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Verso Paper Corp. (NYSE:VRS)

Q1 2010 Earnings Call Transcript

May 6, 2010 9:00 am ET

Executives

Bob Mundy - SVP and CFO

Mike Jackson - President and CEO

Analysts

Joe Stivaletti - Goldman Sachs

James Armstrong – Credit Suisse

Kevin Cohen - Imperial Capital

Jeff Harlib - Barclays Capital

Eric Anderson - Hartford Financial

Ariel Avila - JPMorgan

Richard Kus with Jefferies

Phillip Wirtz - Odeon Capital Group

Hoai Ngo - Oppenheimer

Fritz von Carp - Sage Asset Management

Bruce Klein - Credit Suisse

Operator

Welcome to the Verso Paper Corporation first quarter 2010 end earnings call. Today’s conference is being recorded. At this time, I would like to turn the call over to Mr. Robert Mundy, Senior Vice President and Chief Financial Officer. Please go ahead, sir.

Bob Mundy

Good morning and thank you for joining Verso Paper’s first quarter 2010 earnings conference call. Representing Verso today on this call is President and Chief Executive Officer, Mike Jackson, and myself, Bob Mundy, Senior Vice President and Chief Financial Officer.

Before turning the call over to Mike, 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. Mike?

Mike Jackson

Thanks Bob and good day everyone. If you could go page three, the first quarter, you can see was strong volume quarter as volume was up substantially over the first quarter of 2009.

Shipments were up 164,000 tons, while sales were up year-over-year by more than $76 million or almost 27%.

Adjusted EBITDA was $13 million, which was higher than the first quarter EBITDA of $4 million for 2009. The primary reason for the fall off from the fourth quarter of '09 was price, which reached it trough in March. We recognized during our last earnings call that that would be the case and it was.

Moving to page four the first quarter of 2010 brought with it some key areas that I would like to highlight. We knew this would be a difficult quarter that prices would be down and that the first quarter pricing would be trough, but we set the stage for volume growth and price appreciation.

We announced in March a second quarter, coated price increase or $30 a ton, as both inventory and demand were headed in a positive direction. Last Thursday, we also announced another increase for June 1, of $60 for coated groundwood and SC and $40 for coated freesheet.

Pulp prices were up a 11% over Q4 '09. There were three increases during the first quarter, totaling $100 a ton. Our coated volume was 46% above last year's first quarter and seasonably down 5% from the fourth quarter of 2009. This 5% sequential fall off was half of what the normal seasonal drop off has historically been. Clearly a very strong quarter for volume.

These volume numbers grew our market share in the three major grades of coated freesheet, coated groundwood and SC, but not at the expense of the lower price compared to the market. Against the market our pricing for these grades showed the same or less than year-over-year percent movement that the movement that the [VC] benchmark showed for the first quarter. This was the case for both coated freesheet and coated groundwood.

Our sales people demonstrated, I believe, strong discipline in a very difficult environment. Our continued focus on working capital allowed us to have lower coated inventory sequentially and year-over-year, which supports our continued effort on cash management.

On the input price side of our business excluding pulp we were $1 million better than the fourth quarter of 2009 and taking a broader view of pulp prices year-over-year, we have $4 million favorable and $3 million sequentially due to our long pulp position. Bob, will give you more details relative to the input cost in a moment.

So, at this time, I will turn back to Bob and then I will back to review again our focus areas for 2010 and give our outlook for the second quarter. Bob?

Bob Mundy

Thanks Mike, if you turn to slide five, you can see that a significant coated volume improvement versus last year about 46% down only about 5% versus the seasonally stronger fourth quarter. As we said coated prices continued to remain under pressure during the better part of the first quarter but did reach TARP levels as we headed into the second quarter. Market downtime was minimal, we had a few 1000s tons of market downtime. Obviously we had significant downtime last year at this time.

Pulp prices were over 32% higher than last year, over $50 per ton higher than the last quarter. Pulp prices together with the strong coated and new product volumes during the quarter resulted in revenues being up significantly versus last year and down only about 4% versus the seasonally stronger fourth quarter.

If you look at slide six, this gives you a view of our year-over-year adjusted EBITDA changes for the first quarter of 2010 versus the first quarter of 2009. The stronger volumes we mentioned had a positive impact of about $12 million. However, prices were down just over 15% versus last year or about $65 million.

Operations and input prices are favorable year-over-year, and as I mentioned we took significantly less down time during the quarter, which had a favorable impact of about $28 million through less unabsorbed fixed costs compared to the first quarter of last year.

Turn to slide seven, and see a similar bridge that compares the key changes between our first quarter adjusted EBITDA versus the fourth quarter of 2010. Total volume as Mike mentioned was down only about 1% or so are almost $2 million. As Mike said, we expected that coated prices would continue to be under pressure during the quarter and the $15 million negative areas is primarily driven by coated prices being down about 4% versus the fourth quarter.

All other key EBITDA drivers you see on the page were inline with the fourth quarter except freight costs, which were slightly unfavorable, primarily due to some higher diesel prices.

Now move to slide eight, I mentioned during our last call that I though overall input prices would be fairly flat moving from quarter in to the first and that is what we experienced in the chemical area. Starch and clay prices were lower but that was offset by higher latex prices due to the tightness in butadiene.

Wood prices continue to say at a very good level for us and energy prices were lower than last year and about flat versus the fourth quarter. As many of you know pulp prices continue to increase however, but as Mike mentioned due to the fact that we are pulp long this is actually a unmet benefit to our company.

With that I’ll turn it back to Mike.

Mike Jackson

Okay. Thanks, Bob. If you’d to page nine, you've seen this chart before, but we think its important that throughout the year that we are very clear on our priorities and the progress that we are making against them. First, supply disciplines, and as mentioned our inventories are in great shape. They are down sequentially as well as the year-over-year,

During those first quarter, we managed our CapEx in working capital to excellent levels. We believe our receivables are managed at best-in-class levels and that are working capital numbers are the best results for the first quarter that we've have had since we formed the company.

Our new light weight papers have continued to grow and as they do, we are reducing other coated capacity to match demand. New products represented $24 million of our revenue base for the first quarter, which was up 75%, from Q4 of 2009. Certainly our GAAP continues to generate cost savings to our business and it's really overcoming any category of input increases and our manufacturing operations continue towards completion of 12 waste energy recovery technology projects at multiple sites. You may remember that 50% of the funding for these projects are from DOE grants.

If you move to page 10; with the recently announced price increases, and improving demand environment, we wanted to share again on the left hand side the impact of price. Our $60 of ton alone, would drive almost a $100 million of improved EBITDA, you add to that potential, the impact of significantly less downtime in 2010, versus 2009, which by the way is on the right hand side which, by the way is on the right side of the chart and the positives really begin to play-out.

On page 11, just about every quarterly call prompts the question about imports, exchange rates and the impact of those items on the supply-demand balance in North America.

The point that I would like to make on this page is that over the last several years imports have continued to fall with little impact relative to the euro. We do not see a significant change going forward.

Two reasons that I'd say that, one is that the Europeans continue to try and balance their own system back to profitability and the second is that over the last few years there has been some significant supply-chain interruptions that we believe have influenced a bit of the buying habits in North America. In fact, imports year-over-year as a percent of North American demand actually fell for coated freesheet, coated groundwood and SC.

Before Bob and I go to Q&A let me wrap up with our outlook for the second quarter on page 12. Number one, our volumes will be higher sequentially and significantly higher than the second quarter of 2009.

We do not plan on taking any market downtime and we will continue to see increases in our new product volume, which again as I mentioned represented almost $24 million of revenue in the first quarter.

Paper prices are moving in the right direction. The impact in the second quarter will be moderate but we should see the second half gain substantial implementation and pulp pricing as you know continues to move up relative to our third party sales.

Our cost of fiber, energy, wood and raw materials as a whole will show a bit of a headwind in the second quarter, particularly focused on chemicals and outside purchase pulp. However, as I mentioned our gas and our pulp long position will mitigate the increase.

We’ll continue as we have done on the past to rein on cost, although we do have schedule maintenance outages in the second quarter. The impact of these outages by the way will be about 15,000 tons of paper.

Inventories and working capital as we have always done will be manage at low levels and speaking of the second quarter in April, S&P raised the rating on all of our debt and we received the Green Business Innovator of the Year Award for the work that we've done with our customers on carbon footprint. So, we're being unrecognized for our environmental efforts as well.

Overall we are optimistic about how we position the company from an operating perspective. The strategy we defined and our proven ability to move quickly and execute in the company will demonstrate our ability to perform, as pricing, new products and our energy strategy move forward.

We will continue to remove complexity both from a process and an organizational perspective to assure that Verso captures all of the value available as the market and the economy gains momentum.

With that Bob and I are ready for questions.

Question-and-Answer Session

Operator

(Operator Instructions) We'll take our first question from Joe Stivaletti with Goldman Sachs.

Joe Stivaletti - Goldman Sachs

I wondered if you could help us a little bit in terms of our understanding of the pace at which these price increases will be reflected in your numbers, maybe just explain the amount of price protection some of your customer base might have under contracts or whatnot to try and understand when these price increases will really show up in your numbers?

Mike Jackson

Joe, obviously it's variable by grade, but I think certainly in the script I did mention that the second quarter would be moderate commensurate to the impact of price. Freesheet will be a bit more aggressive as it relates to the bottom-line coming quicker because there is more spot business in coated freesheet. The groundwood market; we have a fairly decent number of contracts that take us through at the end of June.

So I would say that that freesheet may run a little bit quicker than certainly groundwood but come the 1st July, we are basically in a totally different position. So the bottom-line is we will have movement in the second quarter. It will be positive, but certainly won't be the total of the numbers that you had in front of you which is the $70 to 90.

Joe Stivaletti - Goldman Sachs

Okay. I wondered if you could share with us whatever you might know about customer inventories. I know that was a big factor last year with customers pulling down inventories. Could you characterize your knowledge of what’s been happening so far, have they rebuilt, or they still pulling them down or what? Are they sort of keeping them flat?

Bob Mundy

Really Joe, they are still down, the pipeline still remains at historically low levels, both at our end and our customers end. We do not see any of really measurable inventory build on their in right now. Obviously we do need to calibrate what is the new reasonable or normal level of inventories because comparing them to historically numbers, probably is not the right way to look at it any longer because you have to look at consumption.

Then when you take that into consideration and look at days of inventory, it's certainly not a historical low. They are moderate towards the higher end still. So we start to keep a eye on that but we are not seeing a lot of inventory build.

Mike Jackson

Joe I will add just what Bob is saying in terms of coated freesheet, I think this is the data through March because we don’t have April yet but coated freesheet was down a little over 100,000 and coated ground was down a 124,000 tons. So pretty significant numbers on as it relates to the inventory decline and we have a pretty good view into both the printers and end-use customers. So, I would certainly support what Bob just said.

Operator

Now we’ll hear from James Armstrong with Credit Suisse.

James Armstrong – Credit Suisse

The magazine and the direct mail market and basically tell us how those two are doing individually and whether are you seeing one come back faster or stronger than the other?

Bob Mundy

James, we did not hear the first part of your question.

James Armstrong – Credit Suisse

I’m sorry, could you talk about the magazine and direct mail market and what you are seeing from demand in each of those markets?

Bob Mundy

Yeah, James, may be I should take it by grade because it is variable. If you look at coated freesheet, certainly the magazine have lagged if you will. The segment is still lagging gaining a little bit momentum but certainly was down. The direct mail, which we would classify really in the commercial print side in a sense is up, when you think about you know coated freesheet as is the catalog business.

So, then if you go coated groudwood, your magazines are up in that grade about 15%, these are our numbers by the way. Your catalog is up as well and certainly the direct mail is up as relates to coated groundwood. The direct mail more so than the magazines and a little bit more so than the catalogs.

Then on SC, it’s a little bit distorted because as you know we developed a new grade. I mean SCA+ grade, so that numbers are quite high there but magazines are up in that grade, catalog is substantially up in that grade and then as it relates to direct mail its up but not at the level of that, both catalogs and magazine was. So again its vary by grade.

James Armstrong – Credit Suisse

Okay, that helps. Also we know that you shipped a 329,000 tons of coated. Could you help us break out the rest of the shipment numbers between pulp and un-coated?

Bob Mundy

James, pulp volumes were just shy of 70,000 tons and the balance was about 30,000 tons.

Operator

Moving on we'll go to Kevin Cohen with Imperial Capital.

Kevin Cohen - Imperial Capital

I wonder, if you guys could talk a little about sort of the secular outlook and what you think may be normalized volume trends will be. Its certainly encouraging to hear that you didn’t really see restocking out there, and volumes were big in the first quarter. Kind of how do you see that progression over the balance of the year?

Bob Mundy

Kevin, we have taken a view and I think we have been consistent on this that, either going forward is probably and again this is Verso's view. So I want to be clear on that, that we believe that 11% -12% of both coated freesheet and coated groundwood will be gone forever and so as we have baked it into our system and into our supply plan on, that’s the number of that we are kind of focusing on as we look out for a 12 to 18 months period. I am sure there are those that would disagree with that, but that is our view.

Kevin Cohen - Imperial Capital

How do guys kind of see your volumes progressing now, Q2 and the balance of the year after big gain in the first quarter?

Mike Jackson

I believe that what I said was that it will be up, the second quarter will be up sequentially, and that certainly substantially on a year-over-year basis and then we move into the third quarter, which is normally our best quarter of the year and I feel that will probably play out this year as well.

Kevin Cohen - Imperial Capital

Great. Then just turning to FX in the year which you mentioned earlier; is there a sort of a magic number where you think imports might come in to the US. I mean certainly the European guys aren’t as integrated into pulp, which certainly helps the domestic guys, but is there a sort of a magic number on the year where you think you might see imports pick up a bit?

Bob Mundy

It's an interesting question because if you go back even when the Euro was 1.20 or whatever. We just have not seen that much of a relationship between a consistent import number based on the Euro. So, I guess to answer your question, I don’t believe that there is a magic number. Then again it has got a lot to do with supply and demand and I did mention the supply chain. A lot of things happened this first quarter in the supply chain and that gets people a bit nervous as well.

Operator

Now we will open up the floor to Jeff Harlib with Barclays Capital.

Jeff Harlib - Barclays Capital

New product sales, do you have visibility maybe you can talk about the different grades, the SC and some of the other flexible packaging and do you have visibility on continued improvement and share gains in those grades?

Mike Jackson

Yeah it's to answer your last question yes we think we will continue. I think our volume in the second quarter will be – we are starting from the low base but it's improved every quarter for the last several quarter and I think there will be a really nice pick up when we report our second quarter numbers from what we did in the first. Then its uncoated printing paper grades, some of our SCA+ grade that developed there at Sartell and some lightweight flexible packaging grades. Those are probably the key grades in that bucket.

Jeff Harlib - Barclays Capital

Okay. Then just on CapEx this year. You are still looking in a $70 million range or…

Bob Mundy

Yeah, yeah, it will fall out some where in the 70s, mid 70s give or take a little.

Jeff Harlib - Barclays Capital

Okay. Then just lastly, I don’t know if you give an exact number but the average pricing at the end of the quarter was the average would it be in the 20 range, 10 range?

Bob Mundy

I’m sorry, Jeff. It’s the average at the end of which quarter?

Jeff Harlib - Barclays Capital

Kind of average price realizations in March versus the average quarter, so we can you know model some of the improvements?

Bob Mundy

Yes, I think March maybe we started to see some of the some positive things as we would get in to March but obviously the improvements will really take place and as Mike mentioned earlier, in April, in the second quarter, but we did hit the low end the first quarter. Started to see some improvement there towards the end, not a lot, but obviously anything is good and then with the price announcements we're starting to get some traction on some of those, we’ll certain see a pick up in the second quarter.

Jeff Harlib - Barclays Capital

Okay. Then on the June first increase, so there shouldn’t be any additional price projection beyond the June 30 that you talked about for your coated ground and magazine customers? Should that follow-through pretty quickly?

Bob Mundy

Obviously nothing is for sure, but as Mike said, the biggest bang would come with the second half. We will get appreciation in the second quarter, but the biggest pick-up will start to occur going into the third quarter and beyond.

Operator

Now we'll go to Hartford Financial's Eric Anderson.

Eric Anderson - Hartford Financial

I wondered if you could just talk a little bit more about the new products that you have got in terms of what channels are going out to and is there difference in the distribution, the way you are going to market or can you give us a little bit more color on that?

Mike Jackson

Eric its' multi-channel actually and that's the best thing the way I can describe it. Its depending on the product, its direct. There are some merchants that would be involved in other areas depending on the product. The thing that I would say is that many of these products really require trials. So with small is where to begin with a very, very technical with the converted.

So it's a long process and what we try to do with those products is to have that relationship that would be direct because when you get into technical grades, the feedback on performance and on these [runs] is critical and so less the third-party that we have involved the better off our feedback becomes. So I would say primarily its direct, particularly on the more technical grades.

Eric Anderson - Hartford Financial

Does that implies that going forward to a longer term that this could end up being more profitable business since you are not involving third parties or selling it?

Mike Jackson

Well I think again that depends on the grade and but clearly with what we are learning as we run these grades we are getting better and better. [Running] them from a speed perspective we are getting better from a quality perspective and we are getting better from a grade to grade turnover.

So yes, I think that combination along with the fact that we are dealing again, directly with the converter does give us an opportunity to drive some margin significant.

Eric Anderson - Hartford Financial

That sounds great, my final question relates to, with sort of a historic weakness that we are seeing right now in natural gas prices. Have you had any thoughts about trying to do some hedges, a year or two out to try to lock some of that in. I know that for the last couple of years you had some hedges that were a little bit unfavorable. I think that's run off now but what's your thinking going forward?

Bob Mundy

We have some guidelines that we follow our hedging policy and we do go out 18 to 24 months when we had the ability to do that and where we think it makes sense our group discusses that and we will make those decisions. So yes to answer your questions, we do that wherever we think it makes sense for us.

Operator

Now we will open up the floor to Ariel Avila with JPMorgan.

Ariel Avila - JPMorgan

You talked earlier about what's sort of happening in the coated groundwood, coated freesheet markets and various end products. Where those inline with your expectations at the beginning of the year or have you become incrementally positive on those markets?

Bob Mundy

I think we knew it would be slow. We certainly knew it wouldn’t turn around overnight. The markets are certainly improving. We figured it would be and it has been at least relative to pricing. Volumes have been very strong and I think the economy has been getting better and we are certainly starting to see recently a lot of things are really the indicators that drive our business around consumer confidence, and GDP and things of that nature. Employment actually was better for last month the largest increase since March of '07. So those are the kinds of things that will really continue to push our business and but I think its happening pretty much as we thought it would.

Ariel Avila - JPMorgan

Okay. Then just turning to pulp. Your pulp shipments came in stronger than what we thought, I think before you said for the year it would be run rate 260, 270, and right now its close to a bit 320. Do you expect that to play out for this year?

Bob Mundy

Yeah, I’m not sure, we get to the 320, someone asked earlier about our volumes and I said our volumes for the quarter was just shy of 70.

Ariel Avila - JPMorgan

Okay.

Bob Mundy

So I’ll expect us to be somewhere that 270, 280 type ranges still, what I would think for the year?

Operator

Now we’ll open the floor up to Richard Kus with Jefferies.

Richard Kus with Jefferies

Hey, guys, would you mind talking a little bit about the scheduled downtime that you have here in the second quarter and what kind of cost you expect to incur for that?

Bob Mundy

Yeah, we just have a couple of just normal maintenance type annual outages, scheduled outages that we have every year. There will be some additional cost, the way maintenance outages work, however some of those costs you recognize in the periods, some of those are amortized over the period that the repairs are providing the benefit, so lot of times it's amortized over the 12 months between outages, and it just depends on the cost type but I would say, $3 million or $4 million something like that, everything else being equal, you know, that would be the impact.

Operator

Now we will hear from Phillip Wirtz with Odeon Capital Group.

Phillip Wirtz - Odeon Capital Group

I wanted to ask a little more about pulp pricing from fourth quarter to first quarter, I was wondering if most of that reflected the spot market or current market pricing and may be how much of that was based on fourth quarter backlog that you had to fill it, perhaps lower prices?

Bob Mundy

I am not sure. Are you referring to the first quarter 2010 price versus the fourth quarter '09 price?

Phillip Wirtz - Odeon Capital Group

Yes, exactly.

Bob Mundy

80% is under contract for us, so as pulp and paper moves then we move with the index. Sometimes it’s a lag. The contracts are all geared towards most usually [RICI] Index and which negotiate as a discount off of that, but if we see moves and the stock moves then you get better appreciation as well.

Phillip Wirtz - Odeon Capital Group

Then, looking forward has any of the shine come off for pulp prices there? You are just seeing a very strong demand somewhere what we saw in March and in early April.

Bob Mundy

We had another round of price increase recently, but I think everyone would feel that this won't continue and I would expect that as we head into the end of the third into the fourth quarter, I would expect we see some softening, but that’s just our view right now, but I would think it will start to peak-out somewhere into the second, probably more into the third, but then certainly maybe start to move back down some in the fourth would be our best guess.

Phillip Wirtz - Odeon Capital Group

Then finally on the coated paper side, I was just wanted to touch a little bit more on inventory numbers at least that are measured in tons. Did some of that reflect permanently lower basis weight? Has the market comparing that to maybe three or four years ago permanently shifted to our customers are demanding lower basis weight in general.

Mike Jackson

There is a trend in that direction, but honestly it is minimal when you think about the basis weight on the tons and inventory.

Operator

Now we will hear from Hoai Ngo with Oppenheimer.

Hoai Ngo - Oppenheimer

As I am forecasting out for working capital on a quarterly basis, could you give me a sense of like which is an inflow, which is an outflow?

Bob Mundy

Sure. The first quarter is always a use of cash. If you look that our numbers this quarter versus our previous three or four first quarter since we have become Verso, this was the lowest use of cash since our existence. The second quarter is normally a source, third quarter is normally a use and the fourth quarter is normally a source, that sort of seasonality I would expect again this year.

Hoai Ngo - Oppenheimer

Then also have you guys given a sense of what operating rates are today at all?

Mike Jackson

I think you know the later stated that we have, which show that operating rates for both freesheet and groundwood certainly are above 90% so, it’s a net low 90 number.

Operator

Now we’ll open the floor up to Fritz von Carp with Sage Asset Management.

Fritz von Carp - Sage Asset Management

I’m sorry. I just miss the first minute of the conversation. If you addressed this, I apologize. You guys have a history of trading paper and the container board and the products you're making and I’m wondering how we can think about your company? Should we think about you as being skilled in trading the markets and playing the markets, are you more of a steady long-term customer relationship business? Should we expect you to be more looking like the market or not so much? These are my question?

Mike Jackson

Yeah, I’m not sure if I fully understand that but our business is customer relationships, if I understood your question.

Fritz von Carp - Sage Asset Management

Would we expect you to see prices for boxboard like we might see in the publish industry?

Mike Jackson

We don’t make any boxboard or container, that’s a whole different industry than what Verso is.

Fritz von Carp - Sage Asset Management

I’m sorry. The products you make container board that they used to make cardboard boxes and also your craft paper products but I guess I was thinking about the container board?

Mike Jackson

We don’t make anything like that. Our focus is catalogs and magazine papers.

Fritz von Carp - Sage Asset Management

I got confused; I am doing too many calls this morning. Could you just describe how you expect that coated papers that you make, would you expect them to go with the publish industry and how quickly would they catch up?

Mike Jackson

Its like we said earlier on a previous question, we have two price increase out there on our primary paper grades and we expect some realization from those in the second quarter and further realization, more realization into the third quarter.

Fritz von Carp - Sage Asset Management

Another question on different topic; how was the European situation in coated grades that you make? Is there a threat to you of an export from there? Structurally do they have capacity of this such that they might be exporting it here if the currency would have moved in substantial amount or is it relatively small?

Bob Mundy

There are exports or imports from Europe are always will be here in the US. US does not have the capacity to meet its demand, so they'll all like be in play. There was a question earlier regarding this, and then as Mike said the euro moves around, imports have come steadily down over the last three years or year or so they have been up and down, but certainly there is a lot of ways out there now relative to the euro and that's what certainly make things more attractive for Europeans and I think there was an opportunity, they still have to pay the cost to get it over to the US and make sure they cover that cost, but there is always that opportunity as the euro gets weaker.

Operator

We have time for one final question and that will come from Bruce Klein with Credit Suisse.

Bruce Klein - Credit Suisse

Could you just remind us the cost savings versus cost inflation, which is going to be a bigger number in your latest thinking?

Bob Mundy

The cost savings will be large; I guess that’s the quick answer. There will be some inflation, but again most of that if you look at everything we include in our input price inflation, its energy, wood, chemicals and pulp and obviously pulp will be the largest component and as we have talked about that’s actually because we were pulp long and actually that's a positive for us.

Bruce Klein - Credit Suisse

Lastly, what are your end customers are saying on the catalog and magazine side? I know there is cyclical recovery going on, but are they seeing anything in terms of less catalogs going out or something along those lines? Any color that you can give me there?

Bob Mundy

Bruce, certainly the catalogs are mainly more than they have last year, obviously at this time and our projection is that they will certainly do so as it relates to third quarter as well. Magazines are a little soft to be candid and some of the magazines have made a switch not a lot, some have moved out of coated freesheet and the coated groundwood, both the basis weight and cost perspective.

So I think what’s going on in the magazine business and they made some changes in their model, but it's interesting that even year-over-year that percent of advertising that it's spend is still pretty steady, it's about 20% of total advertising, 19% to 20%, so magazines have not lost the great deal as it relates to the total advertising spend and I know that surprises some folks, but that is the case. So, we’ll see.

Operator

That does conclude our question-and-answer session and our conference for today. We do appreciate your participation.

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