the European side, but the U.S. side certainly is engaged and that’s a good sign. But these things, these trade cases typically don’t move particularly fast.

David Ross – Citi

Thanks. All my other questions have been answered.

Operator

If you would like to be placed in the queue, once again that is star, one to be placed into the queue. We’ll take our next question from Jeff Harlib from Barclays.

Jeff Harlib – Barclays

Hi. Just wanted to clarify – you said the Sartell insurance proceeds were 40 million in the quarter. Do you have any severance payments in 3Q? The 30 to 40 million mentioned, I just want to make sure exactly when that is.

Robert Mundy

Yeah, we did have some severance payments in the third quarter, Jeff, something less than 20 or so. We also will have some environmental-type remediation costs and just some other ongoing costs relative to a site that size. Probably the bulk of the severance was in the third quarter. We do still have some in the fourth, though.

Jeff Harlib – Barclays

Okay, so the 30 to 40 is 3Q and 4Q?

Robert Mundy

Yeah, that’s correct.

Jeff Harlib – Barclays

Okay. Okay, good. And can you just provide what your inventory balance was at the end of 3Q?

Robert Mundy

What type of inventory?

Jeff Harlib – Barclays

Total inventories, just—I think it was 170 at the end of 2Q.

Robert Mundy

Our total balance sheet inventory?

Jeff Harlib – Barclays

Yeah.

Robert Mundy

I’ll have to—I’ll find that for you, Jeff.

Jeff Harlib – Barclays

Okay. Okay, thank you.

Operator

We’ll take our next question from Joe Von Meister with Bennett.

Joe Von Meister – Bennett

Hi guys. I didn’t—can you give us Q3 sales for coated hardwood in total, or just the way it breaks down between coated and hardwood, pulp?

David Paterson

We normally haven’t done that. I mean, our volume—I think the way to answer it—

Joe Von Meister – Bennett

I’ve got to wait for the Q to come out to get those numbers?

Robert Mundy

Yeah, you’ll be able to see it. You’ll be able to see it then.

David Paterson

So that should be today.

Joe Von Meister – Bennett

All right, thanks.

Operator

We’ll take our next question from Aaron Rickles from Millennium Partners.

Aaron Rickles – Millennium Partners

My question was answered. Thank you.

David Paterson

All right, thank you.

Operator

And we have no further questions in the queue.

David Paterson

All right, Kyla, that’s great. Thank you. Well, I just want to wrap up and say thanks for participating in the call. If you have follow-up, call Bob or I, and Bob, the Q should be out today.

Robert Mundy

Yeah.

David Paterson

So thank you all for participating. Thank you, Kyla.

Operator

And this does conclude today’s conference call. Thank you all for your participation.

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