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Participants

Arsen Kitch; President, Chief Executive Officer, Director; Clearwater Paper Corp

Sherri Baker; Chief Financial Officer, Senior Vice President; Clearwater Paper Corp

Presentation

Operator

Thank you for standing by and welcome to the Clearwater Paper third quarter, 2024 earnings conference call. (Event Instructions) Thank you. I'd now like to turn the call over to Mr. Sloan Bohlen Investor Relations. You may begin.

Thank you, Rob and good afternoon and thanks everyone for joining Clearwater Paper's third quarter, 2024 earnings conference call. Joining me on the call today are Arsen Kitch, President and Chief Executive Officer and Sherri Baker, Senior Vice President and Chief Financial Officer. National results for the third quarter, 2024 were released shortly after today's market. Close along with the filing of our 10-Q, you will find a presentation of supplemental information including a slide providing the company's current outlook posted on the investor relations page of our website at clearwater paper dotcom.
Additionally, we will be providing certain non-GAAP information in this afternoon's discussion, a reconciliation of the non-GAAP information to comparable GAAP information is included in the press release. And in the supplemental information provided on our website. Please note slide 2 of the supplemental information covering forward-looking statements rather than rereading this slide. We're going to incorporate it by reference into our prepared remarks. And with that, let me turn the call over to Arsen.

Arsen Kitch

Thank you for joining us today and good afternoon, given our recent strategic announcements, I'm going to start my comments with a few highlights for the third quarter and then spend the bulk of my time discussing our industry fundamentals, our strategy and what you can expect from us in the long run.
Sherry will then cover our third quarter results as well as our financial outlook including initial expectations for 2025.
Let's start with a few highlights. We had a very good third quarter overall, delivering $64 million of adjusted EBIDA. This was in the middle of our guidance range of 58 to 68 million.
We would have been above the high end of the range without the approximately $5 million of negative impact from hurricane Helene, which affected our Augusta Georgia paperwork facility as well as the Shelby North Carolina Tissue Mill.
The Augusta facility was down for roughly six days but there was no significant damage to our equipment as you saw in our press release last Friday we closed on the sale of our tissue business on November 1st. As a reminder, we sold this business to supplier for $1.06 billion.
We expect to net approximately $850 million in cash from the sale after taxes and other customer expenses and we use the proceeds to pay down all our outstanding credit facilities.
We retained our 2028 notes with an outstanding principal balance of 275 million and a rate of 4.75%. Finally, our board approved $100 million share repurchase program. We intend to buy back shares when they trade at a sufficient discount to what we believe to be our inherent value.
Now, let's turn to an overview of our strategy with the sale of the tissue business. We're transforming Clearwater into a premier paperboard packaging supplier focused on servicing independent converters in North America.
We're now able to sharpen our focus on growing and improving our paperboard business. We will do this by driving operational and cost improvements as well as finding ways to become more relevant to our customers by expanding our product range to put our strategy into perspective and to address many of the questions that we get from shareholders. I'll share our view on the paperboard industry structure and how we fit in.
We compete in an approximately 10 million ton North American paperboard market, which is made up primarily of three substrates.
The first and the largest of the substrates is solid bleach, sulfate, paperboard or SBS. There's approximately 5 million tons of SBS supply available in North America. This is the highest quality paper board with superior print quality and performance. It is used primarily in consumer packaging and food service applications.
The second substrate is coded on bleach craft or C UK. In North America, there's about 2.5 million tons of C UK supply. This substrate is known for its strength and is used primarily in beverage carrier applications, think beer and soda packaging.
The third substrate is coded recycle board or CRB with approximately 2.5 million tons of supply in North America.
This is the only substrate that is made of recycled fiber and is used primarily in lower cost consumer packaging applications. A good end product example is a generic cereal box, paperboard demand has historically been relatively stable showing only limited sensitivity to economic fluctuations.
Growth has historically tracked close to GDP and we believe that sustainability trends are a tailwind as customers and consumers look to move away from plastics and towards renewable fiber based packaging supply has also been historically stable. The capacity changes come in large increments. For example, a new paper machine could have more than 500,000 tons of new capacity and cost north of $500 million.
A single new machine can add nearly 10% to SBS industry supply and 20% to C UK or CRB.
Imports and exports have long played a role in this industry with approximately 2 million tons exported and 1 million tons imported, annually, imports, imports fluctuate depending on market pricing. In North America, shipping costs and supply and demand balances across the globe.
While imports have an impact on the market. North American converters have shown a preference for the quality and security of domestic paperboard supply.
Let's now turn to industry structure. There are two kinds of paperboard suppliers. The first is an integrated supplier that manufactures paper board and converts that paper board into packaging.
The second is an independent supplier that manufactures paperboard but has no downstream converting Clearwater is the latter an independent supplier that is focused on servicing independent converters.
Integration rates vary by substrate. But we estimate that 55% of paper board in North America is integrated while 45% is non integrated SBS is the least integrated of these substrates with an integration rate of approximately 30% based on our estimates.
While integrated suppliers have a stated strategy to increase their levels of integration, we believe that independent converters will continue to play a vital and long term role in the market.
Independent converters offer agility flexibility and a higher level of service than the integrated suppliers. They're more effective at servicing small to medium sized customers and are often a critical secondary supplier for large CPG and food service companies that are unwilling to commit 100% of the business to large integrated players.
Clearwater has a strong position within this industry structure. We have an excellent geographic footprint with our Lewiston Idaho mill covering the western part of the US, our Cypress Bend, Arkansas mill covering the central part of our, the Georgia mill covering the east.
These mills have a capacity of approximately 1.4 million tons of SBS and can produce around 1.4 million tons of pulp.
We also have five sheeting and distribution facilities as part of our Manchester industries, business that provide additional services to some of our smaller customers.
We believe that our assets are well invested and that we have a strong reputation in the industry for quality and service. We're dedicated to independent converters and have no channel conflict. We strive to create long term strategic partnerships with converters that drive growth for both sides.
Let's continue by discussing our point of view on the cyclicality of our industry. We operate in an inherently cyclical industry driven by the supply and demand balance with demand being relatively stable and growing. This balance is largely driven by changes in supply in a down cycle capacity, additions, outpace demand growth resulting in industry utilization rates below 85% with falling margins.
This part of the cycle can lead to high cost assets being uncompetitive and not re-investable at the midpoint of the cycle, which is typically the steady state of our industry supply and demand are balanced with utilization rates of 90 to 95% margins at this part of the cycle are healthy and allow for reinvestment in the business. In an up cycle. Demand exceeds supply with utilization rates exceeding 95% leading to better margins. This can lead to additional capacity being added in more imports.
SBS is currently in a down cycle for two reasons. First COVID drove unprecedented demand growth in SBS followed by inventory destocking and a slow down in consumer spending. In addition, there's new SBS capacity announced for 2025 which is likely to continue this down cycle until there's a better supply and demand balance in the industry.
Even as we experienced the cyclical downturn, we remain confident in long term industry fundamentals of paperboard packaging in North America and we believe that we're well positioned for growth given our customer preferences and consumer driven sustainability trends.
I'd like to circle back to focus on our strategy and potential next steps for growth. As I mentioned earlier, we're transforming Clearwater into a premier independent supplier, paperboard packaging products to North American converters.
We've taken two big steps this year to execute that strategy with the acquisition of the Augusta SBS facility and the sale of our tissue business.
The proceeds from the tissue sale have been used to significantly deliver our balance sheet with our strong balance sheet. We believe that we're well positioned to weather the current SBS downcycle. Continue to invest in our assets and broaden our product offering whether through organic investments in our existing network or opportunistic acquisitions.
Given consumer preferences for fiber based packaging, we see significant growth potential that requires innovation and investment.
We're partnering with our converter customers to develop new products and deliver innovative solutions that consumers are looking for.
In particular, we're looking to address three market trends. First, customers are interested in lighter weight paperboard options without sacrifice, sacrificing print quality and strength. Second, customers are looking for composable solutions particularly in food service. This requires innovation and barriers and coatings to make them biodegradable.
And third customers are interested in the inclusion of alternative fibers and paper board such as post consumer recycle content.
Practically speaking, we're not looking at Greenfield builds. Let me get a bit more specific and provide some examples of the internal projects that we're exploring.
We're looking at investments to increase the amount of mechanical and recycled pulp that we can consume on our paper machines. This can help us deliver a lighter weight sheet that competes with imported folding boxboard as well as a viable alternative to some of the higher quality CRB offerings.
We're also exploring adding unbleached pulping capabilities to diversify our product offering and deliver a beverage carrier grade that effectively competes with the UK.
We'll continue to invest in our new bone re imagine brands which are high quality folding card and cup offerings with up to 35% post consumer recycle content.
We're developing biodegradable barriers and coding's to deliver compostable solution to our customers. These are just some of the options that we're assessing to diversify and grow our business.
In addition to internal investments, we will consider opportunistically acquiring assets that are a good fit for our network. We recognize that these acquisition opportunities are infrequent and difficult to predict.
Let me wrap up my comments by summarizing what you can expect from us through the industry cycle in a down cycle. We're targeting adjusted EBITA margins around 8 to 10% and up to a 20% adjusted EBITA to free cash flow conversion ratio in an up cycle. We expect adjusted even the margins to exceed 16% with a 60 to 70% free cash flow conversion ratio across the cycle.
We're targeting adjust but a margins of 13 to 14% and a 40 to 50% free cash flow conversion ratio at a 90 to 95% utilization rate. This assumes revenues of approximately 1.8 billion and includes the capture of Augusta synergies which are primarily volume driven.
These assumptions translate into more than $100 million of annual free cash flows across the cycle. Based on our cross cycle expectations. We expect our business to generate significant free cash flows in the long run, giving us the opportunity to create value through investments or returning capital to shareholders. With that, Sherri is going to discuss our third quarter results, our outlook and capital allocation priorities moving forward.