Verso Corporation
Q2 2020 Earnings Call Transcript

Published: 9 Aug 2020

[Operator:]

Good morning, and welcome to Verso Corporation's Second Quarter 2020 Earnings Conference Call. [Operator Instructions] Please note, this event is being recorded a replay of this call will be available on the Investors page of Verso's website after 1

[Tim Nusbaum:]

Thank you, and good morning. Second quarter 2020 financial results for Verso Corporation were announced this morning before the market opened. The earnings release as well as a set of slides we will refer to during the call are available on Verso's Investors web page at Verso's website, www.versoco.com. Joining me on the call today are Adam St. John, Verso's President and Chief Executive Officer; and Allen Campbell, Senior Vice President and Chief Financial Officer. I'd like to remind everyone that in the course of the call in order to give you a better understanding of our performance, we'll be making certain forward-looking statements. These forward-looking statements are subject to risks and uncertainties. Should one or more of these risks or uncertainties materialize or should underlying assumptions or estimates prove incorrect, actual results may vary materially from management's expectations. If you will like further information regarding the various risks and uncertainties associated with our business, please refer to our SEC filings, which are posted on our website, versoco.com, under the Investor tab. In addition, during today's call, we will discuss non-GAAP measures, which we believe can be useful in evaluating our performance. The presentation of this information, additional information should not be considered in isolation whereas a substitute for results prepared in accordance with GAAP and reconciliations to comparable GAAP measures are available in our earnings release. At this point, I'd like to turn the presentation over to Adam St. John.

[Adam St. John:]

Thank you, Tim. Good morning, everyone. Let's get started with Slide 4 of the presentation. These are certainly unprecedented times as COVID-19 continues to impact our industry. With the nation's staying home, schools closing and large-scale sporting and entertainment events canceled, the demand for our products has decreased significantly. The numbers speak for themselves. Year-to-date operating rates for coated free sheet and coated groundwood are at 74% and 72%, respectively, which are recent lows as a result of COVID demand challenges with reported year-over-year prices down over $70 a ton for both coated freesheet and coated grounded rolls and down $39 a ton for coated freesheet sheets. This impacted our financial performance. We reported revenues of $268 million with an adjusted EBITDA loss of $9 million, so as expected, a tough quarter right along with others in the industry. That said, during the quarter, we took decisive proactive actions not only to respond to the economic environment but also to establish a stronger operating model and strategy for the longer-term success of Verso. We consolidated the business to our two most profitable mills, Escanaba and Quinnesec. We sharpened our operating focus with a strategy around specialty, graphic and pulp, and we accelerate our return of capital to our shareholders with $23 million returned in the second quarter. In addition to commencing a regular quarterly cash dividend during the second quarter today, we announced a $3 per share special cash dividend, which we'll be issuing in the third quarter as part of our commitment to returning a significant amount of proceeds from the sale of Androscoggin and Stevens Point mills back to our shareholders. We're in a position to do this, thanks to our solid balance sheet, with $209 million in cash, $423 million in liquidity and $0 debt as of June 30. Our strong balance sheet is a key competitive advantage for us as we navigate the challenging short-term environment, but also as we look to build sustained long-term value. Moving on to Slide 5. We have strengthened our executive management team with 3 new appointments in key positions, a new Senior Vice President of Manufacturing and Energy, a senior VP of Sales and Marketing, and a Senior VP of HR and Communications. All are excellent, experienced executives, and we have already seen their impact within the organization. Our operations team continues to maintain an excellent safety performance with a year-to-date TIR of 0.78, while managing through the COVID-19 related safety measures, including social distancing, wearing of masks and complying with all CDC and local guidelines. Finally, we continued to strategically implement cost savings throughout the business. This is an ongoing process, and we have successfully maintained a low SG&A as a percentage of sales. Moving on to Slide 6. During the quarter, we announced the idling of the Duluth and Wisconsin graphic mill. It's never an easy decision to cease operations and lay off employees and the incurrent environment made our decision to take these actions particularly difficult. However, we took these proactive steps to address adverse market conditions, reducing our operating capacity by 35% and consolidating our strategy around 2 strong operating mills. Strategically, idling these mills not only reduces our costs and better aligns our operating strategy, but it also gives us sufficient operating flexibility. In the near term, we expect that the sell-through of the remaining inventory will offset the cash cost of these idled mills. Moving forward, there are a few strategic options for the idled assets. Should market conditions improve, we can opt to restart the mills. Alternatively, we could sell the idle mills to raise non-Duluth's capital and are working with an outside adviser as we evaluate this option. Finally, we could close permanently. Given the uncertainty in the macro environment right now, we believe this built-in flexibility maximizes our position to drive shareholder value. Now on to Slide 7. With the streamlining of our business, let's now take a look, a closer look at the 2 operating mills, their financial strength and the product composition and the strategy going forward. First, while there are a lot of moving parts right now, it's very important to understand that on a stand-alone basis, the 2 mills have healthy operating margins. Together with our efforts managing our SG&A, managing CapEx and spend and funding the pension appropriately, we believe these 2 mills should provide a cash-generating platform. Quinnesec is a world-class paper in pulp mill centrally positioned close to key markets, print markets and is a strong asset for the company. The Escanaba mill is a premier producer of graphic and specialty products and is also a valuable asset. We have refined our product strategy around these core product categories, graphics, specialty and pulp. And over time, we expect to see specialty in pulp become a larger portion of this pie chart. Now let's get into our strategy around these products. Slide 8 highlights one of the growth areas. Specialty papers is 21% of first half 2020 revenues in Quinnesec and Escanaba. We have built a long-standing customer base in specialty, and we're focused on increasing this segment as a percentage of revenue. Our growth strategy is focused around labels for consumer packaging. Our specialty products are used in labels for food, hygiene and pharmaceutical products as well as labels necessary for e-commerce. These are highly engineered technical products that are used by the brand to interact with the customer. We are the only North American supplier with multiple integrated facilities producing label and release products for this growing market. Moving on to Slide 9. We take a closer look at pulp, which was 11% of the first half 2020 revenues for our Quinnesec and Escanaba mills. The pulp sector has historically been moderate growth tied to its diverse market applications. We have established ourselves as a low-cost producer of high-quality hardwood pump at our Quinnesec mill, and we are driving our strategy to grow in this market. Expanding the pulp business, it makes a lot of sense for us financially. We can increase our pulp production at our Quinnesec mill, further improving the margin position of this already low-cost asset. This is a growing market where we have a low-cost asset, high-quality product and a great opportunity for margin growth. On Slide 10, we take a look at our graphics business. Our goal with the graphics business is to capitalize on our positioning as a premium supplier to maximize cash generation to support growth in specialty and pulp business. We expect capacity and this product sector will continue to come down, and our strategy is to pick up new customers as competitors move away from product category. Our sheet business brands of Sterling Premium and Anthem Plus are well established, and we're leveraging this strong recognition in the marketplace. To maximize cash generation, we will continue to manage capital aggressively, while maintaining the output at our facilities. On Slide 11, we frame out the near-, mid- and longer-term strategy for the company. Our first priority near term is to keep our employees safe. I'm proud of the work the team has done and continues to do so, and our employees feel comfortable in the workplace. Beyond that, during the quarter, we've reset and strengthened the business to maximize profitability and cash generation to execute against capital-efficient operating strategy. This enables us to create shareholder returns. Over the medium term, we expect to stay focused on executing against our capital-efficient strategy for each of our markets in growing specialty and pulp as a percentage of sales. When demand returns, we have capacity at our 2 current mills and also have the option to restart the idle mills if needed. We are in uncertain times dealing with many factors we can't control. So I'm not going to try to predict when demand will return and at what levels. However, we think we have seen the low point and are optimistic that we'll see stabilization and upward trends as we look into 2021. As far as factors under our control, with our proactive consolidation and streamlining of the business, we now have multiple levers to grow -- to efficiently grow. Our long-term vision is to focus on growth areas of our business and drive our capital-efficient growth strategy. We also believe we have the financial strength to evaluate nonorganic growth opportunities that are aligned with our strategy and create value for the shareholders. With that, I'll now turn over the call to Allen to review the financial performance.

[Allen Campbell:]

Thank you, Adam. Good morning. On Slide 13, we review some of the key metrics for the quarter. Net sales decreased to $268 million, resulting from the combined impact of the sale of our Androscoggin and Stevens Point mills in the first quarter, closure of the loop mill well as the overall economic downturn caused by the COVID-19 pandemic. As a result of these dynamics, you can see in the chart on the right that both shipments and average pricing per ton decreased significantly during the second quarter of 2020. Net loss improved to $34 million or a loss of $0.99 per share for the quarter compared to a net loss of $112 million or $323 million from second quarter last year, which was driven by the write-down of the loop mill assets. As we move forward, we are driving a more focused revenue strategy, and we've also implemented in excess of $30 million of cost savings, with more expected by the end of the year. We believe these efforts will allow us to maximize cash flow while slightly investing in attractive parts of our business that have potential to drive longer-term shareholder returns. Major maintenance for the quarter came down to $10 million, primarily due to the postponement of the Wisconsin Rapids mill outage. We did build 96,000 tons of inventory, which is ahead of idling our Duluth and Wisconsin Rapids mills. So we intend to keep that inventory and sell-through as we go through the remainder of the year and early into next year. This will put us well positioned to support our customers' needs. On Page 14, we walk our 2019 quarter two adjusted EBITDA to the 2020 quarter two. The $44 million we achieved in 2019 included $11 million of results from Androscoggin and Steven Point mills that we no longer own. While the closed Duluth Mill had a swing of $1 million in the quarter. Thus, on a comparable four mill basis, adjusted EBITDA was $34 million. The remaining bars highlight the changes year-over-year for a quarter on this four mill basis. Price mix was down $35 million and lower volumes decreased performance by $23 million. In addition, we took downtime in the quarter to the tune of $11 million. On the positive side, input costs are generally favorable across the board, contributing $6 million of improvement. You can see in the remaining part of the bridge, where we control the areas that we could. Major maintenance and significant cost controls in operations and in corporate overhead contributed $20 million improvement year-over-year. Moving on to Slide 14 (sic) [Slide 15]. You will see that despite the hidden cash in the quarter, we have significantly improved our cash position, driven mostly by the sale of our two mills. And correspondingly, our liquidity has improved $423 million from $267 million a year earlier. The cash burn for the quarter was $67 million, driven by the $9 million in negative adjusted EBITDA, CapEx of $15 million, net pension of $15 million, buyback and dividend activity of $23 million and other costs of $5 million. This other is made up of restructuring, severance, interest and taxes. We've also remained debt free since the third quarter 2019. Our balance sheet today provides us with a very solid foundation for which to drive shareholder value going forward. On Slide 16, we take a closer look at the financial profile for the two current operating mills. We have strategically refined our operating business to consist of these two strong mills with attractive economics. Quinnesec and Escanaba mills deliver higher margins than the historical average gross margins for our business, which has generally been in the low teens. Specifically for these two mills, the combined major maintenance was $24 million, and CapEx was $44 million, but of that $44 million, we wanted to note that we had $10 million of fairly one-off events, which was a tank failure and unexpected boiler wall repairs at our Quinnesec mill. We are targeting SG&A to remain at less than 5% of revenue after our planned cost reductions are implemented. With the operating strategy, which Adam shared, the improved margin profile of the go-forward business and reduced expenses, we believe we are in a good position to maximize cash flow moving forward as we drive operating improvements to position the business for long-term shareholder returns. On Slide 17, you'll see that we are also now returning considerable capital to shareholders through cash dividends and share repurchases. A major step in this commitment is our payment of $3 million, $3, sorry, $3 per share special cash dividend payable on September 28 to shareholders of record as of September 18. This is on top of the regular $0.10 per share dividend that will also be paid at the same time. Additionally, we have been actively buying back shares. And to date, we have repurchased $22.4 million or 1.6 million shares. With that, now I'd like to turn the call over for a Q&A session. Operator?

[Operator:]

[Operator Instructions] The first question comes from Jeff Van Sinderen of B. Riley.

[Jeff Van Sinderen:]

You mentioned that you think the trough is in or that the worst may be behind as far as, I guess, the overall marketplace. Can you speak more about how you're thinking about supply and demand kind of getting to a better balance in the marketplace for graphic paper and maybe how we should think about the status of your mills that are not running? I know you mentioned a couple of different options there. And then when you might reopen those mills? In other words, what would need to happen, I guess, for you to reopen those mills?

[Adam St. John:]

Yes. Volume in the second quarter, obviously, were, for all our grades was down 33%. We did have a significant uptick in July that we're optimistic about. So as far as volume goes, we do think we hit the low in June. So things are really starting to pick up for us on the graphic side of things. As far as reopening the mills right now. I mean it would have to, we've got a lot of inventory to work through that we built on purpose in order to supply our customers and give us the ability to move our sheeting business to the 2 other mills. So the market would have to come back fairly significant for us to consider restarting those operations.

[Jeff Van Sinderen:]

Okay. And then just as a follow-up to that, you mentioned July really picking up. Is that because the demand is picking up, do you think? Or is it just because there's just a better balance of supply and demand at this point?

[Adam St. John:]

Yes. I think demand is picking up and inventory is coming down.

[Jeffrey Van Sinderen:]

Okay, good. And then any help you can give us on -- I know this is a really tough question, but any help you can give us on volumes and pricing assumptions for Q3, given that you're starting to see improvement, maybe what we should contemplate for revenues and profitability in Q3? I know obviously, just running two mills, but -- or even just order of magnitude around that, any help you can give us there?

[Adam St. John:]

I will tell you, on volume, we've taken, as you know, significant capacity out. We took 540,000 tons out of coated freesheet in Rapid and Duluth, we took 270,000 tons out. So our expectation is to run the other two full. So obviously, if things change, we would take the necessary downtimes to not build inventory, but we feel like we've taken enough capacity out to run full. As far as price goes, you're right, we don't normally guide on price, but we know that we've -- we're going to have continued pressure in 2020. And RISI says there should be a recovery in 2021 and 2022. So I can leave you with that.

[Jeffrey Van Sinderen:]

Okay. And then just one more. I know you mentioned wanting to increase the specialty and nongraphic paper, concentration, the pulp concentration. Can you maybe detail or just give us kind of an overall sense of what the plans are around that? Projects that you're working on to get there?

[Adam St. John:]

Yes. It's all really product development efforts. There's no capital that we plan on spending to make those grades. So we're doing -- we're -- we've upped our product development to make some more release liner type products at Quinnesec. And obviously, we've got a pulp mill in Quinnesec, a low-cost pulp mill that can -- that makes a nice vail of hardwood pulp, and we have an asset there that's idle some of the time in our craft drive because Q41, when it goes on heavyweight, that's the paper machine, we don't have enough pulp to supply the dryer. So we believe we can increase our pulp productivity and get more revenue out of the mill by selling more hardwood.

[Jeffrey Van Sinderen:]

Okay. All right. Thanks very much for taking my questions.

[Operator:]

[Operator Instructions] The next question comes from Hamed Khorsand of BWS Financial. Please go ahead.

[Hamed Khorsand:]

Hi. So first off, I wanted to ask, have you seen competitors close yet? And why would you think competitors would close capacity if Verso has already taken out over 1 million tons in the past 12 months?

[Adam St. John:]

We took downtime of about 70,000 tons in the quarter. All we know is what we read. So Sappi, we know, in North America, took 107,000 tons of downtime. In worldwide, 595,000 tons of downtime. That's really all that's been reported. So that's all I can give you at this time.

[Hamed Khorsand:]

Okay. But I mean, you're seeing pricing pressures? Is it coming from imports or is it coming from U.S. producers?

[Adam St. John:]

It's coming from both. Imports stayed flat. You still got 75,000 tons a month coming from -- for coated freesheet. And you've got 35,000 tons a month coming coated groundwood. That stayed the same through the COVID period. There's a three month lag there. So I'm interested to see what those numbers are going to look like going forward. But over the years, that's been -- those have been the numbers. And they have -- they do impact our price.

[Hamed Khorsand:]

And then what type of customers are you seeing coming back in July that volumes have creeped up for you?

[Adam St. John:]

Mostly merchant.

[Hamed Khorsand:]

All right. And last question was how much of the cost savings will be at the mill level versus G&A?

[Allen Campbell:]

Early on of the $30 million that we said we put in place now, a majority of that came at the mill. There'll be additional SG&A going forward.

[Operator:]

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

[Adam St. John:]

Yes. Thank you for joining the call today, and we just want to have a great day. Thanks.

[Operator:]

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