Domtar Corporation
Q1 2018 Earnings Call Transcript

Published: 1 May 2018

[Operator:]

Good day, ladies and gentlemen. Welcome to the Domtar Corporation First Quarter 2018 Earnings Conference Call. At this time, all participants are in a listen-only mode. Following the presentation, we will conduct a question-and-answer session. As a reminder, this call is being recorded today, May 1, 2018. I would now like to turn the meeting over to Mr. Nicholas Estrela. Please go ahead.

[Nicholas Estrela:]

Thank you, Don. Good morning, and welcome to our first quarter 2018 earnings call. Our speakers today will be John Williams, President and Chief Executive Officer; and Daniel Buron, Senior Vice President and Chief Financial Officer. They will be supported by Mike Garcia from Pulp and Paper division and Michael Fagan from the Personal Care division. John and Daniel will begin with prepared remarks after which they will take questions. During the call, references will be made to supporting slides, and you can find this presentation in the Investors section of the websites. As a reminder, all statements made during the call that are not based on historical facts are forward-looking statements, subject to a number of risks and uncertainties, many of which are outside our control. I invite you to review Domtar's filings to the Securities Commissions for a listing of those. Finally, certain non-U.S. GAAP financial measures will be presented and discussed, and you can find the reconciliation to the closest GAAP measures in the Appendix of this morning's release, as well as on our website. So, with that, I'll turn it over to John.

[John David Williams:]

Thank you, Nick, and good morning, everyone. This morning, we reported EBITDA before items of $161 million on sales of $1.3 billion. Results improved versus the fourth quarter. Our businesses generated strong operating cash flow over $90 million in the quarter, and we continue to see strong price momentum in our Pulp and Paper businesses. In Paper, we delivered improved results and those results were driven by lower maintenance costs, good productivity, and a more favorable pricing environment for our products. Our sales volume increased 6% versus quarter four. And during the quarter, we continued to implement the previously announced price increase that covered a majority of our paper grades. As a result, price realizations were up $16 per ton. Prices for uncoated freesheet moved up further in April, confirming that our recent price increases are gaining traction. In Pulp, our results were solid, but slightly below the fourth quarter, mostly due to weather, which impacted output and costs, but we did benefit from further pulp price momentum. Results in Personal Care were in line with our expectations. Same currency sales were flat year-over-year, and adult incontinence and baby diaper volumes grew 2% and 4%, respectively. Personal Care margins were impacted by the effects of foreign exchange translation on the sales side and increased raw material input costs. We are taking actions to improve our results by improving productivity, optimizing SG&A, and transitioning our customer portfolio. Most importantly, we are executing our strategies for long-term success, while focusing on near-term growth opportunities. With that, let me turn the call over to Daniel for the financial review before making further comments on our fourth quarter performance and our outlook. Daniel?

[Daniel Buron:]

Thank you, John, and good morning, everyone. Let's start by going over the financial highlights of the quarter on slide 4. We reported this morning net earnings of $0.86 per share for the first quarter compared to a net loss of $6.60 per share for the fourth quarter of 2017. Adjusting for items, our earnings were $0.87 per share in the first quarter compared to earnings of $0.64 per share for the prior quarter. EBITDA before items amounted to $161 million, compared to $141 million in the fourth quarter. Turning to the sequential variation in earnings on slide 5. Consolidated sales were $10 million higher than the fourth quarter due to higher prices in our Pulp and Paper business, partially offset by lower volume of pulp. Depreciation and amortization was $3 million lower than the fourth quarter, while SG&A was $5 million lower than the fourth quarter, largely due to lower mark-to-market of stock-based compensation. The first quarter results included the following items; a litigation settlement for $2 million and a gain on disposal of property, plant, and equipment of $1 million. In the first quarter, we recorded a total income tax expense of $11 million or 17%. Now, turning to the cash flow statement on slide 6. Cash flows provided from operating activities amounted to $90 million, while capital expenditures amounted to $25 million. This resulted in free cash flow of $65 million in the first quarter. Turning to the quarterly waterfall slide 7. When compared to the fourth quarter, EBITDA before items increased $20 million due to higher selling prices for $27 million, lower maintenance costs for $20 million, lower other costs for $10 million and lower SG&A for $6 million. These were partially offset by higher raw material costs for $28 million, higher freight costs for $10 million, lower volume and mix for $2 million, lower productivity for $1 million and a negative exchange rate for $1 million. Our results were impacted by severe weather condition in the first quarter, in particular some of our pulp mills and to a lesser extent some of our paper mills incurred lower productivity and higher than normal energy and fiber costs. We estimate that weather-related costs to be approximately $8 million in the quarter. Now, the review of our business segment on slide 8. In the Pulp and Paper segment, sales were 1% higher when compared to the fourth quarter and 3% higher when compared to the same period last year. EBITDA before items was $140 million compared to $122 million in the fourth quarter of 2017. Our Paper business on slide 9. Sales increased 8% versus last quarter and were 2% higher versus the same quarter last year, while estimated EBITDA before items was $96 million. Manufactured paper shipment were 6% higher when compared to Q4 and 3% higher versus the same period last year. Average transaction prices for all our paper grades were $16 per ton higher than the last quarter. Let's turn to our Pulp business on slide 10. Sales decreased 14% versus the last quarter and were 3% higher versus the same period last year. Estimated EBITDA before items was $44 million. Pulp shipment were 19% lower versus the fourth quarter and down 17% when compared to the same period last year. Our pulp shipment in the quarter were lower than Q4, in part due to lower level of inventory at the beginning of the year as we sold 50,000 metric tons out of inventory in Q4 and lower productivity in the first quarter. Average pulp prices increased $42 per metric ton versus the fourth quarter. Our Paper inventory decreased by 28,000 tons when compared to the last quarter, while pulp inventories increased by 17,000 tons as we are planning for a busy quarter maintenance in our Pulp business. Our Personal Care business on slide 12. Sales increased 1% when compared to last quarter and were 6% higher versus the same quarter last year. EBITDA before item was $26 million, $8 million lower than the fourth quarter. Let's turn to slide 13. As you can see, the second quarter will be our most active quarter with regards to major planned maintenance shutdowns in our Pulp and Paper business. We expect to spend approximately $35 million more than what we spent in the first quarter, and this increase should be evenly split between Pulp and Paper. So, this concludes my financial review. And with that, I'll turn the call back to John. John?

[John David Williams:]

Thank you, Daniel. Our Paper business continued to deliver strong results in the first quarter despite cost pressures and above-average freight costs. The ongoing truck shortage continues to impact logistics costs, with both contracted pricing and spot rates remaining high. This has led us to realign our distribution strategies as well as make adjustments to our carrier procurement approach. Although there are challenges ahead, we're seeing more reasonable spot approach compared to what we experienced earlier in the year. Moreover, we have maintained our service levels, and customers have been very satisfied with our service, in part due to the size and geographic location of our network. We had good demand across most product grades with solid shipments in our specialty converting base stock business where we won new business with several large converters. Recently announced capacity closures in the industry and a 24% decline in imports also drove incremental sales volume from some of our strategic customers. We ran it near capacity, resulting in good productivity with 8 of our 14 communications paper machines running above plan. This helped offset some of the impact of weather related and freight costs. We sold all of our production in the quarter in addition to 28,000 tons from inventory. Our backlogs are strong, and the announcement of closures can be expected to keep markets in balance over some time to come. So, our outlook remains positive. First quarter shipments did include a mix of lower-margin seasonal flex business and exports, but overall, prices were higher following recently announced price increases. In April, we announced a $50 per ton price increase on most of our communication grades covering approximately 2.3 million tons. These increases reflect continued momentum in the business. In Pulp, severe weather resulted in operational issues at several mills, which, as mentioned, impacted both our costs and our volumes. Our average pulp prices continued their upward trend. Our prices were $42 per metric ton higher when compared to quarter four as we saw the full effect of our announced increases in China and the implementation of North American price increases. Prices of softwood grades continued to improve in April. And last week, we also announced a $40 to $60 price increase on softwood and fluff pulp grades for May shipments in North America and Europe. This reflects the continued price momentum in the short term, supported by steady demand as we head into the seasonally higher maintenance period. As a reminder, sales to North America and Europe represent approximately 45% of our market pulp mix. The permanent shutdown of the NC-2 fluff pulp line at our Plymouth mill occurred during the quarter, resulting in a reduction of 80,000 tons annualized. The NC-2 closure is an important next step in the optimization of the Plymouth mill. The closure was well executed and we're already seeing immediate benefits from our streamlining measures with the NC-5 pulp line running about nearly 50 tons per day above plan since the shut. Going forward, given the weather-related issues are now behind us, we'll focus on driving and improving pulp productivity and capturing cost savings from continuous improvement and strategic initiatives within the business. In the second quarter, major outages are also planned at several of our pulp and paper facilities, including Plymouth, Dryden, Kamloops, Kingsport and Nekoosa. So, we will be vigilant on both safety and execution. In Personal Care, our results reflect competitive market conditions, price pressure, and rising raw material costs. However, we are mitigating some of these headwinds through a focus on cost savings and converting our sales pipeline into new wins. On costs, we completed the first phase of streamlining efforts which will include SKU reduction across multiple products. This will allow us to eliminate highly-complex, lower-value categories. It will also result in fewer changeovers on our manufacturing lines which will translate into productivity and efficiency gains. Our sales pipeline continues to be active. We won a sizable infant diaper bid with a major North American retailer with delivery expected by quarter three. This win and others will partially offset some volume reduction that we are expecting this year and beginning next quarter. With good execution and strong cost savings, I'm confident that we'll be able to be – to compete more effectively in this challenging market. Turning to capital allocation for the group, we generated $65 million of free cash flow during the quarter, returned $26 million to shareholders via our dividend, which was recently increased by 4.8% or to a $1.74 per share per year. We will continue to maintain a balanced and disciplined approach to deploying resources, while returning capital to shareholders. Domtar's current business mix reflects the capital deployment decisions we made over the last several years. We've made these strategic decisions to strengthen our core Paper business, repurpose assets to manufacture products with growing demand, and establish meaningful positions in new markets. We're maximizing EBITDA and cash, and our balance sheet provides the flexibility to consider value-creating opportunities that will strengthen our position as a leader in fiber-based growth markets. As mentioned on our fourth quarter call, we're focusing on cost reduction investments, notably in our Pulp business and on building optionality from our asset portfolio with targeted investments to preserve the value of our fiber lines. Now, turning to our outlook. As we saw in quarter one, our paper shipments should benefit from the announced industry capacity closures and lower imports, and we expect to benefit from our recently announced pulp and paper price increases. The second quarter will be affected by seasonally higher maintenance activity in our Pulp and Paper business as we move into the annual shutdowns at some of our major facilities. Finally, Personal Care is expected to be negatively impacted by higher raw material costs and an unfavorable tender balance, partially offset by some of our cost savings initiatives. Thank you for your time and support. And I'll turn the call over to Nick for questions.

[Nicholas Estrela:]

Thank you, John. So, both John and Daniel will be available for questions. I'd ask our participants to ask a few questions at a time and return to the queue for follow-ups, as we want to get as many people as we can. Don, can you open line for questions?

[Operator:]

Certainly. And we'll take our first question from Mark Connelly with Stephens. Mr. Connelly, check your mute function. We're unable to hear you.

[Mark Connelly:]

Sorry. John, you talked about mix in your comments. I'm wondering if you can help us understand what kind of prices you actually achieved. I mean, I'm looking – just backing into realized prices since Q3 down $17 despite $80 of price hike. So, that's a huge amount of negative mix or is your mix actually changing at the same time?

[John David Williams:]

I can't really give you the detail, Mark. I guess, you see a couple of things. We've increased our export business a bit which obviously has a slightly negative impact on mix. Certainly, in quarter four, it's sort of the season for some of the trade book stuff and some of the stuff where our margins are not that strong. Again, in the beginning of the first quarter, some of those shipments happened. And again, sort of exports increased. However, I would say, if I look at March, we've seen sort of momentum coming out of the end of the quarter in pricing, which I do believe we're going to get sort of traction in quarter two. So, I think, overall, we'll see a fairly sizeable impact from these price increases. I think particularly now, because what we're really seeing now is a tightness in the marketplace in terms of people actually looking for paper, so that gives us the opportunity and also the supply-demand curve to increase prices. So, I think, actually, now, I feel we have very strong momentum on the price front.

[Mark Connelly:]

Okay. That's helpful. And just one more. Warehouse, you're used to announce price cuts when the discounting in pulp got out of hand, but we don't seem to see that much anymore. In your mind, what's happening to the relationship between the published prices that we see and your actual transaction prices?

[John David Williams:]

Well, it's interesting. So, most of those negotiations take part in the sort of first part of the year. And you're right. Historically, we've seen those discounts opening up, but hasn't really happened this year, because the market looks so different. So, I would say it stayed fairly stable, sort of 18% to 17%, whereas historically, that would have been a change. That help?

[Mark Connelly:]

Yeah. Super. Thank you for the help.

[John David Williams:]

All righty.

[Operator:]

We'll take our next question from Brian Maguire with Goldman Sachs.

[Brian Maguire:]

Hi. Good morning, guys.

[Daniel Buron:]

Good morning.

[John David Williams:]

Brian, good morning.

[Brian Maguire:]

Just a question on pulp pricing. It seems like a lot of the announced increases this year were trying to get the North American prices closer to where they were in China, but it does seem like Chinese prices have been pretty flat for most of the year. And then, also, we're seeing customers, whether it be in tissue or diapers or through even your own Personal Care business having a hard time passing those price increases through to the end consumers. So, I guess the question is sort of given that backdrop, do you think we're closer to the peak on where prices are? I know in the past, you've talked about us probably just getting back to mid-cycle. But, given some of the other dynamics going on out there, do you think that there – or towards the later innings of this run in pulp prices or do you see more momentum ahead?

[John David Williams:]

I actually see more momentum ahead. I mean, I tell you why; a couple of reasons. The demand for the end-use product is fairly dramatic in developing markets. So, tissue on the whole is sort of GDP, but obviously in developing markets, it's faster than that. Baby diaper business in developing markets is very strong. Adult incontinence in developing markets and developed markets is still very strong. So, to my mind, if you look at sort of capacity coming in and you look at end-use demand in those key markets, there's a lot of runway. Now, you're absolutely right, within the sort of the value chain, there's pressure in terms of the customer being able to move their price. But, you're beginning to see signs of, for example, people in the kind of toilet tissue market reducing count, you're beginning to see people take action, I think, to improve their margins at that front end. But, I mean, as you're quite right, as you see in our Personal Care business, there is that pressure. But I think underlying the demand, balanced with fairly tight supply and particularly in softwood, I think the thing has a considerable runway.

[Brian Maguire:]

Okay. Just as a follow-up switching to the Paper business. Considering your comments there about the outlook, it's a tight market, like you say, with some capacity reductions. Seems like the best setup it's had in a number of years. Just wondering if that changes your thinking about repurposing of assets and whether you would need to take some actions there, the rebound in margins that we're seeing coming out of the first quarter, heading into 2Q and some of the pricing traction. This changes your view on timing, yeah, and whether it's worth putting a lot of capital into them to repurpose them considering how others have taken action to improve the market recently.

[John David Williams:]

Right. No, no. That's a great question. So, let's talk about that, because I think it's an important point. So, historically, what you've really seen us do, we've never sort of – how would I put it, got ahead of the paper demand through closure, we've always tried to manage that closure depending on what we see in paper demand. So, that's one part of the equation. We're busy doing – we're continuing to do the work on repurposing and probably you'll see us some time by year-end have made our choices and make an announcement one way or the other. Now, what one must remember though, even in a 3-million ton network, we still have a tail of product that's sort of below average EBITDA, I think as is demonstrated sometimes by the mix wings you see in our business. So, one of the things we can always think about is, do we tighten up that tail and still take a closure to sort of make sure we maintain the best business. So, there are a number of choices, but you're quite right. I think if you look at where we find ourselves today, you look at the amount of capacity that's coming out of this market, there's absolutely no question, we have an opportunity for a while that we haven't had for some time.

[Brian Maguire:]

Okay. Thanks very much.

[John David Williams:]

All righty. Thanks.

[Operator:]

We'll take our next question from Adam Josephson with KeyBanc.

[Adam Jesse Josephson:]

John, Daniel, good morning.

[Daniel Buron:]

Good morning.

[John David Williams:]

Good morning.

[Adam Jesse Josephson:]

John, just one quick follow-up to Brian's question. Has your -just to summarize what you said in response to his last question, has your thinking changed, I know, last quarter, you said you expect to make an announcement by year-end. It certainly sounded as though you are leaning toward doing a conversion or more than one conversion. Has your thinking changed given what Brian just talked about or not necessary (00

[John David Williams:]

Yeah. I mean, obviously – it's a great question. I mean, we obviously talked to you a couple of months ago, as you mentioned. I don't think our thinking has changed dramatically. At the minute, we're very much, at the kind of is this possible, can we be competitive stage? I think, then, we have to mix that and we have to match that with where is our current market, what does that mean if we take some action. So, those decisions are going to be made over the next few months. I'm not trying to obfuscate, but there are a lot of moving parts that we really have to make sure we get lined up before we can make our choice.

[Adam Jesse Josephson:]

Sure. Okay. Thank you. And just a couple others. On the sequential outlook, from 4Q to 1Q, you had pricing that was offset obviously by raw material inflation. You're talking about the fact that the weather problems are presumably behind you. I think you said spot – trucking spot rates are a bit more reasonable than they were before. Are you expect – obviously, you're expecting pricing to improve sequentially in 2Q in both pulp and paper. Do you expect additional raw material inflation sequentially 1Q to 2Q that would offset some of that incremental pricing, or are you not necessarily thinking that given that you don't think the weather problems will continue, et cetera?

[John David Williams:]

Right. That's a great question. Not substantially. I think one thing I would be careful of is that probably the levels of transport are kind of the new normal for a while until something changes, but we're not really expecting any sort of increased product inflation, if you like, in quarter two versus quarter one. But I do think transport is going to remain high. There's no reason to believe it won't.

[Adam Jesse Josephson:]

But presumably, there wouldn't be incremental inflation sequentially from that, right? If it just remains at where it...

[John David Williams:]

I mean, we think it is what it is, but it's at an elevated level versus history around the quarter one level.

[Adam Jesse Josephson:]

Sure.

[John David Williams:]

That help?

[Adam Jesse Josephson:]

And just lastly – yeah, I think so.

[John David Williams:]

Okay.

[Adam Jesse Josephson:]

Just on your Personal Care outlook, the comments you made in the outlook slide, were those sequential in nature? In other words, are you expecting EBITDA down sequentially as a result of the factors you mentioned?

[John David Williams:]

We have a, kind of, trough quarter two, quarter three. And then, the major win we've made or the major wins we've made actually quarter three, quarter four on the sales line started to come through. They're beginning to come through at the tail end of quarter two. So, you're going to see a, sort of, lower quarter two in sales, a lower quarter three, and then you'll start to see that ramp up in the quarter three, quarter four.

[Adam Jesse Josephson:]

Thanks so much, John.

[John David Williams:]

All righty. Thank you.

[Operator:]

We'll go next to George Staphos with Bank of America.

[George Leon Staphos:]

Hi, everyone. Good morning. Thanks for the details.

[John David Williams:]

Hi, good morning.

[George Leon Staphos:]

How are you doing? In terms of my first couple of questions, I had one on Personal Care, so just given the set up from Adam, I guess we should maybe proceed. Can you give us a bit more detail in terms of what's been happening with the tender effects and whether we see a magnified effect sequentially 2Q versus 1Q? It sounds like that'll be the case just because we're looking at lower EBITDA. And when will that comparison either sequentially or year-on-year be neutralized?

[John David Williams:]

So, that's a great question, George. So, quarter two, you will see a step down in sales. Quarter three, you will see a step down in sales, but probably beginning to recover at the end of quarter three. Quarter four, we'd be pretty much at full run rate on the new business; quarter four, quarter one 2019. So, you're going to see a little bit – you'll see a little down – you'll see a downward movement quarter two. Quarter three at, sort of, a trough level. And then, you'll see that move back up again. And that obviously will be reflected in EBITDA. And essentially, that is because we've won some very strong new business, but also, there are pieces of business that we've – where our volume has been reduced by some of our customers. So, you put all that together, the timing doesn't always work the way you'd like it to. So, that's why, you see the shape, if you like, to the earnings and the sales line that you see this year.

[George Leon Staphos:]

So, John, just trying to capture that. So, we should maybe be looking at up year-on-year EBITDA in the segment by fourth quarter? I'm not – just directionally, I'm not trying to get you to put a number out there or is it really not until 2019 when you've anniversaried it?

[John David Williams:]

It's really till 2019. And the reason behind that, George, is some of our marketing support for the customer as we win that business early on, is slightly up-front weighted. So, that impacts, sort of, the drop through on that business at the very beginning, but that starts to work its way through. So, I think 2019 is the time to look. Does that help?

[George Leon Staphos:]

Okay. My follow on – yes, it does. Thank you. My follow on, then one additional and I'll turn it over. Obviously, you've been adjusting your cost position within the business. I think you mentioned during your formal remarks, John, you're also adjusting your customer portfolio. It's certainly been a more competitive environment perhaps than you'd envisioned when you first made these investments two, three, four years ago. Tell us to the extent possible, how your vision for Personal Care and its fit within Domtar has changed, if at all, over the last, let's call it, last year or so? And then, the unrelated question is, just if you could give us some feel for where current prices are in terms of paper and pulp relative to the average levels in the first quarter? Thank you.

[John David Williams:]

Right. Gosh, that's quite a question. Let me see if I can remember it all. So, I think, if you think about Personal Care, we still think it's a good underlying business. We like the top-line growth. We think we're pretty good at it. We got to drive operating efficiency. And part of our issue has been we've carried some very small SKUs that haven't really generated much sales or earnings. They, of course, change over times on our machinery and that's actually meant we've lost, I think, some core productivity that we used to have, and we're right now focused on putting that right. And I still believe over time, it's a solid business. It should give us mid-teens margins, but right now, it's very tough. But, I haven't lost sight of the fact that that's our aspiration. On paper pricing, as I said earlier, we have momentum in March versus our average pricing in the quarter. And as you know, we announced, as we said in my published remarks, another $50. I actually think our pricing environment at this point is stronger than it was when we announced the first two price increases. So, I have every expectation actually we're going to get a very solid price increase, and we're going to get it relatively quickly versus historical norms, because the market is tight out there. Does that help?

[George Leon Staphos:]

Well, kind of. I mean, do you have an exit price recognizing it's before the $50? And if you don't, that's fine.

[John David Williams:]

Okay. The exit price for paper was $9 per ton higher than the quarterly average, and that was $12 higher for the pulp. So, that's the starting point, April 1, if you will. Does that help, George?

[George Leon Staphos:]

Thank you. Very much so. Thank you, guys.

[John David Williams:]

Thank you.

[Operator:]

We'll go now to Anthony Pettinari with Citi.

[John David Williams:]

Anthony, hi.

[Anthony Pettinari:]

Hi. Good morning.

[John David Williams:]

Good morning.

[Anthony Pettinari:]

Just wondering on the EBITDA bridge, you had a $10 million benefit from other. Just wondering if you could break that out a bit. And then, just following up on Adam's question, I think, on freight. Freight was a $10 million drag quarter-over-quarter. As you think about 2Q, would you expect – is that $10 million a run rate? Or could that step up or just trying to size that impact?

[Daniel Buron:]

Let's answer the first question first. So, the $10 million that you have on the waterfall there is that $3 million of that is actually working or foreign exchange on working capital due to the movement of our non-U.S. working capital items. There's actually a benefit of $3 million that is linked to pension. Actually, you see on our P&L the new line that was created by the new accounting pronouncement. You see that benefit that is now in that order line. There's actually a reversal of $1 million of environmental provision and the rest is a sum of a small amount or meaningless amount that adds to $3 million. So, that's the explanation for the $10 million. The freight, as John mentioned earlier, there is no reason why we don't see in the current environment how we can do better than what we've done in Q1. So, I would forecast similar freight in the coming quarters. So, if you're looking at Q1 to Q2, I mean, there's maybe $1 million or $2 million of risk of further increase, but not much. I would forecast kind of more or less the same freight going forward for the rest of the year.

[Anthony Pettinari:]

Okay. That's very helpful. And then, just going back to China pulp demand, I think it was touched on a bit earlier. Can you talk about the conversations that you're having with Chinese buyers in terms of inventory levels, maybe underlying demand in China. Obviously, domestic prices have moved up a bit more than Chinese prices. Can you just talk about kind of the conversations that you've had over the last month or so?

[John David Williams:]

Sure. I mean – so, let's talk about demand. I think the most important thing to remember in all this, is demand growth in terms of end use product they're selling, i.e., tissue paper, baby diapers, adult diapers is still strong. And if you look at the runway of urbanization in China and you look at what's happening with the consumer, it seems to me that runway is very, very solid and it's going to go out any number of years. Obviously, within all that, there's inventory change that occasionally they'll try and sort of stage a non-buying few weeks just to see will we all blink first. But actually, prices are very stable in China. And my best judgment and it's just my judgment, so I could be spectacularly wrong, is there's no reason in this particular part of the pulp cycle; remembering we're still way off any peak prices we've ever experienced in pulp. So, we're really only just above what I would call mid-cycle pricing, is that, and we're sort of several dollars below sort of average pricing over the last number of years. My view is this has plenty of room left to run. Yes, there is some new capacity coming in. But versus the global softwood market, it's still a pretty small number. So, to my guess, this continues.

[Anthony Pettinari:]

Okay. That's very helpful. I'll turn it over.

[John David Williams:]

Thank you.

[Operator:]

Well, our next question will go to Gail Glazerman with Roe Equity.

[Gail Glazerman:]

Hey. Good morning.

[John David Williams:]

Hey. Good morning.

[Gail Glazerman:]

So, wondering if you can give maybe a little bit more color on what you're seeing on the demand side on paper and just given the magnitude of the capacity that's coming out, any concerns or signs that you might be accelerating some of the demand destruction, are you still pretty confident it's within the kind of 2% to 4% range?

[John David Williams:]

Well, so year-to-date, it's about 4% as you can see our growth. So, we estimate about 10% to 12% of industry capacities coming out over sort of 18 months to two years, it's beginning already, as you know. So, if one does that math, it says, we now sit here as very much the leader in the market with about a 37% capacity share. Our nearest competitor is a long way below. It's almost half. And our customers are beginning to think pretty carefully around where they place that business with a strategic supplier who they believe is there for the long term. So, you put all that together and it says there's an opportunity here for us to build an even stronger position in this marketplace. And that's precisely, I think, what we've done in the first quarter and we'll continue to do in 2018 and 2019.

[Gail Glazerman:]

Okay. And then, just on the trading front, I guess, two different pieces. There was a little bit of movement in some of the duties on Asian suppliers, I guess. And then, also, I'm wondering is there any implication in uncoated freesheet from the tariffs on other publications grades. Are you seeing any chance of maybe people shifting from groundwood to freesheet just because of the (00

[John David Williams:]

A little bit on the periphery, but nothing major, I would say, to the second point. I think on the first point, one needs to remember – if you look at what's been happening in global markets, in their own domestic markets, everybody is moving price pretty aggressively, which means with the dollar where it is and even if the dollar strengthens slightly which, of course, it has been in the last week or so. Actually, importing to the U.S. is not as attractive as it perhaps was historically. So, that little bit of movement in the duties might make some difference in the second half of the year, but to be honest, I don't think it's going to be that dramatic. Does that help?

[Gail Glazerman:]

Okay. Thank you. Yes. Thank you.

[John David Williams:]

Thank you.

[Operator:]

We'll go now to Mark Wilde with BMO Capital Markets.

[Mark William Wilde:]

Good morning, John. Good morning, Daniel.

[John David Williams:]

Mark, good morning.

[Daniel Buron:]

Good morning.

[Mark William Wilde:]

John, just to come back to the trade flows on uncoated freesheet. I mean, isn't another piece of the equation just – a lot of these offshore mills are non-integrated, so kind of pulp pricing going up raises our cost position?

[John David Williams:]

Absolutely. Yes. Very much so.

[Mark William Wilde:]

Yeah. Okay.

[John David Williams:]

I mean, particularly some of the Asians. No question.

[Mark William Wilde:]

Okay. And then, I wonder just to kind of walk back over to the containerboard conversion issue, can you just walk us through sort of the elements of the – your kind of decision tree process here? Just to give us a little clarity on sort of what you're doing, what sort of the key questions are as you kind of – as move toward a decision.

[John David Williams:]

Absolutely. So, as you know, we've done and continue to do the work with Jacobs. So, that's why, we've gone slightly radio silent at the minute, because that work is ongoing. So, what we have to be, I think, comfortable of is probably three key things – well, four key things. One is, can we be really cost competitive? Can we get our cost to a point where we're competitive in any sort of containerboard market? So, that's point the first. Point the second, can we do that at a reasonable CapEx level without blowing our brains out on the kind of capital we want to spend? Point the third is, can we make a sensible market entry that is not too fraught with risk. So, we have an open mind on joint venturing. We have an open mind on customer sign-up prior to – all that is we're working on furiously. I think the fourth thing is also, well, what do we do with the uncoated freesheet position we have? Right now, volumes are fairly good, but we do have a tail as our margin show that we could probably do something more aggressive about. So, the implications of that shot to our uncoated freesheet market. So, those are the things I think that have to line up, Mark, for us to be comfortable that this is something we really ought to be doing.

[Mark William Wilde:]

Okay. And I wondered if you could just give us a thought on a couple of other issues related to this. I mean, I've heard some people say you don't want to do this if it's just going to be a single machine you'd like to have. If you're going to make this move, it's going to be part of a, kind of, a longer-term strategy. I wondered if you could, kind of, confirm that. And then, also, talk to us about, sort of, how you approach customers. Does that mean talking to, sort of, export customers and domestic converters or could it also mean going directly to some big box buyers?

[John David Williams:]

Right. So, the answer to that is all of the above on the customer side. And I think certainly over time, but it's a multiyear process. We have, as you know, a number of mills that can be competitive in this environment, both from a wood supply, obviously, wood basket is a key issue and conversion opportunity is a key issue. So, you put all that together, there is a runway. I don't want to go through the detail, if you don't mind at this point, but there is a runway where we can be a multi-mill supplier of containerboard. No question.

[Mark William Wilde:]

Okay. All right. And the last one I had is just with the Personal Care market becoming more competitive and we're seeing the same thing over in the tissue market, I saw this morning that GP is shutting down a tissue mill down in Augusta. I wondered if you see any signs of people going no más in any of these Personal Care markets.

[John David Williams:]

Say again, people going ...

[Mark William Wilde:]

Any sign of people kind of starting to rationalize capacity or exiting in Personal Care?

[John David Williams:]

Actually no. I mean, I think what we see is growth. So, we see people continuing to buy machinery to get that top-line growth. It's very different by individual product, Mark. So, for example, pull-ups adult diapers is a booming business right now, the sort of the older fashion product that you have to sort of assemble for yourself to some extent as the patient. That product in Europe is softening, but pull-ups are booming. So, I don't see what you suggest. Obviously, there's been rationalization in terms of ownership of some of these assets. I mean, Ontex and ourselves being the two obvious cases. But, I haven't seen people pulling out.

[Mark William Wilde:]

Okay. That's helpful.

[John David Williams:]

Does that make sense?

[Mark William Wilde:]

Yep. It does make sense. Thanks, John.

[John David Williams:]

All righty. Thanks.

[Operator:]

We'll go next to Chip Dillon with Vertical Research.

[Chip Dillon:]

Yes. Good morning, John and Daniel.

[John David Williams:]

Chip, good morning.

[Daniel Buron:]

Good morning.

[Chip Dillon:]

My main question is, when we look at the first to second quarter progression in Pulp and Paper, there's obviously – looks like a pretty substantial increase, $30-plus million in maintenance costs, and I think that you've given us great sequential guidance in Personal Care. What should we expect in the Pulp and Paper division? In other words, you've got a lot of pricing momentum. You don't have the $8 million weather hit, I would imagine. And so, do you think the price and the lack of the weather hit can offset the increased maintenance, or do you think it's going to be a real stretch to match the first quarter, EBITDA or EBIT wise?

[John David Williams:]

Right. Obviously, I'm sort of backing in here to giving you guidance, Chip, if I'm not careful and that's not my intent. But, I mean, we're – all I can tell you is what we're planning and we're planning that that maintenance is offset by that pricing momentum. Okay.

[Chip Dillon:]

I got you. I got you. So, you think you can get there. Okay. That's very helpful. And then, second thing is, you mentioned the (00

[John David Williams:]

No, that's a great question. So, it's always an option. I mean, I think, again to remind ourselves, if you look at fluff pulp, you have only three players globally who have more than one mill. We're one of them. We know the other two obviously are GP and IP. So, if anyone has the optionality to open a third fluff pulp mill that's globally competitive, we believe it's us. And certainly, we have a wood basket that is competitive so to do. So, that's always on our mind, Chip.

[Chip Dillon:]

Okay. And the last quick question is, as you look at the fluff pulp market, how significant of a force do you think South America can be, especially blending their limited, I guess, radiata pine in with eucalyptus?

[John David Williams:]

Yeah. Well, that's an interesting question. So, if you talk to sort of the major player, their belief is probably a sort of 30% drop in, is most appropriate for their material. So, you're not going to – you're going to have to blend that material with loblolly pine fluff. So, if you're a major customer, unless you somehow believe there's some price arbitrage in there, you've got a bit more of a technical challenge in terms of how you handle that pulp upfront before it hits the hammer mill. So, to my mind, I think it'll find its place, but I don't believe it's for the major players in Personal Care, it's not, I don't think, a great option. But, we shall see how that plays out, because of that issue at the front of the converting lines.

[Chip Dillon:]

That's very helpful. Thank you, John.

[John David Williams:]

Thanks.

[Operator:]

We'll take our next question from Hamir Patel with CIBC Capital Markets.

[Hamir Patel:]

Hi. Good morning.

[John David Williams:]

Good morning.

[Hamir Patel:]

John, you referenced a major retailer win on the Personal Care side. I'm just curious is that going to be displacing a brand, or is that taking share from another private label producer?

[John David Williams:]

That's taking share from another private label producer. But, if I'm being truthful, the retailer is putting out very ambitious plans to grow private label share dramatically within their own stores versus brands. So, I mean, I think what you're going to see – and I think this actually vindicates our sort of partner brand strategy that we have – is they're really now going to run this category as a major brand within their store portfolio. And it'll be fascinating to see how that transpires actually.

[Hamir Patel:]

Thanks, John. That's helpful. And then, just curious given the pulp cost inflation that we've been seeing, are you seeing any indications of producers reducing diaper counts to recover price that way?

[John David Williams:]

You've seen a little bit of it, yes, in the marketplace. Some of the major brands have done that. Some of the major brands on tissue have taken out some count. I mean, it's all in the public domain. I'm not sort of telling tales out of school. So – it's one way to maintain a price point and still maintain margin. And I think you're going to see a lot of that. I think one thing to remember in the U.S. sometimes is the way some of these pulp contracts operate. Some of the major players have a pretty large lag actually between announced price and price increase, and it's a matter of months. And as that really starts to hit, I think you may well see more of that from some of the major brands.

[Hamir Patel:]

And then, John, are the dynamics different on, maybe, the institutional piece with respect to the suppliers flexibility to to put it that way (00

[John David Williams:]

In Personal Care?

[Hamir Patel:]

Yeah.

[John David Williams:]

In Personal Care. It depends. So, where in you're in a kind of national health system and you're bidding for regional business from various national health organizations, yes, you have that opportunity to get the prices you make the next bid, and those bids sometimes lasts a year, two years, three years. So, when the price is fixed, it's fixed, but you have a bid opportunity. Obviously where we have our own brand, we have opportunities. But, it probably takes a while to get the whole portfolio. And, Hamir, as you can see in our margins, I'm being truthful, it takes a while to get that portfolio to move based on raw material increase. And I think you're seeing that from everybody in this space who's reporting.

[Hamir Patel:]

Fair enough. Thanks, John. That's all I have.

[John David Williams:]

You're welcome.

[Operator:]

We'll go now to Steve Chercover with Davidson.

[Steven Pierre Chercover:]

Thanks. And good morning, everyone.

[John David Williams:]

Steve, good morning.

[Steven Pierre Chercover:]

So, my question is on Personal Care, and I hope I phrase it properly. But, the recent restructuring, do you expect that to be accretive and elaborate – will the diminished costs more than offset the lost sales capacity?

[John David Williams:]

Yes. Absolutely. We have a classic 80/20 business. And in that 20%, there are a number of SKUs where maybe we've offered too complex a platform and we're going to have to slightly reduce the number of platforms we offer. But, when you look at that, the efficiency we gain on the machine in terms of output on those products where we make a solid margin is disproportionate to any loss we'd have, both in margin and sales terms on the – I don't want to overstate this, but on the rest of the portfolio. So, to my mind, if I can get 3% or 4% more output on something like a pull-up large, which is a nice business for us versus doing some of the smaller stuff we do, it's exponential the earnings I can generate versus running a small item and the changeover required to go with it.

[Steven Pierre Chercover:]

Sure. Okay. So, we understand kind of the U-shaped recovery over the course of 2018. If I recall, I think the target EBITDA for Personal Care was in the vicinity of $150 million. After this restructuring, does that change or is $150 million still the objective?

[John David Williams:]

That's still the objective.

[Steven Pierre Chercover:]

And that is the right number?

[John David Williams:]

Yeah.

[Steven Pierre Chercover:]

Great. Okay. Thank you.

[Operator:]

We'll take our next question from Paul Quinn with RBC Capital Markets.

[Paul Quinn:]

Hey. Thanks very much. Morning, John. Morning, Daniel.

[John David Williams:]

Paul, good morning.

[Daniel Buron:]

Good morning.

[Paul Quinn:]

I just had a question on – just back to the trade on paper, you referenced imports being down 24%. Just wondering how sustainable that is especially with the North American paper prices on the move up.

[John David Williams:]

Well, I mean, the trouble is – in a way, we'll know when we know. My view is, if I look at the number of prices the Europeans have got in the last few months, I look at some of the Asian pricing. I think, Paul, they're going to stay in their domestic market if they can. We'll import – is there a risk of imports in the second half of the year, I don't think it's a biblical risk. But, there's no doubt in some of these markets, it's a little bit. It'll be a little bit more attractive than it was, but I don't think we're going to see imports at only like the level they used to be at and there're still some pretty steamy duties on some of this stuff, so – and they're going to last a number of years.

[Paul Quinn:]

Okay. So, it sounds like you expect to be insulated in 2018 at least. Maybe just a question on the pulp side where shipments have been pretty volatile over the last three quarters here. What should we expect going forward and what should we expect in terms of the mix between NBSK, fluff and the hardwood now that you shed some fluff capacity?

[John David Williams:]

I think it's about $425 million to $450 million is a reasonable number for quarterly sales on pulp. And if I look at that rough number, sort of $15 million hardwood maybe. I'm wrong, 4% hardwood, 58% softwood, and 38% fluff, Paul.

[Paul Quinn:]

Excellent. That's all I have. Best of luck, guys. Thanks.

[John David Williams:]

All right. Thank you.

[Operator:]

We'll go next to Adam Josephson with KeyBanc.

[Adam Jesse Josephson:]

John, Daniel, thanks for taking my follow-up.

[John David Williams:]

You're welcome.

[Adam Jesse Josephson:]

John, forgive me for asking a – harping on the containerboard subject, but one very quick question. Would you say your language has changed, John, from three months ago? And if so, how?

[John David Williams:]

I think you'd be a better judge of that than me. The answer is, in my mind, no. I still think there's an opportunity there. I still think we can find our way into the market. I feel vindicated that our asset base is good enough and strong enough to be very solid in terms of its cost position. So, we're still working hard to make our choices and get sufficient data to make a good choice.

[Adam Jesse Josephson:]

Sure. Sure. Just two others. Just one on your – I know you don't give a formal 2Q outlook, but just – you were talking about this with Chip. If you'll have – you're going to have $35 million of incremental maintenance, right, and you're expecting Personal Care to be down sequentially. So, in order to be flat, obviously, the combination of higher sequential pricing and the add-back of the weather would have to be, call it, $40 million, assuming no incremental raw material cost inflation. Is that indeed what you're thinking could well happen?

[Daniel Buron:]

I think the wildcard is pricing here. So, wanted to make its own judgment. I think if we're (00

[Adam Jesse Josephson:]

Thank you, Daniel. And John, just one last one on pulp prices. I know you said you think there's ways to go here. I was just thinking, in light of what the difficult quarter that Kimberly-Clark and other tissue producers have had, I mean, they've had real pain just based on higher pulp, what – in light of that, what makes you confident that this has a way to go, just given how difficult life has already been for some of the very largest tissue producers?

[John David Williams:]

Well, I think it's – quite frankly, I can only talk about our own business, but I look at sort of supply-demand and I look at people right now looking hard to find pulp. And we had our operational challenges in quarter one, which I think probably caused part of the issue. And actually realized prices are still well below the 9-year average by sort of $25 to $30 a grade. So, it's not as if there's some massive ramp up versus historical norms. I mean, to my mind, this is – we're still below the nine-year average on pricing. We haven't really had peak pricing much within that 9-year period maybe for a year. So, I see no particular reason why it shouldn't continue.

[Adam Jesse Josephson:]

Thank you, John. I appreciate it.

[John David Williams:]

Welcome.

[Operator:]

And we'll go next to George Staphos with Bank of America.

[George Leon Staphos:]

Hi, everyone. Thanks for taking my follow-on. Just a couple of cat and dog questions for the end. John, Daniel, any sense for whether there's any kind of pre-buying in volumes in the quarter in uncoated freesheet? What gives you comfort that it was fairly minimal in the quarter? And then, there was a mention made to inventory issues, I believe, it was in pulp affecting your shipments in the quarter. Can you just give us a quick refresher there in terms of what you're getting at? Thanks and good luck in the quarter.

[Daniel Buron:]

I mean, your question on pre-buying is always difficult to answer. We had good volumes in Q1, so one can assume that there's a little bit of pre-buying. We sold from inventories. So, can we repeat that performance in a high maintenance quarter? Probably not. So, I'm expecting a little bit lower volume in Q2 is reasonable. In terms of inventory, it's more – I think the method is more that Q4 was a very high quarter for us in terms of pulp shipment. We actually produce well and sold 50,000 ton out of inventory, so the 460-some thousand ton we've shipped in Q4 is not something you should expect every quarter. Our normal shipment should be more around – if you look on an average, there will be plus and minuses because of maintenance, but we should ship above 425,000 ton per quarter. So, Q4 was abnormally high.

[George Leon Staphos:]

That makes sense. Thank you, Daniel. Good luck on the quarter, guys.

[John David Williams:]

Thank you, George.

[Operator:]

That does conclude today's question-and-answer session. At this time, I'll turn the conference back to Mr. Nicholas Estrela for any closing remarks.

[Nicholas Estrela:]

Thank you, Don. We will release our second quarter 2018 results on Thursday, August 2, 2018. Thank you for listening and have a great day.

[Operator:]

This does conclude today's conference. Thank you for your participation. You may now disconnect.