Q1 2013 Earnings Call Transcript

Published: 9 May 2013

[Operator:]

Welcome to SWM's First Quarter 2013 Earnings Conference Call. Hosting the call today from SWM is Frédéric Villoutreix, Chief Executive Officer. He is joined by Jeff Cook, Executive Vice President, Chief Financial Officer and Treasurer; and Mark Spears, Corporate Controller. Today's call is being recorded and will be available for replay beginning at noon, Eastern Standard Time. The dial in for the replay is 1 [phone], and enter pin number 37230552. [Operator Instructions] It is now my pleasure to turn the floor over to Mr. Spears. Sir, you may begin.

[Mark A. Spears:]

Thank you, Lori. Good morning. I'm Mark Spears, Corporate Controller at SWM. Thank you for joining us today to discuss SWM's First Quarter 2013 Earnings Results. On today's call, Frédéric will share some high-level comments about our first quarter performance and priorities. Jeff will then take you through a more detailed review of our financial results and guidance. We will then take your questions. Before we begin, I would like to remind you that the comments included in today's conference call constitute forward-looking statements. Actual results may differ materially from the results suggested by these comments for a number of reasons, which are discussed in more detail in the company's Securities and Exchange Commission filings, including our annual report on Form 10-K. Certain financial measures discussed during this call exclude restructuring and impairment expenses and are, therefore, non-GAAP financial measures. I will now turn the call over to Frédéric.

[Frédéric P. Villoutreix:]

Thank you, Mark, and good morning, everyone. Late yesterday, we released our first quarter earnings and we'll discuss results in the next several slides. As shown on Slide 4, we have solid first quarter earnings. As expected, our top line was level with the prior year, as a 10% increase in LIP volumes offset a decline in reconstituted tobacco sales. As you may remember, the first quarter of 2012 was an exceptionally strong quarter for RTL and the first quarter 2013 was also impacted by the timing of certain shipments. Adjusted earnings per share from continuing operations of $1.01 came in slightly above our expectations, driven by the favorable impact of foreign currency exchange rates and lower nonmanufacturing expenses. Although foreign currency exchange rates remain a key variable, we may slightly exceed our total year 2013 earnings guidance of $3.70 if we can retain the benefits included in our first quarter results. Cash generation also remained strong in the first quarter and we are now in a net cash position of $19.2 million dollars as opposed to a net-debt position of $62.2 million 1 year ago. This strong performance includes the impact of a fourfold increase in our quarterly dividend rates beginning with the third quarter of 2012 dividend. Looking ahead, we are confident of our overall 2013 business plan. We are realizing solid earnings improvements from our operational excellence program and the restructuring actions taken in the past year. And we continue to expect this would be an important element of our 2013 adjusted earnings per share growth over 2012. Foreign currency exchange rates remain a key valuable for us and we are seeing some headwinds on rising pulp prices. In addition, first quarter sales weakness, noted by some of our customers, is a concern for future quarters, especially in Western Europe. It did not appear to affect us in this first quarter, however, we are watching incoming order levels very closely. Moving to operational trends on Slide 5. LIP volumes increased by 10% over the prior year, as we were in a buildup mode during the first quarter of 2012. Nonetheless, first quarter volumes are very solid and our market position remains strong. As I indicated previously, RTL volumes decreased by 9% from an unusually strong first quarter 2012. In addition, order timing was a factor, especially in our wrapper and binder mill in Ancram, New York. Construction activities of our plant in China are moving along very well, with the expectation to reignite our share volume growth beginning in 2014. With respect to cost optimization, we have continually improved our track record of eliminating cost from the business, and the first quarter was no exception. Year-over-year, cost benefits from our values Lean Six Sigma efforts and restructuring actions provided approximately $5 million of cost improvements, especially in the paper segment. Our success in these efforts are to offset the negative impact on higher pulp prices, as well as some mix issues in our base paper business. We have worked hard to generate strong cost savings to offset inflationary and pricing pressures, and this remains our focus on the long run. Lastly, currency volatility favorably impacted our results, especially the weaker real in Brazil. Jeff will talk more about this later in the call. As I discussed in our last earning call during February, SWM is focused on a very clear growth strategy. We have continued to develop our plans and actions around the strategy and will provide updates from time to time on key initiatives and events. Although our growth plans anticipate expansion into nontobacco areas, it is important to note that SWM remains committed to serving our tobacco customers with the same high level of quality and innovative products as we always have. As an example, key research and development efforts are under way on the next-generation of LIP products, and we continue to improve upon our reconstituted tobacco products in support of customer needs for improved taste and additive-free grades. These initiatives will help SWM to not only maintain, but grow its leading tobacco industry market position and continue generating the solid levels of financial performance that our shareholders have come to expect. We are continuing to invest in Asia to capitalize on growth opportunities and regulatory trends requiring more sophisticated cigarettes in design and performance. The new RTL joint venture in China is well under way and will provide volume and earnings increases over the next several years. We continue to explore options for further growth in China and Asia as we want to be solidly positioned to serve the continued growth of cigarettes consumption in China as well as the expected launch of LIP in the Asia region in future years. Finally, we continue to step up our commercial and product development focus on nontobacco applications. We're actively expanding our market presence in electrical, papers and composite laminates and are exploring new avenues to leverage our technologies in new filtration and medical applications. Our general strategy here is to leverage our expertise in high-strength, low-basis weight porous papers containing engineered fibers, and develop value-adding solutions to highly specialized industries where we can really bring our R&D expertise and experience to bear. As I said in February, it remains our view that a diverse yet stable growth portfolio better positions SWM to weather market filtrations and improve infrastructure productivity. While we remain confident with our 2013 and longer-term business plans, we will achieve more consistent and higher growth with a more broader set of product offerings and a larger customer base. Let me now turn it over to Jeff to discuss our financial results in more detail.

[Jeffrey A. Cook:]

Thank you, Frédéric. Moving to Slide 8. First quarter net sales decreased slightly versus the prior year quarter. As Frédéric indicated, RTL experienced an exceptionally strong level of revenue in the first quarter of 2012. However, the lower first quarter of 2013 RTL volume was partially offset by higher LIP revenue. In addition, RTL had improved pricing levels. Turning to Slide 9, volume trends. First quarter 2013 reconstituted tobacco sales volumes were down 9% compared to the prior year period, due primarily to comparison with a very strong Q1 performance in 2012. Tobacco paper volumes, including CTM, our joint venture in China, were stable with the prior year quarter, with LIP up 10%. Overall SWM volumes, including CTM, our paper joint venture in China, were down 3% from the same quarter in 2012, driven by the reconstituted tobacco volumes. Slide 10, operating profit comparisons. First quarter adjusted operating profit was $0.6 million lower than the prior year quarter. The slight decrease was primarily due to the unfavorable impact of lower reconstituted tobacco sales, offset partially by improved global paper profitability, including the LIP. The impact of higher pulp prices and some product pricing and mix pressures were offset by lower non-pulp material costs and nonmanufacturing expenses, as well as favorable manufacturing costs driven by operational improvements. As expected, pulp costs are a headwind for us in 2013, with higher hardwood prices in the Americas and the expected increase in software prices in Europe over the next few quarters. As you will see on Slide 11, paper profits improved, on higher volume in LIP products and excellent manufacturing cost performance. Although royalty income was down from the first quarter of 2012, this was more than recovered through greater direct market share. Adjusted operating profit for the first quarter of 2013 was down from last year in reconstituted tobacco, due to lower volume and timing of shipments, but helped by improved pricing. In addition, Q1 2012 was an exceptionally strong quarter for that segment. Our first quarter 2013 adjusted earnings per share, as shown on Slide 12, was $1.01 per share, up $0.10, or 11%, from the first quarter of 2012. The improvement in first quarter is primarily the result of lower nonmanufacturing expenses, as well as favorable foreign currency exchange rate gains on several hedging transactions and a $0.6 million tax benefit in France driven by the quarter-end drop in the euro compared with the end of 2012. This latter benefit could reverse if the euro sustains the strengthening seen in the second quarter. Turning to Slide 13. SWM net-debt decreased by $24 million during the first quarter of 2013 and decreased $81.4 million since the end of the first quarter of 2012. These improvements are despite the impact of a fourfold increase in our dividend rate since the third quarter of last year. Total debt was 23.6% of capital at the end of the quarter. Now moving to Slide 14. Capital spending was $5.6 million in first quarter of 2012, compared to $7.8 million in the first quarter of 2013. For 2013, we expect capital spending to be between $30 million and $35 million, slightly higher than 2012 levels, but still well below 2011 spending. We expect 2013 equity investments for CTS to be less than half the amount we invested during 2012, and we did not purchase any stock under the $15 million authorization established in the fourth quarter of 2012. Return on invested capital for the first quarter, as shown on Slide 15, was 21.2%, in line with our 2012 results, and well above our cost of capital, primarily due to strong earnings and continued prudent use of capital. Return on invested capital is expected to remain strong in 2013 due to higher earnings and relatively stable levels of invested capital. That concludes our remarks. Lori, please open the line for questions.

[Operator:]

[Operator Instructions] Your first question comes from the line of Bill Chappell of SunTrust.

[William B. Chappell:]

I guess, first, just trying to understand what you're seeing. I think we've talked in the past that you expected your trends this year, with no new LIP countries, to match some of the industry volumes worldwide. I mean, are you seeing a further kind of deceleration of volumes? Or how should we gauge that as we look at kind of the next couple of quarters?

[Frédéric P. Villoutreix:]

Bill, let me address your question. I think you're right to say that the plan for 2013 is based on no expansion of LIP regulation. We have built in our guidance the normal attrition in terms of cigarette consumption in the Western markets that are already under LIP regulation. And as we signaled in our prepared remarks, the only area of concern that came out in the first quarter is the weaker sale of cigarettes in the EU in the first quarter than the, I would say, what the cigarette companies would have planned themselves. And to quantify it, the cigarette companies in Europe have reported a 10% decline in cigarette consumption in the first quarter, where the annualized rate last year was more 6%. But this is due to economic reasons and other factors. And right now, on our end, we have very strong sales at LIP during the quarter, so we just need to monitor that. So our plans, our guidance is built around some volume attrition in terms of cigarette declines, but also as continuing to gain market share and improve our cost position on the paper segment to deliver the earnings that we built in the guidance. And we're off to a good start.

[William B. Chappell:]

Okay. And to just kind of follow -- maybe, Frédéric, if you can kind of walk through what you're seeing on RTL just in terms of do you expect more -- the overall category to grow this year? Are you rethinking anymore about the Philippines facility or what you're going to do with the European facility? And how you see demand with leaf prices kind of moving, how that should play out this year.

[Frédéric P. Villoutreix:]

Okay. We built our plan for 2013 assuming flat volumes for RTL, and that was coming after a very strong 2012 exercise. And our focus is to build the factory in China, China Tobacco Schweitzer, CTS, as it is clearly the #1 growth opportunity that we have starting in '14 and for at least the next 3 years, in a significant way. And again, it's a 30,000-ton investment. We have an 80,000-ton footprint today. So it's, in itself, almost a 40% growth rate that is built in over the next 3 plus years. As it relates to the general environment, our sales were somewhat weak in the first quarter. However, we can't -- it's not unusual for RTL. And we had some shipments that were shifted to the very beginning of the second quarter, so I am not concerned at all about us at least delivering on our view of the flat volume for '14 -- '13, sorry. And for the RTL Philippine investment, our priority in terms of execution remains China, and we will revisit the opportunity to restart the investment in the Philippines once the China investment is activated. In the meantime, we continue to make progress developing new demand for RTL from the Asia, x China, region, and so we remain on track with our plans to take advantage of opportunities that exist and will, in our view further strengthen for usage of RTL in Asia.

[William B. Chappell:]

Great. And then, just last question, Jeffrey. Tax rate for the full year, what you're now expecting?

[Jeffrey A. Cook:]

Well, I would say that we'll be down probably around -- maybe use 31%. We did have some things that pulled us down in the first quarter, an unusually low hit. But I would say using 31% is probably a fair number overall for the year.

[Operator:]

[Operator Instructions] Your next question comes from the line of Ann Gurkin of Davenport.

[Ann H. Gurkin:]

I wanted to start with -- to get some additional detail on some comments, Frédéric, you made in your presentation. I think you said RTL Q1 timing shipments had an impact. Can you quantify that?

[Frédéric P. Villoutreix:]

It's hard to quantify, because that happens every quarter, whether it's favorable or unfavorable. And we have -- it's a fairly lumpy business, large orders, few customers and it's a matter of when you close and ship a campaign, a production campaign. What I can say is second quarter will be stronger than the first quarter, but more importantly, our view is we are on track to deliver on our guidance for RTL, which is at least a flat volume on the full-year basis.

[Ann H. Gurkin:]

I understand the question relates to LIP, you said there was a buildup in the first quarter, can you help...

[Frédéric P. Villoutreix:]

Yes, the buildup was, in fact, the comparison in -- the first quarter of '2012, if you remember, the industry in Europe got prepared for an implementation at the end of 2011, and there was some destocking after a very large inventory build at our customers that took place during the first quarter of 2012. So in comparison, the first quarter '13 is very strong and in absolute numbers, it is strong, and we have gained market share points in the quarter of '13 -- first quarter of '13. But the comparison to '12 was, let's say, not the same for 2013, because the first quarter '12 was a somewhat weak quarter for the 2012 exercise.

[Ann H. Gurkin:]

Okay. And then if we can turn to share repurchase price, that you did not buy any stock under your $50 million authorization. Can you comment on your expectations to address or buy under that program this year during '13?

[Jeffrey A. Cook:]

Yes. It's -- as we said when we came out with the plan originally, I mean, it was an opportunistic plan to have out there. But the important thing to remember is we balance that action with our overall other cash needs in the business. We've got -- we're looking at several potential opportunities for investments in the core business, particularly opportunities in Asia, and trying to figure what's going to happen with LIP and when some of the next markets are going to go and what our needs will be for that as well. So we -- it's a constant rebalancing of the needs of the cash. Now the other thing we also said is that much of the cash we return would be in the form of dividends, and certainly we're holding true to that. So buybacks are in effect, an opportunistic plan to have out there, to be balanced with all these other demands. And we can't underestimate the fact that there could be substantial needs for investing in RTL and LIP over the next 2 to 3 years, dependent on how things materialize, particularly in Asia. And so those are the variables we're constantly weighing here and trying to factor into our quarterly buyback plans.

[Ann H. Gurkin:]

Fair enough. And then I get asked about e-cigarettes and there's growing focus on the rapid growth of the e-cigarette segment. Do you anticipate that impacting your business over the next several years? Or how do you view this rapid growth of e-cigarettes in the U.S.?

[Frédéric P. Villoutreix:]

Well, clearly, and especially if you look at the U.S. markets, there is rapid growth and -- of these cigarettes. There is, obviously, the secular decline in consumption of conventional cigarettes. There are other tobacco product alternatives, as you know, that are competing with the e-cigarettes to attract smokers, conventional smokers. There's a lot of uncertainty right now. As you know, FDA is reviewing the e-cigarettes and no decision has been made or communication has been made from FDA. Those products are not taxed today and things may change. So for us, as we said that, during the last call, we are certainly looking at whether this segment, product segment, especially as it relates to the cartridge refills and nicotine extraction, could that be an avenue for us to expand our product offering. Nothing -- no new development on this front, but we're certainly monitoring the growth of the e-cigarettes and how regulators will, both in the U.S. but also in Europe, will look at e-cigarettes as an alternative to tobacco products.

[Operator:]

At this time, there are no further questions. I'll now return the call to management for any additional or closing remarks.

[Frédéric P. Villoutreix:]

Thank you, Lori. And thank you all for attending the call. We certainly appreciate your interest in the company. Jeff and I will be in our offices today, and if you have any follow-up questions, please give us a call. And have a nice day.

[Operator:]

Thank you for participating in SWM's First Quarter 2013 Earnings Conference Call. You may now disconnect.