Venator Materials PLC
Q3 2017 Earnings Call Transcript

Published: 29 Oct 2017

[Operator:]

Good day, and welcome to the Venator Materials Third Quarter Earnings Conference Call. [Operator Instructions]. Please note, this event is being recorded. I would now like to turn the conference over to Murdo Montgomery. Please go ahead.

[Murdo Montgomery:]

Thank you, operator, and good morning, everyone. I am Murdo Montgomery, Director of Investor Relations for Venator Materials. Welcome to our third quarter 2017 earnings call. Joining us on the call today are Simon Turner, President and CEO; and Kurt Ogden, Senior Vice President and CFO. This morning, before the market opened, we released our earnings for the third quarter 2017 via press release and posted it to our website, venatorcorp.com. We also posted a set of slides on our website, which we will use on the call this morning while presenting our results. During this call, we may make statements about our projections or expectations for the future. All such statements are forward-looking statements. And while they reflect our current expectations, they involve risks and uncertainties and are not guarantees of future performance. You should review our filings with the Securities and Exchange Commission for more information regarding the factors that could cause actual results to differ materially from these projections or expectations. We do not plan on publicly updating or revising any forward-looking statements during the quarter. We will also refer to non-GAAP financial measures such as EBITDA, adjusted EBITDA, adjusted net income or loss, free cash flow and net debt. You can find reconciliations to the most directly comparable GAAP financial measures in our earnings release, which has been posted to our website at venatorcorp.com. We expect to file our 10-Q next week, which, among other things, will provide statements of cash flows. I will now turn the call over to Simon Turner, our President and CEO.

[Simon Turner:]

Good morning, everyone. It's my pleasure to welcome you to our third quarter earnings call, our first as a publicly listed company. Slide 3 covers the financial summary for the quarter. We're pleased to be reporting the strong set of business results. In terms of the headlines, we reported adjusted EBITDA of $134 million, with the increase from $94 million in the second quarter reflecting strong price traction and our leverage to titanium dioxide. Moving on to Slide 4 under the Titanium Dioxide segment. The Titanium Dioxide segment has driven the strong results for Venator for this quarter, with segment adjusted EBITDA up 37% over the prior quarter, primarily driven by higher TiO2 selling prices and cost savings related to our previously announced $90 million business improvement program. Average selling prices increased by 13% over the second quarter, with price increases across all regions. We captured substantially all of the $250 price nomination we announced in the third quarter, with Europe particularly strong. Volume growth, adjusting for the impact of the Pori fire, was 4% compared to the prior year quarter. We continue to see good demand across the market for our specialty, differentiated and functional grades, and we are currently implementing price increases for the fourth quarter. Although normally a softer quarter, we are targeting price increases in the range of $80 to $180 a ton. Our expectation is there will be meaningful regional differences within this range, although the pattern of price conversions will continue. We remain committed to supporting our customers with a measured approach to price increases. However, we note that TiO2 pricing has only now just recovered back to the level we saw 3 years ago in 3Q 2014. Utilization rates remain high across the industry, and we expect this to continue. We are manufacturing at full capacity and continue to see inventory days coming down across the industry. We see inventories outside China operating at a range of 40 days to 50 days of sales, and our Titanium Dioxide finished goods inventory days at the third quarter are at the lower end of this range. Looking ahead, the outlook remains favorable for continued earnings growth and margin expansion. Raw material costs may increase in the near term, although the impact on our business is expected to be modest given our sustained sulfate ore cost advantage. Moving on to Slide 5 on Performance Additives. Revenues were up 8% year-on-year, with volume growth and higher selling prices driving the increase. During the quarter, we announced the closures of 2 color pigment plants in North America as part of the business improvement program, with production moving to our Augusta, Georgia and Italian facilities. Production ramp-up in Augusta is progressing. Looking ahead, we'd expect to see some seasonality in the fourth quarter for this segment. Longer term, we continue to target $100 million of adjusted EBITDA from the Performance Additives segment, with growth driven by the business improvement program, the benefit of previously invested growth CapEx and improved manufacturing efficiency at Augusta. Moving on to Slide 6 and the business improvement program. To recap, the program is targeting $90 million of EBITDA benefit split across facility closures, fixed cost reduction and volume improvement over and above normal market growth. During the third quarter, we captured $9 million of EBITDA benefit, primarily reflecting the closure of the Calais white end, which is still in process, and the completed closure of our Umbogintwini, South Africa facility, in addition to the $6 million benefit we reported for the second quarter. The closures of Easton and St. Louis complete the site closures that are part of the plan. Overall, we remain on track to deliver the $90 million and are ahead of where we expected to be at this stage, with further capture in the fourth quarter and EBITDA benefit accelerating in 2018. With that, I'll pass over to Kurt to give the financial overview.

[Kurt Ogden:]

Thank you, Simon. Let's go ahead and turn to Slide 7. Venator legal entities previously received corporate allocations from Huntsman of approximately $20 million per quarter. The graphs on this slide reflect the EBITDA that many of you also recognize as the Pigments and Additives divisional adjusted EBITDA. Our total company adjusted EBITDA improved $113 million in the third quarter this year to $134 million compared to the prior year period. The majority of this improvement came through higher selling prices. As Simon mentioned earlier, we also delivered $9 million of higher earnings through our business improvement program. Compared to the prior quarter, our adjusted EBITDA improved $40 million. Higher selling prices contributed toward the majority of the improvement, whereas our business improvement program contributed an incremental $3 million. Sales volumes were seasonally softer, and our COGS were higher as we used a more expensive feedstock mix at certain facilities and picked up Venator corporate stand-alone costs following our IPO. Simon previously covered France within our business operating segments. For modeling purposes, you should think about our Corporate and other segment running at approximately $50 million annually. This run rate will include approximately $10 million of costs that were previously embedded in the Huntsman Pigments and Additives division, as well as an incremental $5 million beyond the previously estimated corporate stand-alone costs of $35 million. These additional costs include items such as incremental IT costs with which we now have better visibility. Let's turn to Slide 8. As a result of recently received information, we want to provide an update on the rebuild of our Pori, Finland site. Our $500 million insurance policy is more than enough to cover the costs of the rebuild on its own, but the insurance policy also covers lost earnings. Due to prevailing strong market conditions, our TiO2 selling prices continue to improve, and our business is benefiting from the improved profitability and cash flows. This also has the effect of increasing our insurance claim for lost earnings from the Pori site. Consequently, the combination of increased TiO2 profitability and estimated reconstruction costs indicate that we will exceed our insurance limit. We expect to contain these over-the-limit costs within $100 million to $150 million and account for it as capital expenditures spread over 2018 and 2019. 60% of the site capacity produces specialty products, which on average contributes approximately 75% of the site EBITDA. We are already running at 20% site capacity, and we intend to restore manufacture of the balance of these more profitable specialty products as quickly as possible in 2018. The remaining 40% of site capacity is more commoditized in nature and may be introduced at a slower pace dependent on market conditions, cost and projected long-term return. Importantly, we have the ability to bring this 40% online in an incremental manner. It doesn't have to come up all at the same time. Turning to Slide 9. We expect to generate more than $200 million of free cash flow in 2018, excluding any capital expenditures in excess of our insurance limit to rebuild our Pori, Finland facility. In response to investor inquiries, this schedule outlines our estimated cash uses for 2018, which are approximately $250 million before cash taxes. We estimate our cash tax rate will only be approximately 10% to 15% as we utilize our NOLs. We have approximately $1.1 billion of NOLs from which we expect to benefit for several years to come. Beyond 2018, certain cash uses should decrease as we repay our debt and restructuring cash payments wind down. Let's turn to Slide 10. At the end of the third quarter, we have liquidity of $420 million. Our cash balance was $186 million, and the undrawn availability under our asset-based revolving lending facility was $234 million. We believe this is more than adequate for seasonal working capital needs that arise annually in the first half of the year when demand for our products is the greatest. We are targeting net debt of approximately $350 million within the next few years. At the end of the third quarter, our net debt was $565 million as total debt was $751 million and our cash balance was $186 million. As indicated, we expect to generate more than $200 million of free cash flow excluding any impact from Pori in 2018. The prioritization of future cash uses will be focused on 3 categories, first, earnings growth; second, strengthening our balance sheet; and third, actions directly benefiting shareholders. On the first category, we are focused on reconstructing our Pori, Finland facility to improve future earnings. In addition to the Pori rebuild, we will look for investment projects within the company that has internal rates of return in excess of 20%. We do not foresee building incremental TiO2 capacity through CapEx beyond minor debottlenecking. The second category. We will strengthen our balance sheet by paying down our debt. Management and our board believes that a robust balance sheet and favorable credit rating to cope with any future industry cyclicality will enhance long-term shareholder value. Finally, as we approach our net debt target, we expect to make returns to shareholders and consider share repurchases and dividends. As we implement these financial objectives, we will be opportunistic and pursue compelling strategic transactions and investments that create long-term shareholder value. Simon, back over to you for concluding remarks.

[Simon Turner:]

Thank you, Kurt. Let's turn to Slide 11. During the third quarter, Venator saw an acceleration in earnings, with EBITDA of $134 million, representing a $40 million increase over the second quarter. This was a result of further industry supply tightness, maximum price capture and our leading TiO2 position in both our specialty products in particular and in Europe generally. Looking forward, we are already now back to the price levels of the third quarter of 2014, and we intend to continue our measured approach with our customers to capture further benefit in the fourth quarter, although lower seasonal volumes will offset these increases. We expect this to create a stronger exit trajectory from 2017 and further uplift for 2018 for an elongated cycle. While these market dynamics have strengthened our cash resources considerably, it also means that we are consuming more business interruption proceeds on our insurance policy at Pori. Based on improving results, current rebuild information projections, we expect to use our own CapEx resources and reshape our rebuild program. As a priority, we will restore 75% of Pori earnings potential, the total specialty business at Pori by the end of 2018 while confirming the plan to bring the remainder of the commoditized capacity, depending on market conditions, costs and projected long-term return. In summary, we remain encouraged and optimistic about TiO2 market conditions, which continue to benefit our overall business. With that, we'd be delighted to open the call for questions.

[Operator:]

[Operator Instructions]. Our first question comes from P.J. Juvekar of Citi.

[P.J. Juvekar:]

Can you hear me?

[Simon Turner:]

We hear you, P.J.

[P.J. Juvekar:]

Great. So TiO2 prices have gone up in 3Q and 4Q, plus there are some announcements for 1Q. We haven't really seen that kind of price increases in a while. And earlier, you had said that you want to be more collaborative with your customers. PPG CEO was already out on its conference call, warning TiO2 players, reminding them of 2011. I just wonder, how do you think about the cycle given all these price increases?

[Simon Turner:]

Thank you for your question there. I will endeavour to attempt to answer that fulsomely. Look, P.J., I think we can all see there's some very marked differences in the cycle that we're in here compared to where we were back in 2011 and '12. We said we have been taking a more measured approach to price increases. Back then, it wasn't uncommon to see $400 or $500 price increases nominated in a quarter. And I think really more in the realm of -- for our nominations and discussions in the fourth quarter up to $200 a ton. We've seen better underlying demand this time around with limited restocking. So that suggests that these actions would be somewhat successful in working with customers. Customers themselves are talking less about optimization and thrifting, something that happened again last time, and more about their own cost-out programs, price increases and surcharges and the like. So I think there is some realism about that pass-through. We are seeing consolidating producers, more independent producers, more transparent producers all of whom very recently came through the worst trough they had seen. So I think it's important to remain in context here that our pricing is only now back almost to where it was in 3Q of '14. That was 3 years ago. So we don't see ourselves as kind of pushing the envelope for this pricing to all-time highs and so forth. Clearly, China is a different situation this time. Producers and users have seen the dynamics of Chinese products. It's clear that the Chinese government and President Xi Jinping is going to be coming down heavily on emissions and pollution and so forth. Those important actions, if anything, have escalated over the third quarter. So we do see a tighter supply and demand. And in our opinion, while we respect and admire our customers, of course, we think our actions are measured and business rationale.

[P.J. Juvekar:]

And just a quick follow-up on raw materials. At the time of the IPO, you had said that you had seen some rutile price increases but not so much in ilmenite. Has the situation changed since then?

[Simon Turner:]

P.J., I would characterize that any change in the system and from the IPO is relatively of a noise level. I would say the central messages remain the same. Escalation in some high-grade rutile pricing as we close 2017, the prospects of some modest raw material inflation next year, primarily taken in the high-grade materials and not the low-grade sulfate ilmenite feedstock , which, of course, we buy 0.5 million tons and have an advantage.

[Operator:]

Our next question comes from David Begleiter of Deutsche Bank.

[David Begleiter:]

Simon, Kurt, Performance Additives is a little bit below my expectations in the quarter. Did anything unusual happen in that segment that you can point to for the results?

[Simon Turner:]

Yes. Thanks for the question there. Look, I think that -- a couple of remarks about the Performance Additives segment here. On a market-facing front, we actually think we did pretty good in the third quarter. We're pretty pleased with the outcome. We would alert you to the fact that there is some seasonality -- more seasonality in this business, in fact, in the second half compared to the TiO2 equivalent. That said, we took some cost hits in the third quarter, which were predominantly the reason for the nature of the results. And maybe something to appreciate here is as we go through these announcements within the quarter in St. Louis, et cetera, we have had to take some dual costs as we transition products into Augusta. And so therefore, we've got this kind of gray zone, if you like, where we're not getting the full benefit of these actions. And I think it's that impact that's led to that outcome that you state there.

[David Begleiter:]

Understood. And lastly, are you seeing Chinese imports into Europe impacting your business in any respect?

[Simon Turner:]

Well, certainly, we continue to see Chinese imports into Europe. We have -- I think we've said for a number of occasions that in the great scheme of things, they're relatively nominal. You are aware of the remedy divestment first as a condition of the Rockwood deal. We are seeing a tick-up from that producer into Europe. Clearly, there's the situation around the severance, as we're well aware of. And so we are seeing an increase in inks grades into Europe. Beyond that, of course, there is general tightness in global markets, so we will see some product flows. But frankly, with price conversions around the world, the arbitrage incentive doesn't really exist to try and ship into one region over another.

[Operator:]

Our next question comes from Bob Koort of Goldman Sachs.

[Christopher Evans:]

This is Chris Evans on for Bob. You mentioned earlier that you guys don't want to necessarily participate in expanding your TiO2 capacity. So I was wondering if you can give us a sense of your kind of expectations for supply in TiO2 going forward. We know kind of in China, we're hearing that environmental concerns are rationalizing supply. So can you give us an update on how you think that plays out and maybe why you are not participating in that?

[Simon Turner:]

Well, look, I think the way we think about this is -- as you know, we've got a program on our play right now to rebuild some capacity that we have, that's out of our system, out of our network, and we are doing our best to run everything else flat out. And we ourselves have some opportunities, I think, as Kurt alluded to, to minor debottlenecking to increase and provide some restitutions to that situation. Turning more broadly to the answer to your question in China, I mean, I think our experience in the West over these past 2 decades has been that Western producers have done a good job of nipping out relative capacity creep. In an industry which grows at 2% to 3% per annum, those increases can be meaningful when taken together. In China, it's true, of course. The environmental enforcements have taken, in our estimation, more than 250 kilotons of annualized capacity out of the system in quarter 3, but we expect to see consolidation within China. And the evidence suggests both in the West and in China that as smaller facilities agglomerate into larger, more sophisticated use of hands, those users have ways of bringing more capacity out of those networks. And we expect that trend to continue, and that will probably keep the supply line up to in pace with the overall demand level. And we expect it to remain pretty snap.

[Kurt Ogden:]

I think that's right. Chris I would just add to that, that we don't see the industry profitability right now at the level where we would expect to see any type of brownfield-type expansions within the industry. We do think the industry has the ability to take advantage of some minor debottlenecking opportunities, as Simon has indicated, to keep up with demand here as we go forward. And so as a result, we would expect to see a measured balance between kind of supply/demand here looking forward.

[Christopher Evans:]

Great. And I guess going to ore inflation and raw material costs. Eluca last night acknowledged the sort of full acceptance of its price increases in the high-grade market. I was wondering if you could kind of comment on what you see in sort of the different grades and maybe also a little more color on your comment earlier that you experienced some higher -- or used some higher-cost ores at select sites?

[Simon Turner:]

Yes. I think that the numbers and the statements made by Eluca, we would concur with. We expected those kind of levels in rutiles in the second half of this year. Now bear in mind that from a rutiles perspective, being a 70% sulfate-denominated production network, we'll use less [indiscernible] those materials than our competitors. So they will need to manage that effect into their margins. But we are seeing good spread of contracts and negotiations in our lower-grade ilmenites across -- coming into 2018 that's promising. We expect other high-grade slags to show inflation prices in '17, haven't yet bitten and taken effect -- in '18, I beg your pardon, and those to outpace the more nominal ilmenite price increases.

[Operator:]

Our next question comes from Hassan Ahmed of Alembic Global.

[Hassan Ahmed:]

Obviously, the theme, for some reason, seems to be the raw material side of things, so let me jump on to that bandwagon as well. Historically, obviously, prior to the last cycle, the sort of ore industry was out there getting into longer-term contracts. Obviously, things changed a fair bit through the course of the last cycle. So my question to you is that, are there any still of those legacy sort of longer-term contracts still in the mix at Venator? And if there are, what percentage still exists and any sense of duration of those contracts?

[Simon Turner:]

Yes. This is Simon. During the -- it's another difference between this cycle and the last cycle, where, as you're aware, some ore producers were left with rather long-term contracts which they saw as onerous. And when they escaped those contracts, of course, significant inflation ensued. This time around, of course, it's true that -- I think to my knowledge, and certainly, I can speak for Venator only, we do not have any such long-term contracts. We have multiyear contracts, which have targets and requirement contracts attached to them, but we don't have anything like you would call a long-term contract that ties us to a certain outcome. And that was by mutual agreement really by the feedstock producers that were driven by them at that time, and now we are comfortable with that arrangement ourselves. So the answer to your question is no. I would struggle to see anything that meaningfully ties in beyond six months.

[Hassan Ahmed:]

Got it, understood. Now changing gears a bit, you touched on the whole sort of China pollution side of things earlier. And a couple of weeks ago, maybe a month, 1.5 months ago, we heard about at least a temporary sort of shuttering of one of Lomon Billions' facilities. Would just love your read on what is going on, on the pollution-related TiO2 rationalization in China. I mean, are these things temporary? Are they actually sort of doing it for real this time? Will there be sort of in-shuttering and the like?

[Simon Turner:]

Well, as you know, Hassan, China, of course, is a key component of this industry in this cycle. A couple of facts and then maybe some beliefs. We continue to see many operators in China emitting 5x the amount of either gaseous or water-based emissions that we would be permitted to emit in the West. And of course, we have a significant sulfate base that we can talk to and compare against. And that's the first point. Second, we've seen a consistent rolling approach by this government in the People's Republic. It has left no part of the industry untouched. It has moved around provinces. It has touched the smaller independents. It has touched the larger consolidating units. And it has also touched quasi-governmental organizations. So that to me speaks to determination and consistency. And finally, I don't know about you, but listening to the most recently concluded Congress in the Peeple's Republic and looking at the press from that and looking through Xi Jinping's statements and pronouncements in his rather long speech, 2 points for me were, number one, he mentioned the environment more times than he mentioned the economy, which I think is a first; and second, one which hit me even harder was he said directly with the translation, we should cherish our environment as much as we cherish our own lives. And that's a pretty powerful statement. It continues to be a top issue for that government. I believe China sees itself as a climate change leader. And I think that this government will continue to prosecute this program of inspections and potentially even intensify this. So that's our read. And we know what it takes to tackle this because we've been through it ourselves. It's the tens of millions of dollars of equipment installation, and it means increases to cost structures. And that's part of a normalization, I think, of the flat field between the East and West as it relates to titanium dioxide.

[Operator:]

Our next question comes from Steve Byrne of Bank of America.

[Steve Byrne:]

I would like to better understand your outlook for the Pori facility. Would you say that your plans to now bring on that 40% of capacity, that commodity TiO2 grade is due to insufficient tightness, not wanting to spend that CapEx on that part of the reconstruction? Or is it really that portion of the plant is not really very profitable, not nearly as such as the specialty grade? How would you assess that?

[Simon Turner:]

Okay. Maybe let me take a shot at that, Stephen, and maybe Kurt can chime in here. But look, I think let's clarify a few things. Number one, the specialty part of our business is responsible for 75% of the earnings, and we're going as quickly as possible to get that done as we can. We've said for a long time that Pori is one of our strongest plants. So the commodity part of that plant is profitable, and we like those tons. In these kind of markets, we'd love to have access to those tons. What we're saying here, I think, is that there has been an upward shift in Q3 and essentially Q4 exit trajectory, which means we need to come back to the market and explain that our projections and outlooks on the business interruption proceeds are going up all the time. That puts a squeeze on the total insurance policy, which means we'll have to use our own CapEx and cash, and we want to make sure we do that in a prudent and responsible way. Now the other thing to say is that it's not that we want to delay in any way the commodity part. We'd love to get that done as soon as we can, which I think behooves us to get the specialty done quickly, to look at what these reconstruction costs are going to finally turn out to be for the commoditized part of the plant. We've got recent installation for that specialty part of the plant. Frankly, it was a little bit higher than we expected to come into. And that, coupled with the need to manage our cash flows, we already have $100 million to $110 million kind of CapEx call for this business on an ongoing basis, makes us want to have a hard look at it. So we're not saying it's going to be delayed. We're not saying we won't do it. We certainly have some flexibility and optionality to do it in increments. It's just that we want to have a close look at this now that it's coming into our resources.

[Kurt Ogden:]

Let me just add to that, Steve, if I can. I think that as Simon has indicated, we'd like to rebuild, of course, the entire facility. What we're saying is that the decision to do that now that it is -- we're going to be consuming our own capital, we'll have to weigh that against market conditions, the cost to bring on that said incremental capacity and the rate of return that, that investment will yield to us. And so it will have to compete against other investment opportunities that we may have as an organization. And so we are simply identifying the potential that we're going to take a hard look at that, and we would expect to update you on a quarterly basis around our decision-making as we move forward in time.

[Steve Byrne:]

And Kurt, does that affect your insurance proceeds in the interim? Does it -- is it based on that plan operating at full capacity or only up to that 60%? And on that end, can you break out that $3 million of operating expense? How much of it was insurance proceeds offsetting SG&A?

[Kurt Ogden:]

So it will not impact our insurance proceeds to the extent that if we were to delay the reconstruction of that facility or not reconstruct that facility, we fully expect to claim the full $500 million under our insurance policy. Of course, that's a combination of both the cost that it would be to rebuild the facility as well as business interruption. So we fully expect to collect the full $500 million. If you can -- Steve, if you can repeat the last part of your question, I'm not sure that it followed the $3 million that you were referring to there.

[Steve Byrne:]

Oh, it's just in your income statement, you have an operating expenses of $3 million. And I'm assuming that you got SG&A in there, and you have an offset from insurance proceeds. Is that right? and can you break that out?

[Kurt Ogden:]

So as far as the income statement goes, you ought to think about it as a complete wash in terms of what our cost was and the lost EBITDA. We're fully reimbursed for that. So the net impact on the income statement is we have only recognized the lost EBITDA associated with that facility. So the -- that does not apply to the operating expenses that you see there of $3 million in the third quarter.

[Operator:]

Our next question comes from Aleksey Yefremov of Nomura.

[Aleksey Yefremov:]

Is the $100 million to $150 million the approximate CapEx you'll need to invest after the end of 2018 to bring the last 40% of commodity capacity?

[Kurt Ogden:]

That is a reasonable way to think about it. Of course, we are still finalizing the -- a more definitive cost that it will take to bring up that last stage, if you will, of the reconstruction of the site. And so therefore, that's why you have the range. Of course, there are a number of variables that are going to feed into the overall claim amount. That'll be conditioned on the continued strength of the TiO2 market and -- as well. But Alex, I think that's a reasonable way to think about it.

[Aleksey Yefremov:]

Thanks, Kurt. And just a follow-up on Pori. Will you have any of that remaining 40% of capacity available at the end of '18, so you would choose maybe not to run it or you'll have none of it available? And the second part of it is, how long -- from the moment you make a decision to rebuild that remaining 40%, how long will it take to actually rebuild it?

[Kurt Ogden:]

Alex, I think that in terms of whether or not we rebuild the facility, I mean, again, it's our expectation that we would do so. And so that certainly means that we could have that full capacity by the end of 2018. And so we are in the process right now of going through the evaluation as to whether or not that is the most prudent thing to do with that use of our capital.

[Simon Turner:]

And certainly, Alex, as I said earlier, we have the optionality. One of the beauties of this type of technology is you have a number of lines that provide you with some flexibility as to how you rebuild. So don't think about going to be bringing 40% all in one go, and we have ways of stepping that. We would certainly be keen to look at, at least bringing part of that into play in 2018, by the end of 2018. But frankly, we need some further information to make that determination.

[Aleksey Yefremov:]

I guess just a quick follow-up. At this moment, it looks like you're not going to bring that 40% online at the end of '18?

[Simon Turner:]

Well, I wouldn't characterize it like that, Alex. I would say we don't know, and it's certainly possible that we will bring at least part of it on in 2018. We have an open mind on that. We need some further information.

[Operator:]

Our next question comes from Laurence Alexander of Jefferies.

[Laurence Alexander:]

Just want to revisit the question about contract lengths. But as you -- but flip it around and look at how you're dealing with your customers. Given the scenario you're painting of a tighter market for longer and fairly favorable industry dynamics, are your customers extending average contract terms, that is, extending the duration of those terms? I guess that's the first question. Secondly, in terms of cash balances, what cash balance do you need to run the business? And are there any areas where you end up with stranded cash?

[Simon Turner:]

Just to come in with your first part of your question around customers, as I understand the question to be, for some time now, there has been an arrangement in place, I think, with particularly larger use of these customers. They can be supply agreements, which may even cover multiyear supply agreements or 1-year supply agreements, are typically those contracts characterized by some kind of incentive programs and volumetric incentives. And typically, they're characterized by quarterly, sometimes 6-monthly price negotiations. There can be fluidity. As we've said on a number of occasions, with customer negotiations, it's not that price is going to only move on the first of a quarter or so forth. There is a significant amount of fluidity in negotiations with customers, more fluidity now than probably there's ever been with those customers. But I would characterize the contracts thus.

[Kurt Ogden:]

Laurence, just to follow up on the amount of cash that we think we need to keep on the balance sheet in order to operate the business. Of course, trapped cash is only trapped to the extent that you don't want to pay the tax to repatriate that cash. For our business, it's less than $25 million. Of course, we look at liquidity, importantly, in terms of how much liquidity we need to have access to. And that depends on where we are in the seasonal cycle. We certainly don't need $186 million on the balance sheet. We can certainly run this business with less. But given some of the capital demands that we're going to have here moving forward, right now, I think that we're going to keep a healthy amount of cash on the balance sheet as we work through some of these challenges.

[Laurence Alexander:]

And then just lastly, just maybe a quick one is, can you characterize the maintenance outages, if any, that you expect in 2018?

[Simon Turner:]

Yes, I can do that, Laurence. We basically, in our technology, in the sulfate part of this technology, have a situation with the central part of the plant, one line of which is typically taken off every 2 to 3 years. And typical maintenance times are about 4 weeks to 6 weeks. So there's a cycle. Of course, it's phased such that you don't take all of those outages at the same time. It rotates around sites. And a way to think about it is that's really one of the major reasons between our nameplate capacity and our effective operating rate. But what I can tell you is that, that regime has been pretty static for some years, and we expect it to remain the same in 2018. So there's no real surprises or differences in 2018. This holds for that chloride portion where we have chloride realizing changes. They happen on the cycle. They happen on a frequency. There's nothing that takes you to larger or smaller outage impacts in 2018.

[Operator:]

Our next question comes from Jeff Zekauskas of JPMorgan.

[Jeffrey Zekauskas:]

Exclusive of Pori, what was your rough operating rate in the quarter?

[Simon Turner:]

I would describe our operating rate as north of 90%, Jeff, 90%, 95%. And we really are -- put the pedal to the metals to work.

[Jeffrey Zekauskas:]

Okay. And it was the base case that when Pori was brought back up, it would be expanded. That is, maybe order of magnitude by 30%. And is that still the plan?

[Simon Turner:]

Jeff, there was no such plan to change the capacity at Pori. It was a like-for-like rebuild, still is. And yes, of course, you have newer, fresher equipment but essentially similar equipment and certainly similar capacity. As I said earlier, in this plant and all others, of course, we'd be hoping to nip out further creep over time, a kiloton here, a kiloton there. But certainly, it's not related to the rebuild project.

[Jeffrey Zekauskas:]

Okay. And then in your business acquisition and integration expenses of $4 million, is that all integration expense? Or is there some material amount of money for our business acquisition expense?

[Kurt Ogden:]

It's not specifically related all to integration. There is some modest amount of integration. It also includes an amount for our Augusta facility that we are continuing to commission and bring up to the yield of operating rates that were designed by Rockwood when we took on that facility. And so as we work through those manufacturing commissioning items, there are some expenses that we're recognizing as integration expense.

[Operator:]

Our next question comes from John Roberts of UBS.

[John Roberts:]

On Slide 9, the $240 million to $255 million 2018 free cash flow is before all Pori reconstruction expenses. How much lower do you think that number might be after the Pori reconstruction expenses?

[Kurt Ogden:]

Well, John, I think that we've indicated that the maintenance capital for this business on an annual basis can be roughly around $75 million. And so the $110 million that you see there includes some discretionary capital. So depending on where we are in the cycle, we can certainly bring that down. Right now, we think we have some attractive investments within the business. Candidly, I think we have a number of operators that would like to see us flexing that up within the business. But we're holding it kind of at that level for right now. Again, that $110 million excludes any Pori over-the-limit costs that we may incur.

[John Roberts:]

And I guess that's what I was asking, how much. So forgetting about additional growth CapEx that's there, just how much lower could the $240 million to $255 million be with the Pori uncovered costs that you have to pick up?

[Kurt Ogden:]

Well, in '18, it'll depend on the phasing of that over-the-limit costs, right? So I think you'd seen that total amount of $100 million to $150 million. So it would likely be a smaller amount than that. But again, it depends on the timing in which we bring the Pori facility back online.

[John Roberts:]

Okay. And then secondly, the pricing chart on Slide 8 has no scale. Could you put some numbers to that on the far right-hand side, maybe just in terms of percentages, if not absolute dollars per ton?

[Simon Turner:]

Sorry, John, we'll just be within...

[Kurt Ogden:]

Well, I think you have a little bit of a peek here if you were to reference back our price/volume mix table. It's Table 3 in the press release. And so if you think about third quarter versus the second quarter, you can see that our TiO2 prices improved at least on a local currency basis by 22%, and then with FX, it's 24%. And so that probably gives you at least the sense as to what that represents between 2Q and 3Q on that chart.

[Operator:]

Our next question comes from Jim Sheehan of SunTrust.

[James Sheehan:]

On your TiO2 pricing up 22%, can you give us a sense for what was your price capture in specialty grades of TiO2 as distinct from commodity grades?

[Simon Turner:]

Yes. Jim, I'd like to say here is that the capture within the specialty and commodity TiO2 grade -- more commoditized grade was not that dissimilar actually in the third quarter. So the aggregate amount between the 2 was relatively close. Now what I think we've said prior is that typically, specialty doesn't always move in lockstep with some of this functional pricing. So actually, that is quite a strong result for the specialty business. And bear in mind that in the functional business, we -- what we've basically said is we had a kind of full capture of the nomination. So that should give you some feel for the power of that specialty business in our portfolio.

[James Sheehan:]

And regarding the pending Tronox merger, what impact do you think that might have on utilization rates in the industry? And if they are -- were to divest assets as part of an antitrust process, would Venator be a potential buyer of those assets? Would you be interested in any of those assets?

[Simon Turner:]

Well, the answer to your first part of your question, I mean, we can't really say, I mean, frankly. And you'd have to, I think, ask those representatives of both entities for their comment. I guess my earlier comment stands, which I think was in my answer to Hassan's question, which is as larger entities come together, the example of Huntsman buying Rockwood, those larger companies have ways of optimizing their network. So I think that's a fair -- yes, and getting the most out of their network. So I think that's a fair generic point. On the second point, of course, what we've said a number of times is we wouldn't want to get into the specifics of that. That's a hypothetical question. To our knowledge, that process is still running, but our basic answer would be, of course, should any opportunity exist out there that we believe will be the right thing to do for our shareholders to create value, then of course, in theory, we will be interested in that, notwithstanding the fact we've laid out our priorities in the Chart 10 on our script.

[James Sheehan:]

And finally, do you expect ilmenite costs to increase for you in 2018 such that you will experience margin compression, all else being equal?

[Simon Turner:]

We expect to see margin expansion through 2018.

[Operator:]

Our next question comes from Matthew DeYoe of Vertical Research Partners.

[Matthew DeYoe:]

Just looking around the optionality, that remaining 40% capacity at Pori, is it possible to convert any of that to specialty grade, assuming reasonable capital spend?

[Simon Turner:]

That's a great question. In reality, there are a number of considerations around that. Of course, we make some specialty grade in other parts of our network, particularly in Germany, that require certain equipment and so forth. Probably the kind of capital expenditures for that kind of investment far outpace the economical rationale for relocating that to Pori. But of course, the specialty products themselves, we've represented in a number of occasions, experienced higher growth rates over time than the more functional products. And therefore, we would expect over time to be producing a higher proportion of those products in our Pori site. But having said that, we are not expressly planning on using any new extra capital expenditure to equip the plant with those abilities, and neither do we need to -- frankly, to achieve those organic growth goals.

[Matthew DeYoe:]

Okay. And kind of on the same topic, so Lomon was the one who kind of swooped in and helped out with the remedies on the Huntsman-Rockwood deal. And presumably, you shut down Calais on the back end to take out the ink grade capacity there. But related to your comment on the increased imports into Europe of ink grade, do you see kind of -- I mean, have you seen a net increase beyond what was reduced out of Calais? Or has that kind of just filled the gap and you keep moving forward ?

[Simon Turner:]

I would say that I'd characterize it pretty largely as filling the gap. I wouldn't say there's an increase. As we've said before, imports into Europe and North America are less than 10% of demand in these regions. There has been some kickup, but as I see it, it is just helping to fill the gap rather than a growth.

[Operator:]

Our next question comes from Arun Viswanathan of RBC Capital Markets.

[Arun Viswanathan:]

Just on the price and volume for Q3, so price was a little bit better than our expectations. So you captured all the $250. Was there any disruption amongst your customers on -- from the hurricanes on the coatings or paper side that led to the lower volumes? And how do you see that affecting Q4 at all?

[Simon Turner:]

Look, I think we see very limited disruption from the Hurricane Harvey and so forth of our customers, recognizing, of course, that we're not the largest of the producers in North America. But to the extent it was an issue that's mainly related to trucking and trucking availability, some small warehousing and infrastructural issues, I would characterize that as small, maybe even -- without wanting to try to underwhelm that, I mean, it's kind of negligible to us. Although clearly, anyone impacted in those events, our sympathies go out to those people. So I think that I would characterize it like that. And could you please repeat the second part of the question?

[Arun Viswanathan:]

I'm just curious on the volume outlook and, I guess, pricing as well. But Q4, you are expecting seasonally lower volumes, but just are volumes kind of playing out the way you expected or is it lower? And then I have another follow-on as well.

[Simon Turner:]

Look, we've been very encouraged by our volumes, I have to say. Our third quarter volumes are one of the reasons why we saw this really strong uplift in our earnings. I mean, thinking on a year-on-year basis, we're talking a sixfold increase here. We're talking about a 40 million step-up of this trajectory. And part of that is related to solid demand, good demand around the world. What we see in 4Q will be the normal seasonality, nothing untoward. Of course, recognize that we don't have the volumes we'd like in the Pori piece. You have to allow for that. But I would characterize the volume as good, underlying demand without any restock dynamics.

[Arun Viswanathan:]

Great. And then just on the cash use, could you just update us on your possibility of buybacks, when that could happen? I know you've given some detail on your debt paydown plans, but maybe on capital return or dividend or anything like that.

[Kurt Ogden:]

Sure. Well, I think we'll kind of defer that to kind of the board to make that decision. I do think that given the priority to reduce our net debt to $350 million and the notion that we're not there today, I think the indication we've tried to give you is that, that considerations really won't take place until we get closer to that $350 million.

[Operator:]

Our next question comes from Roger Spitz of Bank of America Merrill Lynch.

[Roger Spitz:]

Within the improved functional additives business performance that you talked about, was that driven by the -- if I pronounce this correctly, lithopone, which perhaps the customers are buying as it's, I believe, a TiO2 pigment alternative because the pigment prices are spiking? Or was that driven by the barium sulfate or zinc sulfide for some reason?

[Simon Turner:]

Yes. So I think that certainly, the additives uplift was mainly driven by the increases in price that we saw across all the categories of those products that you mentioned, which originate from our German facility in Duisburg. We do not -- we see that as the prime driver there. We do not see any substitutory or interconnected effects with our titanium dioxides.

[Roger Spitz:]

Okay. And another is, can you comment on your iron oxide pigments business performance, either year-over-year or -- and/or quarter-over-quarter?

[Simon Turner:]

Yes. Look, I think as we said to an early question in the call, we are still in transition with our iron oxide business. We've made a number of changes in this business. I think these recent closures we have announced bring to an end the last part of our closures enunciated in our business improvement plan. So we're into a situation post these closures where we have a footprint and network that we get behind. We're taking on dual costs here. In our Augusta facility -- of course, you're aware of the history of the Augusta facility. It's not the facility that we thought we were buying. And while we are continuing to make headway there, we don't see us getting up to the level that we would have liked to have got to when we bought that facility. So there are some challenges around transitioning that business, and I would point you at those as the main factors. But as I said, we are encouraged by our performance in those areas on the revenue side. We see some pretty solid demand. Our CPS, our coatings/paints subsegment of that business, continues to be pretty good.

[Operator:]

This concludes our question-and-answer session. I would like to turn the conference back over to Murdo Montgomery for any closing remarks.

[Murdo Montgomery:]

Thank you. Thank you for joining, everyone. We appreciate it's a busy day, so we'll close the call there, but please reach out to Investor Relations should you have any further questions. Thank you.

[Simon Turner:]

Thank you.

[Operator:]

The conference has now concluded. Thank you for attending today's presentation. You may now disconnect.