John Hertz - Senior Vice President and Chief Financial Officer
Linda Massman - President and Chief Executive Officer
Steve Chercover - D. A. Davidson
James Armstrong - Vertical Research
Clearwater Paper Corporation (CLW) Q3 2013 Earnings Call October 23, 2013 5:00 PM ET
Ladies and gentlemen, welcome to the Clearwater Paper's third quarter 2013 earnings conference call and webcast. (Operator Instructions) I would now like to turn the conference over Mr. John Hertz, Senior Vice President and Chief Financial Officer. Sir, you may begin.
Thank you, Saeed. Good afternoon, and welcome to Clearwater Paper's third quarter 2013 conference call. Our press release this afternoon includes details regarding our third quarter results, and you'll find a presentation of supplemental information posted on the Investor Relations area of our website at clearwaterpaper.com.
Additionally, we will be providing certain non-GAAP information in this afternoon's discussion. A reconciliation of the non-GAAP information to comparable GAAP information is included in the press release or in the supplemental material provided on our website.
I would like to remind you that this presentation contains forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995, as amended. These forward-looking statements are based on current expectations, estimates, assumptions, and projections that are subject to change and actual results may differ materially from the forward-looking statements.
Factors that could cause actual results to differ materially include those expressed or implied by risks and uncertainties described from time to time in our filings with the Securities and Exchange Commission, including our Form 10-K for the year ended December 31, 2012, and our quarterly filings on Form 10-Q. Any forward-looking statements are made only as of this date and we undertake no obligation to update any forward-looking statements.
Now, turning to our third quarter financial performance. Like last quarter, I'll start with a little housekeeping. We are providing both Q3 GAAP results and those that are adjusted to exclude two charges and two benefits that we believe are not indicative of our core operating performance.
On the cost side, we incurred $1.7 million in relocation and exit-related expenses associated with the planned closure of our Thomaston, Georgia, converting facility and had an expense of $400,000 related to mark-to-market adjustments to outstanding directors' common stock units.
The two benefits, both were on the tax line. One was a $3.5 million tax benefit resulting from additional Cellulosic biofuel producer tax credits, claimed and agreed up on as part of our ongoing IRS audit. And the other was a $4.7 million benefit from the release of reserves for uncertain tax positions relating to state tax credits.
Getting to the results. Third quarter net sales came in at $480 million that is up 4% versus the second quarter as consolidated shipment volumes were up 3% and consolidated price mix improved by 1%. Versus Q3 2012, net sales were up 2% on higher tissue and paperboard average sale prices per ton.
Third quarter adjusted gross margin of 9.9%, which excludes the Thomaston shutdown cost, was down 230 basis points in the second quarter due primarily to $17.5 million in major maintenance expenses related to the plant outage at our Idaho pulp and paperboard facility as well as the impact of higher mix of non-retail tissue shipments in the consumer products division. Compared to the third quarter of 2012, adjusted gross margin was down 5 percentage points due to the major maintenance cost, higher pulp, chemicals, packaging and wage cost as well as TAD transition cost.
Adjusted SG&A expense, which excludes the mark-to-market expenses, was $27 million or 5.6% of third quarter net sales as compared to 5.9% in the second quarter and 6% in the third quarter of 2012. We expect adjusted SG&A to be $27 million to $29 million in the fourth quarter.
Adjusted corporate expense, excluding the mark-to-market expense was $11 million of the SG&A spend in the third quarter, down $500,000 from Q2. We expect adjusted corporate spending to be $10 million to $12 million in the fourth quarter.
Adjusted EBITDA, which excludes the Thomaston and mark-to-market expenses, was $43 million or 8.8% of net sales compared to 11.2% of net sales in Q2. The decline in margin was primarily due to the major maintenance in the quarter. Third quarter 2012 adjusted EBITDA margin was 12.7%.
Net interest expense of $11 million was flat with the second quarter compared to the third quarter of 2012 net interest expense increased $3 million, mainly because we are no longer capitalizing interest associated with our TAD tissue expansion project. We expect net interest expense to again be about $11 million in Q4.
Turning to taxes. On a GAAP basis, Q3 taxes were net $5.2 million benefit as a result of the two previously discussed items. On an adjusted basis, the Q3 effective tax rates was 37% or a $3.8 million expense, which compares to an adjusted effective tax rate of 37% in the second quarter and 37% in the third quarter of 2012. We expect an adjusted Q4 effective tax rate of 36% to 38%.
All of that resulted in third quarter 2013 GAAP net earnings of $13 million or $0.60 per diluted share. And on an adjusted basis, net earnings of $6 million or $0.29 per diluted share. That is compared to adjusted net earnings of $12 million or $0.51 per diluted share in the second quarter and $21 million or $0.89 in the third quarter of 2012.
Non-cash expenses in the third quarter of 2013 included $22 million of depreciation and amortization, $2 million of total equity-based compensation and $4 million of non-cash pension and retiree medical expense. Permanent employee headcount at the end of the quarter was approximately 3,900 versus 3,860 at the end of 2012.
Now, I will discuss the segment results. Consumer products net sales were $293 million for the third quarter of 2013, up 1% compared to the second quarter primarily due to a 1% increase in shipments to 134,000 tons, which was at the low-end of our outlook. Non-retail tons did rise 7% to 61,000 tons. However, retail pace sales were flat sequentially, which is in line with our September updated outlook.
Average tissue pricing was flat versus the second quarter at $2,192 per ton, as a 1% increase in retail pricing and a 2% increase in non-retail pricing were offset by the effect of a 2.5% mix shift away from retail shipments to non-retail shipments. Tissue pricing did come in at the high-end of our September updated outlook range. However, it was below our initial expectations, as we entered the quarter as increased price competition and private labeled TAD suppliers and higher promotional activity from the brands tamped down retail pricing and shipment volumes.
TAD expansion related shipments contributed approximately $4 million to EBITDA in the third quarter. As we look forward, we are expecting that contribution to ramp to approximately $7 million in the fourth quarter, and then ramp toward a run rate of approximately $12 million in the third quarter of 2014.
Consumer products adjusted operating margin for the third quarter of 2013 was $15 million or 5.2% versus $16 million and 5.5% in the second quarter. The decline was primarily due to the mix shift in non-retail and higher pulp costs, partially offset by a reduction in TAD transition costs from $4 million to $2 million.
Regarding the Thomaston facility, we had accelerated the closure of that facility by a quarter, and now expect all converting lines to be relocated by the end of 2013.
Now, turning to pulp and paperboard. Pulp and paperboard net sales of $195 million for the third quarter of 2013 were up 8% versus the second quarter due to higher volumes and better pricing. Paperboard shipments increased 5% to 199,000 tons coming in above our outlook of up 2% to 3%, due primarily to higher than expected demand and our ability to meet that demand from a production standpoint. Paperboard average pricing of $973 per ton was up 3% from the second quarter coming in at the high-end of our outlook due to better product mix and price increases.
Pulp and paperboard operating margin for the third quarter of 2013 was $16 million or 8% of net sales as compared to $25 million or 14% of net sales in the second quarter. The decrease was primarily due to the $17.5 million in major maintenance cost, partially offset by the higher volumes and pricings along with the essence of operational disruption to Arkansas that added approximately $3 million of cost to Q2 results.
The Idaho major maintenance related cost came in $1 million over our $16.5 million expectation due to slightly higher maintenance materials and external pulp cost. Recovery boiler, pulp mill and paper machines are all back-up running and at full capacity. Our net scheduled outage for major maintenance is not until the spring of 2015.
Now, turning to the balance sheet. Capital expenditures were $24 million in the third quarter of 2013, which included $3 million related to our TAD tissue expansion project, bringing total TAD project expenditures to $263 million through the end of Q3.
Capital expenditures for the remainder of 2013 are expected to be approximately $34 million, which includes $4 million associated with the TAD project. Long-term debt outstanding on September 30, 2013, was $650 million, which was consistent with the June 30, amount.
During the quarter, we completed our $50 million accelerated share buyback program, receiving an additional 213,000 shares for a program total of 1.04 million shares at an average price of $48.10 per share. In addition, we repurchase an additional 327,000 shares of common stock in Q3 through open market transactions at a total cost of $15.8 million or $48.27 per share.
For the end of Q3, we repurchased a totaled of 1.6 million shares at a cost of $76 million under the $100 million buyback authorization. Weighted average fully diluted shares were $22.2 million for the quarter and actual shares outstanding, which doesn't exclude treasury shares, at the end of Q3 were approximately 21.6 million.
As of the market close today, in the fourth quarter, we have repurchased 470,000 additional shares for $23 million or $48.76 per share, leaving approximately $1 million of the original $100 million buyback authorization that we intend to complete by the end of October.
As of the most recent measurement date of December 31, 2012, our company-sponsored pension plans were under-funded by $79 million. It contributed $8 million to those plans in Q3 and expect to contribute an additional $4 million in Q4.
With regard to our liquidity, we ended the third quarter with $110 million of unrestricted cash and short-term investments. We generated $70 million of cash from operating activities or 14% of net sales.
In conclusion, Q3 results were in line with the updated outlook that we provided in September. Pulp and paperboard volumes, pricing and backlogs continue to be strong. By heightened price and promotional competition, both from TAD private label suppliers and from the brands impacted the consumer products division. Despite those near-term challenges in our consumer products divisions, we lead Q3 expecting solid EBITDA improvement in Q4 and into 2014.
I will now turn the call over to Linda Massman, who will discuss the company's outlook.
Thanks, John. Hello, everyone, and thanks for joining us today. Our third quarter results dwell within the updated outlook that we provided in early September. While near-term market challenges pressured our tissue business results, I am pleased with the team's reaction to those challenges within the quarter and what that means as we move forward into the fourth quarter and 2014. And while the environment has become more competitive, we still expect to achieve our financial goals, albeit a bit slower than originally anticipated.
One of our larger optimization initiative has been the closure of our Thomaston site. We have completed the move of all the equipment out of Thomaston and expect to have all of it operational by the end of Q4, which is well ahead of our original plan.
I would like to take the time to thank our consumer products team and especially our Thomaston team for their focus and dedication to the company during the transition and closure of our facility located there. This has obviously been a difficult time for many of our employees and we appreciate their effort.
As John mentioned, the paperboard market continues to be strong, which is yielding volume and price increases. And our pulp and paperboard team is executing very well from an operational perspective.
Now, let me discuss our view of the market environment and our outlook for each of our business segments, starting with the consumer business. Overall the retail tissue market is continuing to grow. Through the first nine months of 2013, retail tissue paper shift as reported by IRI, our multi-channel sales were up 3% versus the same period in 2012.
Private label was up 7%, while national brands increased 2%, and Clearwater Paper grew shipments in estimate of 5%. Private label tissue market share grew 1 percentage point to 27%.
Looking to the fourth quarter for our consumer products business, we are forecasting a decrease in shipment tons of between 1% to 3%. Retail case shipment and non-retail tons are both expected to be down. However, we expect average tissue price per ton be between zero to 2%, versus the third quarter due to the increasing mix of TAD tissue.
The low end of that range accounts for downside risks associated with commercial activity by brands and its adverse impact to retail shipment volume and net pricing. As John stated, TAD tissue shipments continue to ramp and we are expecting to reach an EBITDA run rate of approximately $12 million per quarter by the third quarter of 2014.
On the cost side of the equation for consumer products, we expect to see approximately $4 million in cost savings in the fourth quarter, including a $2 million reduction in TAD transition cost, which are now behind us.
Turning to the paperboard business, the market outlook for the remainder of 2013 is favorable. Domestic demand in our primary markets is showing strength overall and is up year-over-year. We expect this trend to continue through the balance of the year and note that the industry still has excellent backlog, as evidenced by an increase in unmade bleached board orders from three weeks to five-and-a-half weeks over the last year according to RISI.
As discussed last quarter, the demand for SBS board has remained robust despite the new coated ivory board capacity coming online in China. The effect of that capacity continues to be most evident overseas, with limited acceptance and impact in the U.S., as of now.
We continue to actively monitor longer-term impact to the U.S. market and we'll continue our efforts to adjust product mix and improve our cost structure, as we anticipate the potential increased impact of additional Chinese volume during 2014.
Regarding our fourth quarter outlook for the pulp and paperboard segment, while still a strong market, we expect the shipment volume decline of 3% to 5% due to seasonality. We expect average paperboard sales prices per ton to increase up to 1%, as previously announced price increases fully affect Q4. Other than the absence of the $17.5 million in Idaho major maintenance expense, we expect pulp and paperboard input costs to be stable versus the third quarter.
Looking at the consolidated business for Q4 versus Q3, we expect lower shipment volumes to reduce consolidated net sales by 1% to 2%. However, at the midpoint of our price mix outlook, we expect that this will be more than offset on a gross profit line by better pricing in both divisions and a richer retail mix within the consumer product segment. On the cost side, there was $17.5 million of maintenance that will recur in Q4, and we expect an incremental $4 million of cost savings in Q4 as well.
During the quarter, we also made progress in our internal strategic initiatives related to safety, sustainability and continuous improvement. A few examples of this progress include our Cypress Bend Arkansas employees achieving one full year without an OSHA recordable event, which is a major accomplishment.
Similarly, our Natural Dam employees are on the same track for 330 days without an OSHA recordable. As a whole, the company has had 41% fewer recordable injuries than industry average, and 41% fewer cases with loss to restricted days.
Other initiatives include our Clearwater fiber facility in Washington, where we recently replaced an existing diesel whole log chipper with a new electric chipper, reducing our energy cost by a third on our equipment and decreasing air emissions in the process. And at our Lewiston pulp and paperboard plant, 27 employees from both manufacturing segments and multiple facilities gathered to conduct an outstanding waterside saving Kaizen.
After the Kaizen was finished employees immediately implemented ideas that resulted in water savings of more than 0.5 million gallon per day. These are just a few examples of the innovative, cost saving and safety-oriented achievements that are being driven by our loyal and committed employees' everyday across Clearwater Paper.
In summary, although third quarter was a challenging quarter, primarily due to an increasingly competitive tissue market, we are expecting improvement going forward as we begin shipping in TAD business and working to penetrate additional regional retailers with our new TAD product and provide the appropriate promotional support for our product launch.
To make up for the delay in sales, however, we have redoubled our efforts on the cost reduction front and expect an additional $3 million to $7 million in quarterly saving, as detailed on Slide 12 of our supplemental presentation. Specifically we expect quarterly cost savings as follows: $2 million to $3 million for the closure of our Thomaston facility; $1 million to $2 million on numerous paper machine projects that we've undertaken; and $0.5 million to $1 million in the Arkansas recovery upgrade.
Further, we remain focused on our stated goal of achieving a $300 million adjusted EBITDA run rate in 2014, assuming 2011 pricing costs. More specifically, as shown on Slide 12, based on our third quarter 2013 prices and input costs, we're expecting to produce $74 million to $80 million of adjusted EBITDA in the third quarter of 2014, by experiencing $5 million per quarter in headwinds compared to 2011 and mainly by higher pulp, chemical and transportation costs since then.
Thank you for listening to our prepared remarks. And we'll now take questions.
(Operator Instructions) And our first question comes from Steve Chercover from D. A. Davidson.
Steve Chercover - D. A. Davidson
So one of your larger branded competitors did release yesterday and in their discussion of North America was, not that it wasn't competitive, but net selling prices were up. And I was just wondering if your cautioned in kind of early September was maybe just that, whether you're trying to be conservative and then things are a little bit better than you maybe thought?
Steve, we are aware of that call as well. At that, what we can comment is what we're seeing in the marketplace, and while I'd love to be able to tell you that we're just being cautious. We actually have been seeing increased promotional activity in the retail accounts where we sell the bulk of our products. So it is a competitive marketplace and we are also seeing increased competition from our other private label competitors.
Steve Chercover - D. A. Davidson
I was thinking that it might be that you don't necessarily intersect in the exact same marketplace and that might be some of the other privates. And then with respect to your actual volumes, is it safe to assume that despite having Shelby online, the fact that production volume was flat-to-down, that's intentional, correct? And I suppose you could call it cannibalization of your less lucrative capacity?
Are you talking sequentially down, Steve, versus Q2 to Q3 or what timeframe are you looking at?
Steve Chercover - D. A. Davidson
No, I'm actually looking year-over-year, if you did 138 million, almost 139 million tons or thousand tons in Q3 '12 versus 133 this year, was that maintenance downtime was associated with pulp and paper, so.
So if I look at CPD, which is where the sales were done on a ton basis year-over-year. Back in Q3 of 2012, we have abnormally high sales rate from a ton perspective and that was driven primarily by strong contract manufacturing business that we had undertaken back in Q3. And then compare with that with this year in Q3, we were really in very much of building inventory phase, most of this year which then we didn't have as many parents rolls to sell or even the converting capacity to take on some of the contract manufacturing work.
Steve Chercover - D. A. Davidson
And then just last question, are we just to presume $3 million maintenance expense per quarter next year and that's a way to model it?
This is little tricky, Steve, because it's lumpy. And so we're trying to help, people do this kind of how they should think about it on a straight line basis. So if you kind of take what we expect to be the lumpy cost over a three-year period in straight line, and that's what works out to be kind of a $3 million on a per quarter amount that we theoretically would have to cover if we'll spread evenly.
Steve Chercover - D. A. Davidson
But to the extent that it might be very much lumped into Q2 for instance, because you can't do things during the winter, you'll try and help us, pinpoint when it's actually going to be taking an expense, correct?
Right. And one of the things we did say in our prepared remarks was that actually 2014 is a year in which we will not have a major maintenance outage. And so specifically to 2014, as we sit here today, there won't be any.
And our next question comes from James Armstrong from Vertical Research.
James Armstrong - Vertical Research
First, a quick house keeping question. Where do you expect the tax rate to be, given the movements in the fourth quarter as well as going forward?
Both from what I'll call an adjusted basis. Our range was 36% to 38%.
James Armstrong – Vertical Research Partners
And then, going back to the major competitors call, they talked about desheeting a lot to basically help margins in a promotional activity. Are you following suite on that or your customers' requiring you to maintain a sheet count, could you help us with that?
We follow too, where we can. And of course, we are always intend to be competitive in every way we can with our national brand target products, but we've also seen some of the benefit of that issue being in our price and sales numbers.
James Armstrong - Vertical Research Partners
And then lastly, to date with the additional TAD capacity, how would you describe the acceptance of that capacity? Are there pockets of strength and weakness? And do you think your product is growing with the market or do you think you're displacing other product?
I think, first of all, the TAD shipments, we're seeing kind of a steady ramp up and in particular I think leading Q3 and entering Q4 in a really nice spot with regard to those shipments. I would say it's a little bit of both with regard to that new shipment and some displacement that will go into either additional premium product or more likely some of the parent roll sales.
Thank you. And I'm showing no one else in queue at this time. I'd like to hand the conference over to Ms. Linda Massman for any closing remarks.
That was a easy call. But thank you everybody for joining us. We appreciate it and we'll talk to you next quarter.
Ladies and gentlemen, thank you for participating in today's conference. This concludes our program. You may all disconnect and have a wonderful day.