Seeking Alpha
We cover over 5K calls/quarter
Profile| Send Message|
( followers)  

KapStone Paper and Packaging Corp. (NYSE:KS)

Q2 2010 Earnings Call

August 05, 2010 11:00 a.m. ET

Executives

Roger Stone - CEO

Andrea Tarbox - CFO

Analysts

Michael French - Morgan Joseph

Steve Chercover - D.A. Davidson

Ron Gutfleish - Elm Ridge

Eric Hollowaty - Stephens Inc

Kevin Casey - Casey Capital

Mark Wilde - Deutsche Bank

Roger Feldman - West Creek Capital

Gail Glazerman - UBS

Operator

Good day, ladies and gentlemen and welcome to the second quarter 2010 KapStone Paper and Packaging Corporation earnings conference call. My name is Kindle and I'll be your operator for today. At this time, all lines are in a listen-only mode. Later we'll conduct the question-and-answer session. (Operator Instructions)

Before I turn the call over to your host, the company has asked me to read these forward-looking statements. The information in this earnings call contains certain forward-looking statements within the meaning Federal Securities Law. These statements reflect management's expectation regarding future events and operating performance and speak only as of August 5, 2010.

These forward-looking statements involve a number of risks and uncertainties. A list of the factors that could cause actual results to differ materially from those expressed in or underline any forward-looking statements can be found in the company's filings with the Securities and Exchange Commission such as its annual and quarterly reports. The company disclaims any obligations to revise or update such statements to reflect their occurrence within after the date of this earnings call.

I will now like to turn the conference over to Roger Stone, Chairman and Chief Executive Officer. Please proceed.

Roger Stone

Thank you. Good morning and thank you for joining us. As usual, Andrea Tarbox, our CFO is with me. We had a good second quarter which we believe is just the beginning of many excellent months to come. Andrea will now discuss our numbers and I'll return to share with you the basis and enthusiasm of our company's results and then we'll open the phone for question. Andrea?

Andrea Tarbox

Good morning. The presentation for today's review of second quarter 2010 is located on our website at www.kapstonepaper.com in the investor section for those of you who haven't already found it. I have to admit that I was pretty excited for the call this quarter because not only it is a great story to tell but this quarter is the most straightforward that we've had. Therefore, I don't have to go through my normal lengthy upfront explanations to describe lack of comparability.

This quarter, I only have exceptions. The first, the alternative fuel mixture tax credits that we earned $49 million of pretax income last year in Q2 that has since expired. And secondly, when we look sequentially at the results from Q1, 2010 to Q2, 2010, remember that Charleston have its tri-annual outage in Q1 which cost approximately $7 million and reduced production by 17,000 tons.

Now, let's jump right to slide number 3. Higher prices and volume coupled with improved product mix drove revenue higher by $43 million or 27% for Q2, 2010 versus a year ago to a record $199 million. Average revenue per ton was up $585, up $50 per ton over Q1, 2010; and up $59 per ton versus a year ago on both higher prices and improved product mix. The operations have rebounded nicely and continue to grow stronger and more profitable.

Our mills are running forward with an operating rate of approximately 99% in Q2, 2010 versus 85% in Q2, 2009 and 96% in Q1, 2010. In Q2 this year, we produced 323,000 tons of paper, an increase of 19% over last year. Sequentially, from Q1 when we reported Charleston tri-annual maintenance outage, production has increased 8%. We sold 326,000 tons of paper in 2Q this year, up 14% over last year. Sequentially, from Q1, tons sold over up 3% from last quarter.

Our strong rapidly improving operation is delivering cash. Our adjusted EBITDA for Q2, 2010 was $25 million versus a year ago, when adjusted EBITDA was slightly negative. Sequentially, adjusted EBITDA of $25 million in Q2 was up $17 million compared to the $8 million generated in Q1.

Strong operating cash flow for the second quarter of $35 million enabled us to reduce our net debt to $106 million at June 30, down 27 million for March 31, 2010.

Slide 4 is a summary of our second quarter compared to the prior year. In addition to net sales of $199 million and adjusted EBITDA of 25 million, our adjusted net income for Q2, 2010 is $8 million, up $20 million and adjusted diluted EPS is $0.17, up $0.59 from Q2, 2009; including 18 million additional outstanding shares that was negatively impacted fully diluted shares by $0.24.

Turning to slide five, which analyzes the $46 million increase in net sales from Q2, 2009 to Q2, 2010, our sales volume was up, almost 4,100 tons or 14% and contributed $24 million of additional sale.

Increases in selling prices added $12 million and an improved selling net contributed $8 million, while the weaker Euro negatively impacted revenue by a $1 million.

The quarterly changes in our average revenue per ton are depicted on slide six; pricing has recovered, driving average revenue per ton to $585 versus $495 at the bottom of the trough in Q3 2009. The average revenue per ton in Q2 2010 however only reflects approximately 1/3rd of the benefit from the April 2010 $60 per price increase.

Therefore Q3 net sales and operating income will benefit with the realization of the remaining 2/3rd of that price increase upon completions of its roll out. Additionally, further price increases from both linerboard and kraft paper has been announced for August, which Roger will go into in more detail.

Slide seven shows the significant improvement in our product net, with a shift to our more profitable products. Total linerboard tons sold decreased from 49% to 46% of our total tons sold.

However within linerboard sales there has been a significant shift from export, our least profitable product to domestic linerboard. Export linerboard sales now represent about 15% of total sales in Q2 2010, down from 26% in Q2 2009 and down from 35% in Q4 2009.

Domestic linerboard unit sales increased 34,000 tons to 31% of total tons sold and were up from 23% tons sold in Q2 2009. DuraSorb unit sales increased 15,000 tons to 23% of total tons sold versus 21%. Our strong order back logs are continuing to enable us to improve our mix.

Turning to slide eight, adjusted EBIDTA of $25 million for the second quarter of 2010 was up over $25 million compared to the small loss reported a year ago. Contributing to the growth work, $12 million on higher prices, $12 million on higher volumes, $6 million on improved mix and $1 million on productivity improvement. The restoration of certain compensation benefits, that had been temporarily suspended in 2009, negatively impacted results quarter-over-quarter by $4 million.

Slide nine sequentially compares second quarter 2010 net sales of a $199 million to first quarters $176 million. Revenue on Q2 was up $10 million on price, $7 million on net and $7 million on volume improvement. Average revenue per ton increased by $50 per ton on the full realization of price increases announced in December 2009 and January 2010, partial realization of the April increases and from the improvement in our mix.

Slide ten shows KapStone has continued to make significant improvements in product mix when comparing the quarters sequentially. Total linerboard tons sold decreased from 50% to 46%. This shift from export to domestic linerboard has continued. Export linerboard sales now represent about 15% of total ton sold in Q2 2010, down 30,000 tons or 25% from Q1. Domestic linerboard unit sales increased approximately 20,000 tons. DuraSorb unit sales increased approximately 15,000 tons.

Slide 11 compares adjusted EBITDA on a quarter-to-quarter sequential basis. Adjusted EBITDA in Q2 2010 was up 17 million to 25 million from $10 million on higher prices, $4 million for improved product mix, and $4 million for increased volume.

Partially offsetting these gains was $2 million of unfavorable foreign exchange due to the weakness in the Euro because some of our export saturating kraft sales are denominated in Euro. The Q2 Euro decline negatively impacted revenue by over $1 million as compared to Q1 2010. In addition, if we combine the negative foreign exchange impact on revenues along with the foreign exchange transaction losses, the Euro weakness negatively impacted our adjusted EBITDA by almost $2 million or $0.02 per diluted share as compared to Q1 2010.

During the second quarter, we benefited from improving wood supplies, which were very tight earlier in the year due to the extreme wet conditions experienced during the end of 2009 and in the early 2010. With wood supplies returning to normal levels, our wood costs are coming down. However, inflation on freight and distribution somewhat offset gains from lower wood prices.

We have remained focused on our cash flow and keeping them strong as portrayed on slide 12. Cash flow from operations in Q2 2010 was 35 million and included $21 million received from the federal tax refunds and credits. Currently, we're not a federal cash tax payer, although by year-end, KapStone could be in the position to pay minimal federal taxes.

CapEx for the year should be approximately 32 million including about 25 million for maintenance related project. Year-to-date we have spent $15 million. Our robust cash generation has reduced our net debt by an additional $27 million to $106 million. Our debt to capital ratio was 23% at June 30 and our leverage ratio of debt to EBITDA was 0.8 to 2.1.

In the tax note on slide 13, our tax rate for the current quarter was 33.7% down 36.5% a year earlier due to the benefit we see from the tax credit for the inorganic content of the black liquor burned in 2009 and a higher expensive benefit from the domestic manufacturing deduction.

Regarding the cellulosic biofuel credit, the IRS has advised in a memo dated June 28, 2010, that black liquor qualifies for the cellulosic biofuel credit if sold or used before January 1, 2010.

The cellulosic biofuel credit is $1.01 per gallon, is taxable and can only be used as credit against federal income taxes payable. KapStone applied in December 2009 for registration as a cellulosic biofuel producer and is awaiting approval. The IRS ruling denies double benefit from both the black liquor credit and the cellulosic credit for any particular gallon of fuel. Currently, there is no guidance whether both credits maybe claimed in the same year on different volumes.

KapStone estimates $22 million potential future benefit of after tax credits by filing for the cellulosic credit generated early in 2009 when we did not claim the AFTC, if both credits can be claimed in the same year.

Any tax credit that the company may receive from the cellulosic credit could be realized by reducing income tax payable beginning in late 2010. It is understood that the IRS intend to provide guidance, regarding the ability and methodology to allocate between these two credits. However, since there is a significant uncertainty regarding the cellulosic credit related to black liquor, we are not really able to determine any further potential impact on KapStone. At this point, now I'd like to turn it back to Roger.

Roger Stone

Thank you Andrea. In preparation for today, I reviewed my last quarter's remarks and I find that surprisingly that our view with the future of a brighter today has not changed very much. We see an industry and its customers with very low inventories. Our demand remained strong in all of our product lines, backlog or expense. We are experiencing high operating rates and improving productivity and fiber cost should be substantially lower in the second half of the year. We have improved our mix and it should be a little better for the remainder of the year.

But our real upside is reflected in the continuing rollup of our various price increases for the balance of this year and into next year. To better appreciate the earnings potential, you should know that in June that the month of June, generated 50% of the second quarter's EBITDA. It was the shortest month on the quarter, being only 30 days.

I think a good way to look at our future is to review the pricing slide on page 15. You can see that on top of the $220 increases in kraft paper that we laid out this year are the $60 per ton announced in April will be fully realized in the third quarter; the 40 to $60 per ton announcement for August were mostly be realized in the fourth quarter.

And as we move to linerboard, following our success $50 increase, we have $60 again announced in April for domestic linerboard and that will be fully realized in the third quarter and the $60 announced in August, mostly will be realized in the fourth quarter.

And on the export side, as you can see from the bottom, prices are now $200 plus from where they were at that point. In saturating kraft, we did announce of 40 or $60 ton increase, we still believe 75% will be realized in the third quarter and remainder into '11 when contracts expired.

Kraftpak announced $40 a ton and that will be mostly realized in the third quarter of 2010. As you know, we don't forecast so everybody will have to do the roll numbers. But obviously, we are very pleased with our return in numbers, this year and next year, frankly, look very good to us. And now we'll open the phone for questions.

Question-and-Answer Session

Operator

(Operators Instruction). And your first question comes from the line of Michael French with Morgan Joseph, please proceed.

Michael French - Morgan Joseph

Good morning Roger and Andrea, first of all I have a couple questions on the mix. So your up to 23% on a saturating kraft from 19, can you tell us where the demand if coming from, is it international or domestic?

Roger Stone

International, still remains -- domestic remains very poor, it's maybe a little bit better than last year, but very poor. It's all coming from overseas and we have very large backlogs in saturating kraft and I suspect so do our customers -- so do our competitors and so it's -- and we do not see much improvement on the domestic market and we see the global market continuing at this pace, so often -- so little bit in the fourth quarter, except our back log is so large I'm not sure well notice it.

Michael French - Morgan Joseph

Okay and then Roger you mentioned that the mix would be a little better for the reminder of the year, is that going to be more saturating kraft or less export linerboard or a combination of those two?

Roger Stone

Well it will be -- actually a combination of three things, less export as a percentage of what we do, but not that much less. DuraSorb holding the rate that it and improvement in kraftpaks percentage, which is our most profitable product line and kraft paper, which is quiet profitable today and we see that growing as it's percentage over mix somewhat.

So I'm sure we can do with a mix a little bit more, it's just because obviously we're limited to how many tons we can run, but in that mixture of what we run, a more profitable line will have a little more volume.

Michael French - Morgan Joseph

Okay and then just moving on to the price increases, particularly the once announced in August. What kind of feedback are you getting from the customers on that? And maybe if you can add just a little color on to why you're optimistic that these increases will stick?

Roger Stone

Well, we're getting a little shell shock from our customers, but generally it's been received quiet well. They realize how tight it is, they realize how low there inventories are and there inability when they been trying to build there inventories very much and so I think they accept it, obviously they always worry about passing that on to there customers and it's common, everybody -- one competitor doesn't think the other competitor is doing as much as they should on that, but they are being passed on and this will be passed on and we see no reason based on a balance between supply and demand of that price increase not being successful.

It's worth while pointing out, but this is only - not only happening in United States, but Europe has had huge price increases and liners bigger than ours and Latin America compliably. So it's a global phenomenon and is likely to stay that was unless of course we have a double dip procession and I don't want happen to this demand.

Michael French - Morgan Joseph

Alright, alright and then last inquiries on M&A, previously you had indicated your looking at a couple of mills and you'd ruled out doing anything in packaging, I'm just wondering whether you have progresses on any of the targets you were looking at? Or whether there has been any change in your thinking since the last call?

Roger Stone

Well, in terms of progression, yes and no, something I probably couldn't make it happen. We can't. But of course we continue to do things that we thing will be good for our share holders. I haven't changed my mind. I still believe the highest return to shareholders will be with -- on integrated tonnage of the mills that we can sell. And some of the stuff that we look at or would like to look at it comes with converting. And that comes as insurance. And therefore you're putting in a much larger investment for roughly the same return when you pay for the converting.

But there are opportunities to build shareholder value. They are still out there. Obviously, at a time like this, people have different views of the value of their business. But I think that within this year or next, opportunities will be there.

Michael French - Morgan Joseph

Okay. Very good. Thank you and good luck.

Roger Stone

Thank you.

Operator

Your next question comes from the line of Gene Pavlenko of D.A. Davidson. Please proceed.

Steve Chercover - D.A. Davidson

Hi. Its Steve Chercover here. First question, what is optimal export mix if you could express it in the percentage terms?

Roger Stone

We want to keep our hand in certain markets and with certain distributors so that we do enough to be there. I think 25% of our liner products generate 15% or less of our domestic production -- total production would be at -- we are still running some orders that we booked last year. I will show you how big the backlog is. But that's again, fortunately getting rare and rarer. We want to keep our foot in the export market. Certainly, it was good for us. We needed it. We have been loyal to pick certain customers which we want to maintain. We recognize that in a market like this, giving up some profitability. But for the long pole we think that's in our best interest. So, 25% of our linerboard; 15% of our total production, something like that.

Steve Chercover - D.A. Davidson

Okay. So, you're kind of there but it's fair to say that there were times that -- if a deal wasn't a deal, you might have repatriated sooner.

Roger Stone

Oh, no question about that. But we honor those commitments and we always intend to. So, yeah, it was a short term price we think for a long term benefit. And export prices have improved more than anything else but of course they have the longest way to go. And they are still our least profitable thing that we do.

Steve Chercover - D.A. Davidson

Certainly, I don't think anyone should begrudge you -- your loyalty to the people who gave you orders when you needed them last year.

Roger Stone

Those might be.

Steve Chercover - D.A. Davidson

Okay, if I could switch gears then to DuraSorb, your 16,000 tons sequentially, can you tell us what that was on a percentage basis?

Roger Stone

No. I don't have the percentage except what's in the record, in the slide. But DuraSorbs had incredible demand and I pass the point when I saw a backlog which had been huge for some period of time. I just felt people were having trouble getting it in there and they were ordering it from everybody. And when finally everybody delivered, it would slowdown and back off. I, now, don't see it that way. I think the backlogs and the demand is real and sort of amazing.

So we're looking hard at the total process -- some of the marginal there show our business which has to be the case can't be brought in pricing.

Steve Chercover - D.A. Davidson

Well, I mean everybody consist of yourself and two other players and one of them was up 22%, so I was trying to see if your increase was kind of consistent with that.

Roger Stone

The only thing it was -- we don't know what caused the head start. I mean it's hard to believe -- we do believe that they're not sold out given what the demand is but we don't have any answers in terms of (inaudible) production.

Steve Chercover - D.A. Davidson

Yeah. Okay, well, that's good and presumably the like linerboard if you can sell more domestically that too will be beneficial to margins right?

Roger Stone

Yes, our export margins are good.

Steve Chercover - D.A. Davidson

And there was a huge uptick in freight cost relative to volume; can you tell us why that was absolute so sharply? I don't think it was fuel cost.

Andrea Tarbox

Mix, product mix, most of it was a product mix.

Roger Stone

Yeah, and a lot of the -- of this exporter is delivered on a -- sold out at deliver basis and the shipping cost for vessels was very high.

Steve Chercover - D.A. Davidson

Okay, that makes sense. So given your current backlogs, $20 million bucks a quarter of pretty good run rate for freight?

Roger Stone

Yeah, I see freight, it's something what I feel like it's going to be at and I'll tell you what freight is going to be but I mean I see freight although it's really high in the first quarter this first happened than anticipate, I see it leveling out, okay, for the balance of the year. Another is being high relative to historical basis but leveling out to the more ship traffic going back and forth and the big shipper does not have more bought a lot of ships because they couldn't fill them. That's -- will comes back and it comes back it comes back in big steps and freight cost, turn them moderate almost, you know, they know the price of the product.

Steve Chercover - D.A. Davidson

Okay, one more question and I'll back in the queue which is with respect to the black liquor, is it safe to assume that -- obviously, 22 million incremental would be lovely but you will not be refunding the black liquor credits that you got in order to try and convert those into cellulosic aspect, cellulosic credits?

Roger Stone

Yes, that's safe to assume that. You're right. It doesn't make sense to us.

Steve Chercover - D.A. Davidson

I think it's a pretty risky proposition. Great, thank you both.

Roger Stone

Thanks.

Operator

Your next question comes from the line of Ron Gutfleish, Elm Ridge. Please proceed.

Ron Gutfleish - Elm Ridge

Hi Roger and Andrea.

Roger Stone

Hi Ron.

Ron Gutfleish - Elm Ridge

Got a quick question on your slide I think page 15 about the price increases; we can flag liner in a little bit kraft paper because we can see that the industry lacks. All right, that kraft and Kraftpak is something we're not able to track as well. Can you tell us what you have done so far or on the said kraft and the Kraftpak, how much was in the second quarter?

Roger Stone

Well, clearly the $220 early in the year were done and we've got most of the kraft paper in the second quarter, but there is little bit to be gained in the third quarter.

Andrea Tarbox

Are you looking out for some saturating kraft and kraftpak? Yeah, also I think we said here, the saturating kraft, the bulk of it was going to be realized in the third quarter versus second quarter, so second quarter had a small benefit, but majority of the benefit is really third quarter and beyond.

Roger Stone

The kraftpack is a – for the most part of third quarter.

Andrea Tarbox

Right.

Roger Stone

And as Andrea said our linerboard -- these increased don't come off the first day of the quarter and come in and they melt -- they can't come in over the quarter and which is to a great extent why June was such a big month for us versus the other two months.

Ron Gutfleish - Elm Ridge

And on kraftpak, you said it's your most profitable line, in liner and unbleached are a little more volatile, so was it the most profitable line even in the second quarter?

Roger Stone

Yeah, unfortunately it's also our smallest business, but clearly on profit-per-ton or profit-per-machine hour, the way we calculated, kraftpak is out most profitable product.

Ron Gutfleish - Elm Ridge

Thank you very much.

Operator

Your next question comes from the line of Eric Hollowaty with Stephens Inc, please proceed.

Eric Hollowaty - Stephens Inc

Good morning, most of my questions have been answered, but a couple on cost and expenses. If you look at the historical cost of sales on a per-ton, normalized, going back to say fourth quarter of '08, since then it's hovered in a range of, call it 418/420 to 481 was the high point in the second quarter of '09, we're not back to $450 a ton roughly in the second quarter. Can you help us understand how to think about, what a more normalized level of that might be on a going-forward basis, I didn't note in your comments Roger that you've thought that would -- fiber cost would be coming down in the second half sequentially, but maybe just help us understand that a little bit better will be great.

Roger Stone

Yeah, well the wood cost, particularly hard wood cost, which we use hard wood and saturated kraft. We are very high in the first half of the year and we believe that we normalized in the thirds quarter in the second half, as well as our softwood chips.

Yeah the cost varying obviously with the mix, our highest price product is saturating kraft, but the margin's not -- is not necessarily as good as for example kraft paper. So I really can't say this, my belief is we'll get continued gains in productivity, and the input of course will benefit in the second half by lower wood cost. Our chemical cost seem to be pretty stable, some are up, some are down, but we don't really see much push there.

Cold has locked in and transportation is a big variable but they way we look at it, we don't see much pricing pressure, cost pressure in that area. So, I'm trying to helpful.

Eric Hollowaty - Stephens Inc

Yeah. That's very helpful. Would it be fair to say then that given the raw materials, we'll see that number continue to come down but due to mix, we're probably not going to plume to the lows that we saw in the first half of '08 for instance?

Roger Stone

In the first half of '08. No, I am sorry. I think you're right. But pretty good -- that would be pretty good.

Eric Hollowaty - Stephens Inc

Great. Okay. One other -- how would you recommend -- how we think about SG&A going forward, ticked up decently on a year-over-year basis. I noted that most of that was due to increased comp and benefits that you guys reinstated. Is the second quarter kind of a fair run rate on a dollar basis do you think or how would you recommend when we think about that?

Andrea Tarbox

No, because there was a $1 million extra charge you see SG&A for acceleration of long-term thoughts. We changed divesting on it. So, now people 55 and over and invest immediately. So instead of spreading that cost out, when we did the grant this May, the cost for those individuals was expensed immediately instead of being spread out over three years. And that was a $1 million.

Eric Hollowaty - Stephens Inc

Okay.

Roger Stone

Yeah, right. That's a once --

Andrea Tarbox

Once a year.

Roger Stone

That's one quarter-a-year event.

Andrea Tarbox

Yeah.

Eric Hollowaty - Stephens Inc

Got it. One quarter a year. So --

Andrea Tarbox

Yeah, but what would happen then is the amortization of the remaining ones should be lower because they're already expensive. So, it's more of a timing.

Eric Hollowaty - Stephens Inc

Okay.

Andrea Tarbox

Yeah.

Eric Hollowaty - Stephens Inc

Got it. Can we expect this kind of uptick in future years in this quarter, or would say that it would say it would --?

Roger Stone

Yeah. It would be in the -- for the people over 60 a problem. In fact -- otherwise in our old plan, they would have never invested. I think if you give them options. But they won't do any good. And it would continue to be assuming that the board meets at the same time. It would continue to be a second quarter event.

Eric Hollowaty - Stephens Inc

Right. All my questions have been answered. Thank you.

Roger Stone

Okay.

Operator

Your next question comes from the line of Kevin Casey with Casey Capital. Please proceed.

Kevin Casey - Casey Capital

Yeah, I just want to clarify a couple of thing you guys talked about. You guys are not paying any taxes now?

Roger Stone

Correct.

Kevin Casey - Casey Capital

That's a non-cash charge.

Andrea Tarbox

When you look at the effective tax rate, yes.

Kevin Casey - Casey Capital

Okay. And then you're not getting any --

Andrea Tarbox

That's good point, yeah.

Kevin Casey - Casey Capital

And then, do you have any tax credit facilities?

Andrea Tarbox

No. I mean, as we said that, that's all pending. One, we put the registration in December 2009. Our registration hasn't been approved yet. And secondly, the IRS needs to clarify its position on whether they do for companies that have already claimed the black liquor credit because there is question of whether you can claim both credits in the same year, even if it's for different gallons.

Roger Stone

Yeah. We believe the black credit that we earned is non-taxable. But nevertheless being conservative of we accrue the tax on the statement and we accrue interest on not paying that tax on the statement. And we're waiting like everybody else is to hear from the IRS.

Kevin Casey - Casey Capital

Okay.

Andrea Tarbox

That answers your questions?

Kevin Casey - Casey Capital

What about cellulosic going forward?

Andrea Tarbox

Well, the cellulosic was only good for the year 2009. So, like I said, until we hear from the IRS on how and if we an apply it for 2009 because we already claim the black liquor credit on most of our production in 2009, we really don't know but supposedly they're going to give guidance, well, shortly is what I hear whatever that means.

Kevin Casey - Casey Capital

Okay. And then is the ways to improve the operating rate, you have 99% now it's the only way to -- the capacity or it's basically going forward all the benefit is going to come from pricing.

Roger Stone

No, no. Pricing to mix. Our 99% is hard to improve as we improve productivity, you improve productions so it will be 99% of a higher numbers and we have some projects, capital projects that should have come into the fourth quarter that will give us a little more capacity. So we try to tweak it where we can build our capacity number and of course, we want to sell a bit I think we can make but 99% is a good number it's just what 99% whoop up a bigger number as we increase our productivity.

Kevin Casey - Casey Capital

Okay, but there's no plans right now to increase capacity until next year.

Roger Stone

Well, as I said we have capital projects, it might till the end of this year. We're quick like most people and so we -- our capacity goes up because our mill people are quick people like find better ways to do something to de-bottle like something small investment or there's no such thing as a small investment in paper note; but an investment to do that generally has a good return if you can sell it and so we creep and if you plan your mix right, again, so you don't swing your machines that's another area of the mix that haven't discussed.

Swing machine has a lot to take care of our customers because you're behind. You'll get more tons and other that operating rates.

Kevin Casey - Casey Capital

And then do you have any plants shutdown throughout the year?

Roger Stone

We have our plant shutdown for Roanoke Rapids mill in the fourth quarter as we did last year. And that time we will be trying to tie in our capital projects as well but and then from the maintenance cost point of view the cost will be about the same as it always have been.

Kevin Casey - Casey Capital

Okay, thank you.

Roger Stone

Welcome.

Operator

Your next question comes from the line of Mark Wilde with Deutsche Bank. Please proceed.

Mark Wilde - Deutsche Bank

Good morning

Roger Stone

Good morning Mark.

Mark Wilde - Deutsche Bank

Just to come back kind of price and mix one more time. I know that you've been rolling off some prior commitments that you made last year so can you just help us kind of feather that together with the pricing increases that you've already talked about? Otherwise how much of the benefit do we have going forward from some of these old commitments at lower prices that's rolling off?

Roger Stone

I hear I got slope in the figure and it's considerable on a smaller amount of tonnage, okay. We're capitalizing the prices on what we were booking but we were always behind the curve because we have such a big backlog of the low price freight but export prices will continue to improve what year -- let me give you a little indication.

We expect export pricing for example, in the third quarter to be $50 higher than the second quarter.

Mark Wilde - Deutsche Bank

Alright and that's a combination, Roger, of prices going up, but also that roll off of the prior commitments?

Roger Stone

Right it's a combination of the two things.

Mark Wilde - Deutsche Bank

And can you just give us a ballpark estimate for KapStone right now, sort of what the net different would be between an export ton and a domestic ton? Just a ballpark number.

Roger Stone

Well in terms of what we're currently booking, it's – the reason we close because we have no freight or a modest freight on the export. So it's maybe $40.

Mark Wilde - Deutsche Bank

Okay, another question, is there anything just as we look forward, business looks very good right now, but this is a cyclical business. Are there anything you can do over the next year or two, to buffer yourself a little bit in any future down turns? Otherwise, lock up some domestic supply agreements or anything like that?

Roger Stone

Yeah we're doing plenty for that now as we obviously want to put our tonnage with people that will continue to buy from us when things get bad and we were short of the new guy on the block when we -- in the linerboard business, with a lot of people, after we brought the Charleston operations and when things are so bad, they quiet -- with good integrity they try to, try to take care of the people that they've been from forever and postpone there commitments to us.

And we think that we're investing our tonnage and will invest our tonnage, as we still have a lot of work to do, on people that will be there, not when demand is bad, there demand is bad too, but we'll get our share of the business in the down turn of that basis, so yeah, we think that one of the things we have strengthened and we will strengthen going into the future is a more secure demand from our linerboard customers and all our customers for that matter, as to what will they'll take relative to there needs and we just won't get shoved up the door because we there brand new supplier coming in.

Mark Wilde - Deutsche Bank

Yeah okay, and I'd like to come back to that question Steve Chercover asked about freight cost, because by numbers, just between the first quarter and the second quarter, the freight cost-per-ton went up between 10 and $11, which seemed like an awfully big jump to me, particularly with exports being down and I would think of export freighters being hired as domestic freight, can you help me a little bit there?

Roger Stone

We don't pay freight on export for linerboard or kraft paper. We are repaid for it, export rate I'm talking about, what we (audio gap) so the (audio gap) but shipping cost were very high and we do pay the freight for example to deliver that product around the world.

Andrea Tarbox

So mark I think your (audio gap) that is exactly the reason actually why freight cost were higher because the export sales were down and we only pay the cost to deliver it to the dock versus the domestic where we pay the whole freight cost, which is much higher, so when I said product mix, that's what I was telling about actually.

It was because of the export linerboard sales were down, domestic sales were up and we had a higher freight cost for that.

Roger Stone

Right, if we had no export, our freight would be higher, because it's our lowest grade product.

Andrea Tarbox

With that -- it was really was -- volume obviously was one which you've already factored out, but that product mix was a necessary and then there was the inflation component.

Roger Stone

Yeah and export when you pay the freight shipments, always some higher costs relative to domestic.

Mark Wilde - Deutsche Bank

Okay. Another question, Roger, you have the competitor over in Scandinavia that I think changed hands a quarter or two ago. Any change in behavior there?

Roger Stone

No. Customers tell you all things and you can't always believe what customers tell you. So -- but there is no reason in the world why they shouldn't be sold up because everybody is doing well. But some customers tell me they're not or tell us they're not. But -- no, we haven't seen any behavior -- any disrupted behavior.

Mark Wilde - Deutsche Bank

Okay. And then Andrea, do you have a note in there toward the end about just the IRS doing an examination of the 2009 tax year? Is it possible to give us any color on that?

Andrea Tarbox

No. They have just asked us, so we can obey. They have already been through 2007 and '08. Now, they're in 2009 and we're actually sort of happy about it because we are hoping we'll get a resolution on the capability of the cellulosic credit -- not the cellulosic but the black liquor credit that we've already claimed on completion of these. And so, instead of having this strangle out there for another year or so. So, they haven't really started that yet. They just told us last week they were going to.

Mark Wilde - Deutsche Bank

Okay. And then, Roger, in terms of the cash that you're generating with your cost of debts so well, I think, below 2%, is it safe to assume that barring an acquisition, we're going to see you continue to build that cash position?

Roger Stone

Yeah. We're not going to rush since it is so cheap. We're not going to rush to pay it back. We believe that gives us maximum flexibility.

Mark Wilde - Deutsche Bank

Thank you. Could you talk it all? You spoke a little bit about kind of growing KapStone and acquisitions but could you give us a little more color? Could you also tell us whether you might get involved in one of these projects where people are looking at kind of converting from another product into container board to kraft paper?

Roger Stone

I really can't comment on anything. You know Mark, we would look at anything that we pay is a benefit to our shareholders. And I can't comment because once I start commenting on specific things, it always comes back to haunt me.

Mark Wilde - Deutsche Bank

Yeah, I understand. And let me ask this, given your rather, would you rather on a craft mill versus a recycle mill or are you kind of indifferent.

Roger Stone

I am indifferent.

Mark Wilde - Deutsche Bank

Okay. That sounds good. I'll listen to more in the third quarter.

Roger Stone

Thanks a lot.

Operator

Your next question comes from the line of Fritz von Carp of Sage Asset Management. Please proceed.

Andrea Tarbox

Hi Chris.

Operator

Chris, your line is open. Your next question comes from the line of Tim Priadle with West Creek Capital. Please proceed.

Roger Feldman - West Creek Capital

Hi, it's actually Roger Feldman. Tim just ran out. He -- we heard you say that and we just want to get clarification that June, you did 12.5 million of EBITDA, is that --?

Roger Stone

Yeah, I said in June. 50% of the quarter's EBITDA was earned in June. That's true.

Roger Feldman - West Creek Capital

Would we be wrong to assuming you don't get the August, I guess, I am asking? Are you saying that was there anything unique about June or if you do not get the August price increase, are you then telling us that your round numbers are 150 run-rate adjusting for shutdowns and things like that?

Roger Stone

Well, like right there is shutting down in June. All right, John, what was nice about the quarter, it was a normal quarter. Let me -- we usually have the exact normal things and what was nice about June it was a normal June, it was a good month and the difference is mainly reflected in June's prices relative to the other month's prices. Does that help you?

Roger Feldman - West Creek Capital

So, why won't I pursue it just a little further so if I extrapolate -- if I took June, I could -- I think what you're saying is I can annualize June back out, shutdowns and I get where you are on a run rate?

Roger Stone

You're right, assuming the same tons produced, right, you said it right.

Roger Feldman - West Creek Capital

And then just to clarify. You have price increases that have been accepted but are not in the June numbers?

Roger Stone

Yes, that's what page 15 is all about. We sure have price increases to be layered in, okay, and we do. So we're very excited about the future.

Roger Feldman - West Creek Capital

Got it. That I just wanted to get clarification. Thank you very much.

Roger Stone

Welcome.

Operator

(Operators Instruction). Your next question is a follow-up from the like of Eric Holloway with Stephens Incorporated.

Eric Holloway - Stephens Incorporated

Well, just a quick one on the fourth quarter plan and maintenance you have, as I recall last year, the hitch of production in tons from that shutdown was around 10,000 tons, is that a reasonable expectation again for this year?

Roger Stone

Yes, yes. That's assuming as I said we have some capital projects that are going in that time, and we're assuming there's no hiccups on that. Yes, that's a reasonable assumption.

Eric Holloway - Stephens Incorporated

Great, thank you.

Operator

Your next question is a follow-up from the line of Mark Wilde with Deutsche Bank.

Mark Wilde - Deutsche Bank

Roger, with business looking good and your balance sheet in such good shape, are you in fact starting to look at kind of more capital projects and things that would debottleneck it either mill?

Roger Stone

Yeah, we're always looking those things that can't -- if we are working the things that we have to do that have a good return, some of them may be just a cost return, others may be incremental tons as well as cost. And the small project that we're doing and we will not grab it just one of those that we get the best of both worlds but it's not a big deal.

Mark Wilde - Deutsche Bank

Not a big deal in terms of dollars or in terms of incremental volume or --

Roger Stone

It's not a big deal on either but we get both. I think we get the benefit and we get across those kinds of quality benefit in the productivity benefit and a good payback.

Mark Wilde - Deutsche Bank

I guess what I'm wondering too is you know it just seems like both the things that you bought were kind of orphans within their respective companies?

Roger Stone

Yes.

Mark Wilde - Deutsche Bank

And sometimes orphan see now they get to hand me down and I just wonder whether there are any big opportunities that had not been seized historically the other mills but now with you being in a good financial position, you can go after.

Roger Stone

IP did a good job in Roanoke Rapids because it was converting into a paper mill from a linerboard paper mill and we think they invested wisely and did a good job but of course, the business was an orphan and they sold it. Charleston, yeah, we think we've been -- there's a lots of opportunity because the mill, one other thing, they'll have trouble in deciding is what it was going to be when it grew up, what products where we going to make, what to concentrate on, what were the issues, when saturated kraft was developed and it was a hard wood product.

For example, they were geniuses because there hard wood was very low cost in the south-east region during those days, which of course is not true today, it's the expensive fiber and -- so we're sorting out our cost structure and volume structure, deciding what we want to be. Where we think we want to position ourselves and take our capital plan from there.

Mark Wilde - Deutsche Bank

Okay alright, sounds good thanks.

Operator

Your next question is a follow up from the line of Tim Priadle with West Creek Capital.

Roger Feldman - West Creek Capital

Hey Roger, it's Roger Feldman again, just one last question. When Mark asked you about capital project, you talked about a good return. Can you give us some idea of what a hurdle race it is and I guess you used the term payback, so if you can express it in.

Roger Stone

Well we've mentioned it in a lot of different ways, but if we can't get our money back within three years, we probably wouldn't do it.

Roger Feldman - West Creek Capital

Okay that works for us thank you.

Operator

Your next question comes from the line of Gail Glazerman with UBS. Please proceed.

Gail Glazerman - UBS

Hi, just a couple of quick questions. In terms of your domestic liner board, the increase in sales there, has that been -- have you seen a pick up in integrated producers seeking incremental tons or is it mainly just the independent?

Roger Stone

I'm sorry say that again please.

Gail Glazerman - UBS

Have you seen pick up in integrated producers seeking tons within your domestic linerboard business or has it been mainly independent?

Roger Stone

In terms of the market place, I think everybody is trying to get tons. The integrated companies, many of them were over sold and were out buying linerboard because there inventories were so low and I read a couple of earnings reports where they incurred a lot of cost to buy inventory or ship and arrive to support there converting facilities. But the, clearly the if your asking about who is raising prices, clearly the major companies are raising -- are aggressively raising prices first and the smaller companies tend to hang back a little bit which is quite natural historically but in general I -- from recently of our complete independence and integrated and I guess we would be an independent in that classification.

Gail Glazerman - UBS

And I was looking in terms of independent box convert Dura sales to independent box converters versus potentially some integrated producers that were short board, have you had incremental sales to those buyers or are you really just selling independent box plans?

Roger Stone

We're showing some variety of converters, but most of them have been declared independent, 90% plus of our tons are sold to people who don't make line.

Andrea Tarbox

Our increased sales in domestic have come from increase in mostly to independence versus selling to the integrated to the now short of funds.

Roger Stone

Totally. We're very -- integrated purchases from us are very small.

Gail Glazerman - UBS

And just to clarify something on the potential mix shift moving forward if you're not looking for export necessarily the change dramatically moving forward, as you grow and some of the kraft in higher end markets that would mainly be coming out of your domestic linerboard sales.

Roger Stone

You're right. We're not looking for increase in export because we're looking for --

Gail Glazerman - UBS

Yeah. What I am saying is that you increased the sales in the other products. Would that mean you would be coming out of your domestic? Is the domestic linerboard sales of export not going to change much?

Roger Stone

Yeah. If we figured out the sale for example, lot more crack back. It would be coming out of the domestic linerboard business.

Gail Glazerman - UBS

Okay. And just one last question, I know the call is getting long, but maybe you're taking these questions in a different approach. I mean, are you particularly concerned about incremental supply in your end markets, given the potential for conversions that are out there? Do you think those project can make sense?

Roger Stone

Well, obviously I wish they weren't any. But people make their own business decisions for their own good. But I don't see, again, a slow growth economy. I don't see the projects -- one, they all wont come in. And two, that those who come in, the timing shouldn't have a major impact on supply. And once -- if it does what's healthy about the industry and its recent history is they know how to manage supply. If there is too much of it, they don't make it. That's kind of nice.

Gail Glazerman - UBS

Okay. Thank you.

Operator

And you have no further questions. This concludes the question-and-answer portion. I'll now like to turn the call back over to Roger Stone for closing remarks.

Roger Stone

Well, I don't have really any closing remarks. Thanks for being on the call. We're obviously very excited. We think we're well positioned. We think our markets look good and we look forward to increasingly better results. Thank you.

Operator

Ladies and gentlemen, that concludes today's conference. Thank you for your participation. You may now disconnect. Have a great day.

Copyright policy: All transcripts on this site are the copyright of Seeking Alpha. However, we view them as an important resource for bloggers and journalists, and are excited to contribute to the democratization of financial information on the Internet. (Until now investors have had to pay thousands of dollars in subscription fees for transcripts.) So our reproduction policy is as follows: You may quote up to 400 words of any transcript on the condition that you attribute the transcript to Seeking Alpha and either link to the original transcript or to www.SeekingAlpha.com. All other use is prohibited.

THE INFORMATION CONTAINED HERE IS A TEXTUAL REPRESENTATION OF THE APPLICABLE COMPANY'S CONFERENCE CALL, CONFERENCE PRESENTATION OR OTHER AUDIO PRESENTATION, AND WHILE EFFORTS ARE MADE TO PROVIDE AN ACCURATE TRANSCRIPTION, THERE MAY BE MATERIAL ERRORS, OMISSIONS, OR INACCURACIES IN THE REPORTING OF THE SUBSTANCE OF THE AUDIO PRESENTATIONS. IN NO WAY DOES SEEKING ALPHA ASSUME ANY RESPONSIBILITY FOR ANY INVESTMENT OR OTHER DECISIONS MADE BASED UPON THE INFORMATION PROVIDED ON THIS WEB SITE OR IN ANY TRANSCRIPT. USERS ARE ADVISED TO REVIEW THE APPLICABLE COMPANY'S AUDIO PRESENTATION ITSELF AND THE APPLICABLE COMPANY'S SEC FILINGS BEFORE MAKING ANY INVESTMENT OR OTHER DECISIONS.

If you have any additional questions about our online transcripts, please contact us at: transcripts@seekingalpha.com. Thank you!

Source: KapStone Paper and Packaging Corp Q2 2010 Earnings Call Transcript

Check out Seeking Alpha’s new Earnings Center »

This Transcript
All Transcripts