Clearwater Paper Corp (NYSE:CLW)
Bank of America Merrill Lynch Smid Cap Conference
May 8, 2013 10:15 a.m. ET
Linda Massman - President and CEO
John Hertz – SVP and CFO
Thank you for coming. I am Linda Massman, President and CEO of Clearwater Paper. And with me today is John Hertz, our CFO.
We will start with the forward looking statements. I am sure you’re all familiar with those. So we thought we would start with an overview of Clearwater Paper for those who might not be as familiar with the company. We were a company that was formed in late 2008 as part of the spin-off from Potlatch Corporation. However we have been operating these assets for about 60 years. So we are not a new company, just new the spin-off out from Potlatch.
We operate in two primary segments. One is pulp and paperboard which represents about 39% of our 2012 sales. And if you think about paperboard, think of hot and cold cup, think of holding cartons and liquid packaging. And we produce the large parent rolls, we don’t convert or die cut or print, just produce the large parent rolls.
On the consumer product side which represents about 61% of our 2012 net sales. That is really primarily made up of tissue and the balance of retail tissue which is the larger part of the mix and away-from-home tissue.
And then if you look at our quick financial overview in snapshot, about $1.9 billion in revenue, $221 million in EBITDA and 31% growth rate in EBITDA since 2008, about 3900 employees.
A quick overview of the tissue business, if you look at the upper left hand corner of this slide four, you will see that those are the products that we produce for at home retail. So you see facial tissue, paper towels and napkins. And we produce those out of the facilities you see in the upper right hand corner. Prior to some of the investments we made in 2010 where we began building of our Shelby manufacturing converting facilities down in North Carolina and also acquired Cellu Tissue later that year.
Our manufacturing facilities are predominantly out west in Idaho and Nevada. Since investing in both Shelby and Cellu Tissue you see how we have now a really geographic presence, it covers all of the United States. On the tissue production side, we produce 585,000 tons and convert a little bit less than that. And what we don’t convert will be sold as parent rolls in the away from home market.
If you look at how the US retail environment is currently comprised, you would see that grocery represents about 37% of the retail channel, mass and supercenters about 27% and club at about 21%. So that is where a lot of the retail channel distribution takes place. On the bottom right hand side, you see Clearwater’s mix of retail channels that we are predominantly in grocery retailing with 72% of our sales and mix and then we are growing pretty substantially there in mass and supercenter. So we are really looking at diversifying the channel mix and I think we’ve done a pretty nice job over the last couple of years in that.
If you look at the drivers of tissue demand, it’s a pretty straightforward equation that grows with population. And this is a chart that dates back to 1996 that shows population growth and how that correlates to tissue demand. On average it’s been about 2% annual growth and that’s just one part of the equation.
The other part of the equation is on slide six where you see how retail – how private label tissue in the retail sector and this is grocery represented on the far right hand corner, how the penetration of private label has grown from 2003, you will see a pretty nice healthy growth rate to that combines, add to this, so the growth of the private label tissue. If you look at the mix of how our products make up retail tissue, you will see the bulk of the volume is really in bath tissue and paper towels. Okay, it makes up about 88% of the volume in tissue.
This is really where the opportunity is and why we invest it in both Shelby North California facility and also the Cellu Tissue acquisition. Maybe I will start with the very far right hand upper corner of this chart where you see – and this is by the way the US private label market for tissue. If you look at private label represents on average about 26% of tissue sales and Clearwater Paper represents about 38% of that private label market.
If you go to the left, the first pie chart on the left that is the West Coast where we have predominantly had our operations for the past 60 years in the tissue side part of the acquisition in there and the investment in Shelby, and you see private label is at a higher penetration rate of 33%. And our penetration of that private label market is 81%. So clearly we think there is opportunity in bringing our business model from the west over to the east and trying to penetrate some of the East Coast private label sales in tissue.
There has been a lot of discussion and review of capacity that’s been coming online here in the tissue business, if anybody followed it’s capacity based (ph), been reporting on this now for a couple of years. It’s something that we said we are not concerned about the additional capacity coming online in the sense that population is still growing, and you’re still seeing penetration rates going up in private label. So if you go back to on slide eight where you see the 2012 tissue demand of about 9.3 million tons, that’s short ton, you see also the capacity just slightly higher than that. So we’re running at about 95% rate there.
And then if you look at the projected new capacity and you roll forward to 2014 and you see even with the additional capacity coming online, once you apply the growth rates to the population and the like, you still end up at about that 95% rate. So we feel fairly confident that the paper machines will be well absorbed.
If you look at the pulp and paperboard division, a very quick overview on down the lower right hand corner here on slide nine, you can see that the top five players own roughly 85% of the market share. The largest players are there on the right and then the three are represented in the green and we represent about 12% market share in the paperboard industry, North America, bleached paperboard. We do this from our two facilities: one in Lewiston, Idaho and the other in Cypress Bend, Arkansas. And you will see that we produced about 842,000 tons of pulp and used a little bit less than on the board machines at about 771,000 tons. So we are little bit long haul in that, that additional pulp gets used up in our consumer tissue segment.
And if you look at the product mix on the upper left hand corner, this is the end use of bleached paperboard. If you look at the upper left, it’s the liquid packaging. We ship our liquid packaging offshore primarily with the Asia market and a lot into Asia market into Japan. If you look in the upper right hand corner, those are folding carton boxes. You see represented by the different cosmetic companies and golf club companies and the like. And then if you look at the bottom left, you will see how the product mix – mix is out there for paperboard in North America, you see folding cartons, the largest portion of the paperboard usage, and liquid packaging being about 23% and cup at about 16%. And I would say our mix is pretty close to that representation.
Now paperboard demand is a bit different than tissue. It tends to flow – ebb and flow little bit more with GDP. So if you look at the bar chart here on page 10, you will see that represents the bleached paperboard demand. The blue line represents GDP. So while you don’t see a one to one correlation, there’s definitely a correlation. And then you see with the on par US bleached paperboard pricing, and you’ve seen relatively stable pricing in the marketplace, starting in ’10, ’11 and so forth and predicted into the future. This is really a function of – capacity has definitely been rationalized in this portion of the business and we as operators – as Clearwater Paper we have taken market related downtime when the GDP demand is in bear and then you run to demand basically.
Our strategic plan in a very high level from a macro perspective is to grow our tissue business and to optimize our pulp and paperboard business. So growing tissue is really going to be done through making sure our private label product offering is very high quality and then also through geographic penetration as well as additional retail channel penetration. Optimizing the pulp and paperboard business is really our focus. You will see some incremental improvements in pulp operation and paperboard but for the most part, we run our assets pretty cool and it’s just a matter of optimizing those and trying to maintain obviously a very good quality level for our end markets.
These are some of the previously stated goals that Clearwater Paper had made years back and this represents on page 13, how we are doing against those goals. And we thought we’d give folks a quick checklist here. So if you look at completing the new paperboard machine and the converting lines in Shelby, very successful projects for us with regard to the manufacturing of the facility and getting it up and running. We were on budget, started up Q4 2012, expect to be a full run rate by the end of this year on that facility. And we are operating currently four converting lines. We have a fifth one coming in this year.
If you look at successfully acquiring Cellu Tissue and integrating it, we achieved our $35 million to $40 million run rate at the end of ’12. And so we feel very good about that, expand our geographic reach, and we did that with the Shelby facility and the acquisition of Cellu Tissue. If you look at optimizing the paperboard business, we have numerous examples of how we have done that and there are just a couple listed here on this chart. But we just acquired at the end of last year, $12 million acquiring a small chipping operation in Lewiston, Idaho which really helped us reduce our – we reduced our costs to control our fiber purchasing a little bit more in that basket. And we also sold the Lewiston sawmill a few years back and have installed and used a lot of our capital to really try to improve the optimization of our facilities.
And then maintain a prudent capital structure and this is really about having that target leverage of about 2.5 times debt to EBITDA – net debt to EBITDA. And continue to delever through EBITDA expansion.
And then in 2013 in particular, done a number of things that we are pretty proud of. One of them was refinancing our debt, we got some debt that was at 10 5/8 and put in place a 10-year note that – 10 year bonds that were at 4.5%. So pretty good market outcome from our perspective. And we also initiated a $100 million stock buyback. And John will talk about how that’s being executed. And then we’ve also announced the rationalization of our Thomaston converting facility. While that is obviously a tough decision to make when it comes to the employees involved from a dollar incentive perspective, it made sense in the sense that we had kind of duplicate converting facility relative to Shelby. And so we have made the decision to close that and redeploy those converting lines to other facilities around the US.
And then we launched a new mission, vision and strategy company-wide in Q1 and this will give you a quick overview of that strategy on slide 15. And a lot of it’s really focused on our employees, our customers and how we interact with our communities and of course achieving some pretty good EBITDA growth. So DRIVE is just an acronym for the different words on this chart which is developing, and engaging and protecting our people. We have 3900 employees and a great group of people who work with Clearwater Paper and we just know there is so much more potential with regard to ensuring they are fully engaged in the business and developing innovative ways to do things more efficiency and more productively and taking good care of our customers, realizing the growth in our financial performance John will talk about our objectives there when we get to it and then really improving and promoting process efficiency. We are well on our way to launching formal lean program in our company taking it through some of our PPB operation and really going to leverage that into CPD here in the next few years.
And valuing our relationship with our customers, we’ve had great long term relationship on both the PPB side and the CPD side and we want to make sure that continues. So we are putting lot of effort and focus there to ensure we continue there to meet the need of our customers and then ensuring the sustainability of the company and how we handle our environmental opportunities. And the company has always been very focused on sustainability and I would say this is focused more about communicating all the good works that our organization does around sustainability.
Okay. Thanks Linda. So I will talk about some of the financial aspects and some of our financial objectives. This next slide really illustrates the strategy that we’ve had in place – and the execution through that strategy, what we have been able to deliver from a total shareholder return perspective and that’s Clearwater on the green line with over – about 338% total shareholder returns since we spun in 2008 through the end of April. And when you look at the average of our peers, we are amongst the leaders in our peer group, the paperboard index, basket of paperboard peers in red, small cap tissue in the dark blue and the broader S&P 500 in the light blue.
Just see how it’s played out in the financials from an EBITDA perspective, Linda had talked about the 222 million of EBITDA and that’s on a Q1 last 12 months basis and that’s a 31% CAGR from the 2008 timeframe. You will see from our peak EBITDA in 2012, that’s ticked down a little bit. First quarter of 2013 we saw some kind of one-time cost headwinds associated with the – in part launch of our Shelby facility and the product launch into ultra-premium TAD bathroom tissue and that was then exacerbated by some tight inventories as we left the fourth quarter and continued through the first quarter.
But as we look forward, in September of last year we came out with a public objective of being at $300 million of EBITDA in the 2014 timeframe. And while we did have some headwinds in the first quarter of 2013 we still are very confident in our ability to achieve that. And this is a roadmap that we laid out last year and I will just kind of speak to the specific components and to kind of where we are in the progression on those objectives.
As a reminder, the run rate that we used was 2011 adjusted EBITDA of 196 million. And as we step forward from there, the biggest element to the increase in the EBITDA is the full launch of Shelby and the ramp up of the bathroom tissue product launch. And as we sit here today, from a production standpoint, we are ahead of the curve, and from a shipment and how it plays itself out into EBITDA of the total $50 million run rate in 2014 that’s more back end loaded in the year. So that’s more of a Q3, Q4 benefit that we see but we are ahead of schedule as it relates to production and on track as it relates to the sales plan with the customer base.
The synergies from our Cellu Tissue acquisition, that’s something that actually we fully achieve as we left the fourth quarter of 2012 and so those are all fully baked into, what I would call, our Q1 run rate. And then from a cost saving program perspective, this is a basket of a number of initiatives that we have put in place some of which are already completed, some of which are still become, I would say we probably have executed on about half of that 20 million as we left the fourth quarter. For example, one of the bigger initiatives was in our paperboard business, with the pulp and paperboard, those – the boilers and the machines have to come down periodically for what we call major maintenances. And those obviously have a significant costs both in terms of what we spent on the maintenance as well as the less production.
Our cadence on that had been every 12 months as it related to our Lewiston facility and every 18 months as it related to Arkansas and what we have been able to do with some significant capital expenditures as well as just improvements by our people extend that cadence from 12 months in Lewiston to 18 months and from 18 months in Arkansas to 24 months. And so there are couple things come out of that. One is we’re going to have periodic years where we actually don’t have any major maintenance. For example, 2014 is a year where we will not have any (inaudible) lumpy but if you thought about them kind of a straight line over a three year period, we are taking a kind of a straight line annual cost associated with major maintenance from $18 million to $20 million run rate down to a $10 million to $12 million run rate. And so we will see that benefit especially notable in the years where we don’t have it, but over time on a straight line basis play itself out.
And the other significant thing we did in 2012 was we acquired a pulp log chipping facility very near our Lewiston facility and what that does is two things. We are about 80% of the business of that supplier, so we take out the profit margin but then on top of that, that gives us leverage within the overall fiber basket as it relates to the purchase that we make from other fiber suppliers within that region.
I thought I would do given the difficulties that we had in the first quarter was also provide an updated bridge from the 38 million of EBITDA that we saw in the first quarter to kind of that $75 million run rate that we would need to be at in order to achieve the $300 million annual run rate. And so starting with the 38 kind of baseline in the first quarter, as we move ourselves to the right, and the first three columns I would characterize as consumer products or tissue business related, and to the right three columns as being paperboard related.
So we talked about the Shelby launch in ultra premium TAD bathroom tissue rollout and that’s really the quarterly $13 million to $15 million run rate that we will expect to be seeing as we leave the fourth quarter and once again where we see ourselves on track for that. In the second column what we have label transition costs, these are really kind of quantifying the headwinds that we saw in the first quarter that we don’t see repeating and about 6 million of those have gone away as we left the first quarter and about 3 million will lock into but go away after the end of the second quarter.
We do see – we have line of sight into what we think is going to happen from our external pulp purchases through the year and if we think about that 2012 run rate and where we were in the first quarter we were actually from an external pulp purchasing cost perspective, about $15 per short ton more in the first quarter than what we were in our 2011 run rate. So there is already some kind of headwinds built into that first quarter run rate and we see a little bit more of that in the second quarter before it levels itself out. Some headwinds there as it relates to getting to 75.
As we move then towards the paperboard items, I talked about the – what we are doing with the cadence and major maintenances and the fact that we don’t have – or won’t have a major maintenance in the 2014 timeframe. So that $5 million that won’t repeat itself in 2014 and on a quarterly run rate, when I talked about straight line, what you have to think about in terms of what we have to absorb from that perspective is about $3 million a quarter.
And moving over to paperboard pricing and volume, if you look at our baseline in 2011 versus the first quarter of 2013 from a paperboard average pricing perspective, we are about $35 per short ton lower in the first quarter than we were in 2011. We have actually instituted price increases across our product segment in paperboard that when we get to a full run rate should kind of bring us back to that 2011 average pricing that we will see.
And then finally, I talked about some of our major cost program initiatives that are already in place. We have more to come, we can get the full benefit of the purchase of pulp log chipper from a run rate perspective and we had announced that we are shutting down one of our converting facilities in Thomaston, Georgia and we expect to – as we get into the 2014 realize a $8 million to $9 million run rate benefit from that and then a number of kind of more one-time type capital expenditures to increase throughput and efficiency in the mill that will take us to – if you kind of up the low end to the high end range of all those things $72 million to $78 million run rate as we get into 2014. So we think we identified where – what the path is and we feel comfortable with the different elements of the path to get us to that run rate.
I will skip over – in addition to the shareholder return we have been expanding our multiple over time and we – from this chart you see we still – we think from a market comp standpoint have the opportunity for further expansion.
This is the outlook that we gave when we released our Q1 earnings for the second quarter, from a production volume standpoint in both paperboard as well as tissue, we see that increasing on the tissue side, it’s because of the ramp of – continued ramp of Shelby and from a paperboard standpoint, we had some outages in the first quarter, not the end of second quarter as well as we have a customer that we had put in place, a significant consignment relationship where we were building up consignment tons with that customer in the first quarter that will not repeat – we built inventories up to where they need to be so that won’t recur as we move forward.
Shipment volumes are stable within consumer and we will be increasing with both demand and production in paperboard. Pricing, what we see positive in both paperboard and tissue, and tissue that would bring in ultra-premium TAD product into the mix, and I talked about the price increases that we are seeing, that we put in place in paperboard.
On the cost side equation, I talk about the headwinds that we continue to see from a pulp standpoint and then from a benefit standpoint on transportation costs, that was part of the $9 million kind of headwinds I talked about in the first quarter that we see abating in the second quarter, not fully abating but by the time we leave the second quarter it will be gone in terms of the incremental. And then we don't have the Arkansas outage and then we are pretty much stable from a input cost perspective as we look across all the other different cost elements.
So I think in summary, I think the first couple of bullets there is that, we feel like we’ve got some pretty attractive end markets and end market dynamics playing out for us in both paperboard and tissue. We’ve made some what we think are the right decisions in terms of both our cost structure and becoming more efficient as well as at our capital structure. Linda talked about the refinance of the 10 5/8 -- for 4.58% debt as well as the announcement of $100 million share buyback.
And so if you look at kind of our EBITDA growth and getting to the 300 million and what that means from a cash flow generation perspective, we feel very good about our ability to dramatically increase our cash flow from operations. And we put in place $100 million share buyback program to return a good portion of that to shareholders. And half of that is already in a sense outspoken for -- and we entered into an accelerated share buyback program in January. And so $50 million is in a sense already spoken for and then we got 50 million we’ve committed to repurchase by the end of 2013.
And what we’ve also said from a cash flow perspective and use the cash of that over the next three years that we committed to returning 50% of what we call our free cash flow to shareholders, whether that be continued share buyback or dividend is something that we would reevaluate in the default timeframe.
And I guess I just leave at that. We are really later focused as we move through 2013 and to achieving that $300 million EBITDA in the 2014 timeframe. So I will stop there and open it to questions.
You just had a chat a little bit about buy – so overly in the generic tissue relative to other, compared to your competitors I have that right and why long term, that’s a better place to be?
I would say that we really had a distinct advantage out west with regard to our manufacturing facilities as well as we have been in the business for a very long time. Some of our competitors are new entrants, others are competitors that have played in different markets than the United States and just kind of started coming into the United States. I think it basically comes back down to how we treat our customers and ensuring that we focus on what they need to get the sell-through there, store brands which is what how they label our products. And as long as we stay focused on that, we have a really good business model. And we have focused substantially on quality and the grocery retailers supporting them in their promotions and their plans for increasing the store brand penetration in the stores which have really driven the success.
Was part of your question, why as we exclusively private label versus having some branded products?
I think being a branded player takes a whole different skill set with regard to marketing and brand developments and managing, packaging designs and so on and so forth. We are much better at manufacturing really high quality tissue and working with retailers to try to market that tissue under their own store brand and it’s just a better market for us given our strength.
Is there much import of tissue or is there exports of tissue, is that factor now?
The question was about imports or exports of tissue and whether that’s a factor in the industry, imports tend to kind of come and go, and I would say they’ve historically primarily been on the parent roll side versus converted cases. And that’s dependent on supply and demand characteristics. Exports do have – again more on the parent roll side versus the finished cases, it’s really been a pretty de minimis impact to the overall tissue market.
We appreciate everybody coming and like John said, we are very laser focused on achieving our objectives. And I think we have a good clear line of sight into doing that. And I appreciate your time today. Thanks.
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