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Boise (NYSE:BZ)

Q3 2012 Earnings Call

November 01, 2012 11:00 am ET

Executives

Greg Jones

Alexander Toeldte - Chief Executive Officer, President, Director, Member of Special Committee and Member of Executive Committee

Samuel K. Cotterell - Chief Financial Officer and Senior Vice President

Analysts

Mark W. Connelly - Credit Agricole Securities (NYSE:USA) Inc., Research Division

Graham Mattison - Lazard Capital Markets LLC, Research Division

Phil M. Gresh - JP Morgan Chase & Co, Research Division

Joseph Stivaletti - Goldman Sachs Group Inc., Research Division

Alex Ovshey Ovshey - Goldman Sachs Group Inc., Research Division

Bill Hoffman - RBC Capital Markets, LLC, Research Division

Roger Bogner

Operator

Good morning. My name is Melissa, and I will be your conference facilitator today. At this time, I would like to welcome everyone to Boise Inc.'s Third Quarter 2012 Earnings Conference Call. [Operator Instructions] It is now my pleasure to introduce you to Greg Jones, Director of Investor Relations, Boise Inc. Mr. Jones, you may begin your conference.

Greg Jones

Thanks, Melissa. Good morning, and welcome to Boise Inc.'s Third Quarter 2012 Earnings Call. Joining me today are Alexander Toeldte, our President and CEO; and Sam Cotterell, Senior Vice President and CFO.

Please note that some statements made on this call constitute forward-looking statements within the meaning of the federal securities laws, including statements regarding management's future expectations of company performance.

Management believes these forward-looking statements are reasonable. However, the company cannot guarantee that its actual results will be consistent with the forward-looking statements, and you should not place undue reliance on them. These statements are based on current expectations and speak only as of the date they are made. The company undertakes no obligation to publicly update or revise any forward-looking statements, whether as a result of future events, new information or otherwise. Important risk factors regarding the company that may cause results to differ from expectations are included in the company's filings with the SEC including our quarterly report on Form 10-Q for the quarter ended September 30, 2012.

This morning's call is posted as an audio webcast on our website, boiseinc.com. To reach the webcast, go under the Investors menu and you'll see Investor -- or Webcasts & Presentations. A replay will be available shortly after the call.

With that introduction, I will now turn the call over to Alexander.

Alexander Toeldte

Thank you, Greg. Welcome to our third quarter 2012 earnings call. Before reviewing the quarter, I would like to extend our sympathies to those of you in the northeast, who are suffering through the wrath of Hurricane Sandy. We wish you all a safe and speedy recovery. We are pleased to report that all of our employees are safe and sound and that our assets and facilities have weathered the storm without damage.

I'll start with a short summary of our third quarter and make some comments about the performance of our Packaging and Paper businesses, and then I'll turn the call over to Sam Cotterell for a more detailed review of our financial results.

We had a good quarter, operated well, achieved good results during the third quarter. That includes strong cash flow generation of $62 million. EBITDA, excluding special items, was $90.5 million for the third quarter and stands at $253 million year-to-date.

Our overall sales revenues were up 2% over the prior-year quarter due largely to record sales in our Packaging segment. Increased integration of Tharco and Hexacomb continues to positively affect our volumes and continues to reduce our exposure to lower-priced export markets.

Operationally, we performed well, but our third quarter results were significantly affected by one-time costs related to our decision to seize paper production on our one remaining paper machine at our St. Helens mill by December 31,2012. High fiber cost and declining product demand drove us to conclude that the St. Helens machine could no longer compete in the marketplace. This decision will reduce our UFS capacity by about 60,000 tons, and it will allow us to focus our resources on products and assets that drive the financial performance and cash flow of the company. I would like to express my heartfelt thanks to the St. Helens employee, who worked so courageously and hard to keep the mill competitive, and to our customers and suppliers for their many years of dedication and support.

Turning to the performance of our businesses. In our Packaging segment, third quarter sales revenues were up 14% compared with third quarter 2011. The increase is the result of the acquisition of Hexacomb and strong organic growth in our other corrugated product sales volumes.

On the containerboard side of the business, we're implementing our recently announced linerboard price increase and expect to see benefits of that increase in the fourth quarter, with a more full run rate in first quarter '13.

In our Paper business, segment sales were lower compared with third quarter 2011. A chief villain here were lower market pulp volumes and prices. However, compared with second quarter, 2012's Paper segment sales were up.

Our UFS volumes, including Label and Release and Premium Office Papers, were up 1% for the quarter and up 2% for the year-to-date over the same periods last year. In comparison, industry uncoated freesheet volumes are down 3.5% year-to-date.

I would also like to mention that during the quarter, we implemented a new order generation and fulfillment IT system and process for our Paper business. This was a large undertaking in the implementation of the new system and process has gone exceptionally well and increases our ability to serve our customers with distinction.

With that summary, I'll turn the call over to Sam, who will walk you through the numbers.

Samuel K. Cotterell

Thanks, Alexander. Our net income for third quarter was $4 million or $0.04 per diluted share. We recorded $31 million of pretax cost connected with seizing paper production at St. Helens as the special item. The $31 million of costs include about $14 million of noncash charges, related primarily to the impairment of property plant and equipment and inventory, and about $17 million of cash cost, of which we expect to pay around $7 million in employee-related and other costs in early 2013 and the remaining amounts over a longer term.

Under accounting rules, these changes show up in various line items at our financial statements. In our consolidated statements of income, we recorded $27 million in the line item St. Helens charges and $4 million in materials, labor and other operating expenses.

Excluding special items, net income was $23 million or $0.23 per diluted share compared with net income of $28 million or $0.24 per diluted share for third quarter 2011. Our diluted shares outstanding in third quarter '12 were 101 million shares compared with 118 million shares in third quarter '11. Our overall third quarter EBITDA, excluding the special item, was $90 million compared with $99 million in third quarter last year.

In the Packaging segment, third quarter sales were up 14% compared with third quarter last year and flat compared with the second quarter. Segment EBITDA was down $8 million in third quarter compared with the same period last year. The decrease was due to higher maintenance costs as result of the timing of outage work at our DeRidder mill, which fell primarily in first quarter last year, but mostly in second and third quarter this year. We also experienced margin compression at our converting operations, primarily in California and Texas. Year-to-date, Packaging segment EBITDA, excluding special items was up 3% to $115 million compared with $112 million for year-to-date 2011.

Sales in our Paper segment were $370 million, down 5% from third quarter 2011, due primarily to decreased volumes and prices for market pulp. Paper segment EBITDA, excluding special items, was flat compared with third quarter 2011 at $59 million, but up $18 million from $41 million in second quarter due to lower fiber and outage costs, which were offset slightly by higher chemical costs.

Turning now to input cost. Our major input costs, energy, fiber and chemicals totaled $242 million for third quarter 2012, a decrease of $18 million from last year's third quarter cost and an increase of $5 million from second quarter 2012. Lower fiber and energy cost, offset slightly by higher chemical costs, account for most of the decrease against the prior year quarter.

Regarding our free cash flow and liquidity. In the third quarter, we generated strong free cash flow of $62 million, due to improvements in working capital. During the first 9 months of 2012, we generated free cash flow of $83 million compared with $92 million for the same period in 2011. The decrease is due largely to changes in working capital, primarily increased accounts receivable and higher inventories, which we continue to work down.

We also contributed $27 million for our pension plans during the first 9 months of 2012. We made $25 million of long-term debt payments on our Tranche A term Loan in 2012, $18 million, which were voluntarily and eliminate our required principal payment obligations until December 31, 2013. These voluntary payments were made as the interest rate on this debt is higher than the interest rate earned on our cash and cash equivalents.

Our net total debt at the end of third quarter stood at $673 million. We had no borrowings outstanding under our revolving credit facility and availability of $493 million, with $102 million of cash-on-hand. We currently expect capital spending for the full year to be between $135 million and $140 million, excluding acquisitions.

I'll wrap up with outage cost, which can have a material impact on quarter-over-quarter performance comparisons. The timing of our outages and related expenses shifted in 2012 relative to 2011, but we're not anticipating a significant change in our year-over-year maintenance costs. For the first 9 months of 2012, our annual maintenance outages were about $21 million compared with $24 million during the first 9 months of 2011.

In our Packaging segment, we spent $4 million at our DeRidder mill in third quarter compared with $6 million last quarter. And we have no further planned maintenance outages in DeRidder this year.

In our Paper segment, we had minimal outage costs during third quarter, and we have just one remaining maintenance outage scheduled for fourth quarter at our Jackson, Alabama mill. We expect that outage to cost about $5 million.

I'll now pass the call back to Alexander for his concluding remarks.

Alexander Toeldte

Thank you, Sam. Third quarter was a good quarter for Boise, Inc. We operated well and generated good cash flow.

Looking ahead to fourth quarter, we expect increased maintenance outage cost compared to third quarter in our Paper segment due to the scheduled annual outage in Jackson. We expect seasonally increasing energy cost with other input cost remaining relatively stable. We see continued progress integrating our Tharco and Hexacomb operations. We expect to see some benefit from the linerboard price increase. And as of today, we do not expect any significant impact on our business from Sandy, other than some shift in timing of revenues inside the quarter. But I would like you to note that, that is a very early and preliminary assessment.

And with that, thank you for listening. We appreciate your interest in our company and will now take your questions.

Question-and-Answer Session

Operator

[Operator Instructions] Your first question comes from the line of Mark Connelly from CLSA.

Mark W. Connelly - Credit Agricole Securities (USA) Inc., Research Division

Alexander, 2 things. First, can you give us any sense of whether a DeRidder conversion is on the table or what a timetable for a decision might be? And second, I wonder if you could talk a little bit about the white paper market conditions. It looked early on like we had a shot at getting a price hike, then it fizzled out pretty fast. And also, whether the label market is going to be materially affected by the storm?

Alexander Toeldte

First -- so let me talk about the label market first. I don't think we know and up at this point, but I don't -- our best knowledge at this point is exactly as I said in my last point. It doesn't look like significant impact. But again, that's a very early assessment on the second day after Hurricane Sandy. And I think there are lots of people who still don't know exactly what their impact on their own businesses are going to be. In terms of DeRidder, the conversion is on the table, and that's all I would say for today. In terms of market for uncoated freesheet, the market demand was characterized by a lot of intra-months volatility this quarter. So we had strong weeks, and we had really weak weeks, and there were somewhat -- there was a bit of a random walk in terms of that. Clearly, the price increase did not go through. I think there was a certain amount of concern about the future among customers. We had a little bit of import price pressure, particularly from some Asian imports. But as it pertains to Boise's own sales, our customers have done very well, and we've seen nice volume growth at our main customers. So on the whole -- the market from our perspective has looked friendlier than the overall statistics would indicate.

Operator

Your next question comes from the line of Graham Mattison from Lazard Capital Markets.

Graham Mattison - Lazard Capital Markets LLC, Research Division

So just wondering if you could give a little bit more or expand a little bit on your comments about the margin compression you saw in the California market.

Alexander Toeldte

Well, we have had a long price stability of linerboard prices going into our corrugated businesses. And that has been an exceptionally long period up until the recently announced linerboard price increase. Typically, during periods of very stable linerboard price increases, we -- during periods of stability in terms of linerboard and containerboard prices going into the corrugated business, you see some price and margin erosion in the downstream corrugated businesses. So that's one point. We've had that, we've seen that particularly in California strongly. We've also seen it to some degree in Texas. Both markets are characterized by some competitive shifts with competitors adding some capacity. But there's also a second factor in our product mix that takes the reported price down. We've seen particularly strong volume growth in our sheet production and sheet sales. And they add positively to the overall profitability, but they take the unit price down. So you can see that somewhat coming through in our numbers too.

Graham Mattison - Lazard Capital Markets LLC, Research Division

And this is something you expect to persist into the fourth quarter and into next year? Or will it moderate?

Alexander Toeldte

We certainly want to increase the profitability of our corrugated operations. And as there's more price fluctuations, there's probably some margin increase too. The period has been so long that I think it'll take several quarters to work out of the relative compression between containerboard prices and corrugated prices. So I don't think that this is going to be a fast correction.

Graham Mattison - Lazard Capital Markets LLC, Research Division

Okay, great. And then one other question is I wonder if you could give us some of your thinking about upcoming costs or the demands from EPA rules in 2013 and beyond?

Alexander Toeldte

Well, we have several times said that our cost could be affected by, in particular, boiler MACT. At this point, and we've estimated those and put that, I think, forward at roughly $50 million, $51 million. That's a rough estimate and needs to be treated with some care. At this point, 2 weeks out from the election -- or less than 2 weeks out from the election, we simply don't know what the regulatory agenda is going to be after November 6. And it could vary significantly in terms of which rules the EPA puts forward and how they put them forward. So it is hard to expect. Our expectation as of our most current information is as I said, roughly $51 million over a 3-year period.

Operator

Your next question comes from the line of Phil Gresh from JPMorgan.

Phil M. Gresh - JP Morgan Chase & Co, Research Division

I just want a follow up real quick on the margin compression question. You talked about the competitive shifts there. Would you characterize that entirely as supply related? Or is the demand kind of falling off in those markets as well? Just hoping you could kind of give a little bit more color there.

Alexander Toeldte

It's predominantly a supply-related issue. Demand hasn't been entirely helpful in terms of the overall market, because we've had lower economic activity generally. But our volumes have done very nicely. So our view is this is more a supply issue, and we'll take a little bit of time to adjust in the market.

Phil M. Gresh - JP Morgan Chase & Co, Research Division

Got it, okay. And then just on the St. Helens closure. Is there capacity elsewhere in your system to pick up any of that lost tonnage? Or would you think of that as a true kind of net reduction to your overall production moving forward?

Alexander Toeldte

There -- the business we -- the businesses or product groups we ran there are fairly self-contained pieces of business. There will be a minor adjustment of product mix into other facilities, so that we will pick up some very selected volumes of higher profitability volume. But generally, this should be seen and is a net reduction of volume.

Phil M. Gresh - JP Morgan Chase & Co, Research Division

Got it, okay. And on the paper side, what are your operating rates running right now? Are you running pretty forward? Are you -- did you take any downtime?

Alexander Toeldte

Look, we have run in the mid to high 90s in terms of -- we're basically running full with the exception of a bit of maintenance downtime.

Phil M. Gresh - JP Morgan Chase & Co, Research Division

Got it, okay. And then just last question on the energy cost that you were highlighting for next quarter. Is that primarily driven just by natural gas costs? Or what's the driver there?

Alexander Toeldte

Yes. It's just a reference to the normal seasonal upswing in natural gas cost as temperatures get colder.

Samuel K. Cotterell

And as we go into the winter months, Phil, we just have more usage as things get colder also.

Operator

Your next question comes from the line of Joe Stivaletti from Goldman Sachs.

Joseph Stivaletti - Goldman Sachs Group Inc., Research Division

I was just wondering on a few things. One is, I was wondering if you had any update on potential expansions on the Packaging side of the company, if there's much activity going on there at this point, whether it be M&A related or internally?

Alexander Toeldte

Well, first of all, I want to emphasize that we are seeing very nice organic growth across our business in all of our Packaging operations. So that's, particularly in the economic context, a very satisfactory, very happy outcome for us. There is always a lot of conversations going on in the space. And when we have something to announce, we will talk about it, but not before.

Joseph Stivaletti - Goldman Sachs Group Inc., Research Division

And then I was wondering what your expectations are for sort of industry volume trends next year in commodity uncoated freesheet? Sort of what do you have in the back of your mind as you're planning out looking forward?

Alexander Toeldte

Well, we see a secular -- continuing secular decline in commodity uncoated freesheet that is roughly in the 3% range. We all see, generally, the decline in cut-size copy paper as the overtime slowest decline. And I want to remind you of the fact that about 62% of what we make is cut size. So we see a slower decline in terms of our direct volume affecting us. We, also, are benefiting from and helping our key customers showing nice growth right now in their Paper businesses. So on the whole, we are cognizant of the secular decline going forward, but reasonably optimistic about the next year for our company.

Joseph Stivaletti - Goldman Sachs Group Inc., Research Division

Great, and then just lastly, you shared a 2012 CapEx figure, can you share a 2013 number at this point?

Samuel K. Cotterell

Sure. I can -- this is Sam, I can just tell you that as we look out, again, excluding any of the large special projects that we might think about or acquisitions, we expect to be in a similar range if not slightly higher than where we are this year.

Operator

Your next question comes from the line of Alex Ovshey from Goldman Sachs.

Alex Ovshey Ovshey - Goldman Sachs Group Inc., Research Division

Couple of questions. First, just wondering on the comments around pricing compression in the California and Texas markets. As you work on passing through the linerboard price hike through the converted side, are you expecting to see incremental benefit for your business in those markets or...

Alexander Toeldte

Yes, we do recognize that the corrugated business has, depending on customers, differently stacked monthly, quarterly or other timing openers. So that is going to affect our bottom line in a time-staggered fashion that will work through Q4 and Q1 to work itself up to a full run rate. We fully expect to realize price increases.

Alex Ovshey Ovshey - Goldman Sachs Group Inc., Research Division

Okay, got it, Alexander. And then can you just talk about how your -- which of your prices are trending? And whether you're seeing any benefits from the incremental pickup in lumber production? Whether you expect to see any benefit going forward?

Samuel K. Cotterell

Yes, this is Sam. The lumber impact helps us in the Pacific Northwest. Our fiber costs in the Pacific Northwest are higher than, historically, has been the case in previous years. As the lumber markets begin to come back, we are seeing a modest decrease in those prices, but it hasn't been a significant decrease.

Alex Ovshey Ovshey - Goldman Sachs Group Inc., Research Division

Okay, got it. And just last question. Can you just remind us again how you guys think about the potential magnitude and timing of the special dividend? You have certainly done, I think 3 now, over the last number of years. So as you go forward, just remind us how you think about that.

Samuel K. Cotterell

Well, we think about it. That's point one. We've always said that we are very focused on creating value for our shareholders, including returning capital to them, when our immediately past results and our outlook together justify it. So that's something that we're thinking actively and intensely about and when we have to announce -- when we have a special dividend to announce, we will announce it.

Operator

Your next question comes from the line of Bill Hoffman from RBC Capital Markets.

Bill Hoffman - RBC Capital Markets, LLC, Research Division

Alexander, I wonder if you could talk to us a little bit about what you're hearing from customers about year-end inventory management. Anything less of inventory -- a bit of an inventory cycle, I'm just wondering if you're seeing the same things this year, both in the Paper and in the Packaging side of the business?

Alexander Toeldte

We have seen an increased amount of late-quarter inventory management than we've seen over the last few years. But we have not picked up any particular changes to overall year outlook or overall consumption and demand levels that any way would influence the year end and any deviation from normal seasonal pattern. So there's a little bit more quarterly inventory management prevailing, particularly in the Paper business, to a lesser degree in the Packaging side.

Bill Hoffman - RBC Capital Markets, LLC, Research Division

Great. And then just with Smurfit Kappa buying the converting operations down in California in sort of Mexican border, I just wonder that's one of the things we've always thought would be your next step was to acquire incremental converting operations. Are there other assets out there that you're seeing? Or what are you thinking about valuations at this point in time? Are they still too high at this point?

Alexander Toeldte

Well, you're absolutely right. We see a number of possible assets out there. And we've always said that, for us, the criterion is the combination of a strong industrial logic and the right price. And, usually, when we're not in the picture of acquiring it, you can deduct from that, that one of those 2 dimensions didn't work for us.

Operator

Your next question comes from the line of Roger Bogner from Bogner Enterprises.

Roger Bogner

A small question about the closure of St. Helens. We follow the tissue paper industry, and our notes indicate there was a tissue paper machine at that location. Is that correct?

Alexander Toeldte

Cascades owns a tissue machine in that same location. And as best as we know, that continues to operate and any questions about that machine, you got to direct to Cascades.

Roger Bogner

But your team -- you supply certain component materials, do you not do that? Or is that completely independent to them?

Alexander Toeldte

We have, up to this point, shared services in that mill. Now -- from now on going forward, Cascades will have to run those services themselves.

Operator

There are no further questions at this time. Mr. Toeldte, I'll turn the call back over to you.

Alexander Toeldte

Well, thank you very much. Thank you for your interest and for calling in. I'm sure many of you had some obstacles getting to your offices or even to your phones. We appreciate your interest. Thank you for listening, and we'll see you next quarter.

Operator

Ladies and gentlemen, this concludes today's conference call. You may now disconnect.

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