International Paper Company (NYSE:IP) Q1 2024 Earnings Call Transcript

International Paper Company (NYSE:IP) Q1 2024 Earnings Call Transcript April 25, 2024

International Paper Company misses on earnings expectations. Reported EPS is $0.17 EPS, expectations were $0.23. IP isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).

Operator: Good morning, and thank you for standing by. Welcome to today’s International Paper’s First Quarter 2024 Earnings Call. [Operator Instructions] It is now my pleasure to turn the call over to Mark Nellessen, Vice President, Investor Relations. Sir, the floor is yours.

Mark Nellessen: Thank you, Greg. Good morning, and thank you for joining International Paper’s first quarter earnings call. Our speakers this morning are Mark Sutton, Chairman and Chief Executive Officer; and Tim Nicholls, Senior Vice President and Chief Financial Officer. There is important information at the beginning of our presentation including certain legal disclaimers. For example, during this call, we will make forward-looking statements that are subject to risks and uncertainties. We will also present certain non-U.S. GAAP financial information. A reconciliation of those figures to U.S. GAAP financial measures is available on our website. Our website also contains copies of the first quarter earnings press release and today’s presentation slides. I’ll now turn the call over to Mark Sutton.

Mark Sutton: Thank you, Mark, and good morning, everyone. We will begin our discussion on Slide 4, where I will highlight our results. Starting off the year, our teams across International Paper executed well with intense focus on taking care of our customers while accelerating our commercial and mill optimization strategies. We’re also encouraged to see positive market momentum as we continue to see signs of demand recovery. Additionally, sales price index has improved across our portfolio, and the majority of the benefits will flow through our contracts and future quarters. Our first quarter earnings were generally in line with our outlook and represent a trough based on seasonally low volumes, higher OCC costs and the majority impact from the 2023 sales price index declines.

Earnings were also unfavorably impacted by approximately $38 million from the January winter freeze, and approximately $14 million from a significant fire that consumed our Box plant in Ixtac, Mexico. Fortunately, no one was injured, and our teams remain focused on taking care of our employees and customers as we manage through this incident. Also in the quarter, our teams across International Paper made significant progress executing our strategic initiatives. We realized significant margin and mix benefits from our Box Go-to-Market strategy, well above our initial expectations for the first quarter. In addition, we continue to make investments to strengthen our packaging businesses. We also realized benefits from our optimization strategy in Global Cellulose Fibers and from the fixed cost reduction initiatives in our mill system.

These strategic initiatives across our portfolio are focused on accelerating margin improvement and driving profitable growth. In addition to this ongoing work, last week we announced a catalyst to create significant value for shareowners through a highly compelling combination with DS Smith. This additional catalyst is something we look forward to working on with DS Smith team and continuing our conversations with investors regarding this opportunity. At this time, we do not have any additional information to share. So for today’s call, including the Q&A session, we intend to focus specifically on International Paper’s performance. I will now turn it over to Tim, who will provide more details about our first quarter performance and also our outlook.

Tim?

Timothy Nicholls: Great. Thank you, Mark. Excuse me, turning to our first quarter key financials on Slide 5. As Mark mentioned earlier, our first quarter earnings were generally in line with our outlook and represent a trough based on seasonally low volumes, higher OCC costs, and the majority impact on the 2023 Sales Price Index declines. Operating earnings and margins were also negatively impacted by approximately $52 million or $0.10 per share from the January winter freeze and the Ixtac box plant fire. For the quarter, we generated $144 million of free cash flow. As a reminder, our free cash flow in the first quarter of last year included a $193 million final settlement with the IRS related to IP’s timber monetization structure.

Looking ahead, we expect significant earnings improvement based on positive market trends and benefits from our commercial and cost improvement initiatives. Now turn to Slide 6 and I’ll provide more details about the quarter as we walk through the sequential earnings bridge. First quarter operating earnings per share was $0.17 as compared to $0.41 in the fourth quarter. As I mentioned earlier, the first quarter included $0.10 per share related to the January freeze and the Ixtac fire. Price and mix was higher by $0.14 per share driven by significant margin and mix benefits from successfully executing our Box Go-to-Market strategy and our GCF optimization strategy. This was partially offset by the majority of prior Sales Price Index declines from 2023.

Volume was unfavorable by $0.08 per share, primarily due to seasonally low shipments across both segments as well as some impact from the winter storm in January. We continue to deploy our commercial strategies across the portfolio focused on margin and mix improvements, which has impacted volumes in the near-term as we transition based on our strategy. Operations and costs were unfavorable by $0.13 per share sequentially. This included approximately $0.07 per share from the January winter freeze and the Ixtac box plant fire. The remainder was primarily due to cost inflation, including the higher cost of employee benefits. The unfavorable impact at operating costs from seasonally lower volumes was also by cost savings from our mill closure and machine shutdowns last year.

Maintenance outages were higher by $60 million or $0.03 per share in the first quarter. An input cost unfavorably impacted earnings by $0.07 per share sequentially, largely due to increased costs for OCC, with the remainder from higher energy and chemicals. And finally, corporate items unfavorably impacted earnings by $0.07 per share sequentially, primarily due to FX and reserve adjustments that were favorable in the fourth quarter. Turning to the segments and starting with Industrial Packaging on Slide 7. Price and mix was higher due to significant benefits from our Box Go-to-Market strategy, which contributed approximately $110 million of earnings benefit from improved margins and mix. This was partially offset by the majority of prior Sales Price Index declines from 2023, which negatively impacted earnings by approximately $53 million.

With that said, the February index publication of $40 — of a $40 per ton increase will flow through our contracts primarily over the next couple of quarters. In addition, the commercial benefits from our Box Go-to-Market strategy exceeded our expectations for the first quarter and the commercial teams remain focused on pursuing additional opportunities going forward. Volume was lower as first quarter represents our seasonally lowest shipment quarter of the year and was also adversely impacted by the January freeze. Also, our Box Go-to-Market strategy is about making choices that will likely impact our volume in the near-term, but will allow us to improve our margins and mix over the long-term. Although we expect to trail the industry for the next few quarters when measuring unit volume growth, we fully expect the volume impacts to be temporary, as we continue to transition toward our target mix of customers and invest in the business to maximize profitability.

Operations and costs included a $34 million unfavorable impact from the January winter freeze and the Ixtac box plant fire in March. The remainder was primarily due to cost inflation, including items such as labor, materials, contracted maintenance services and higher cost of employee benefits. There was also lower fixed cost absorption from seasonally lower volumes. However, this was partially offset by $22 million of fixed cost savings from the Orange mill closure. Outside of the January freeze, our mill system ran very well in the first quarter. Planned maintenance outages were higher by $26 million sequentially, and input costs were higher primarily due to higher OCC costs. On Slide 8, we thought it would be helpful to update you on segment trends for our North American packaging business like we did last quarter.

We continue to see stable to improving demand across all end use segments. Let me highlight some of the trends based on customer feedback. eCommerce continues to be very resilient, up mid single digits on a year-over-year basis in the first quarter and significantly above pre-COVID levels. Food and Beverage has been relatively stable overall. The overall fresh food segment continues to benefit from solid performance across the food service channel as well as consumer shifts toward make-at-home meals in lieu of processed food and its convenience. The processed food segment is beginning to show signs of improvement as some producers and retailers are running promotions to improve sales volumes. The Produce segment was about flat in the first quarter, with a drag from wet weather in the Western U.S. However, this segment is expected to recover in the second quarter.

And the Protein segment is improving following a period of supply reductions in beef and poultry. Poultry remains the preferred choice by consumers based on value. The beverage segment remains under pressure as budget conscious consumers have reduced consumption of specialty beverages and bottled beer which tend to be more packaging and intensive. In summary, based on these trends, we believe industry Box demand will grow approximately 2% to 3% in 2024. We understand the critical role of corrugated packaging plays in bringing essential products to consumers and we believe that IP is well-positioned to grow our customers — with our customers over the long-term. Moving to Global Cellulose Fibers on Slide 9. Price and mix was higher due to price index movement and GCF optimization strategy driving benefits from higher absorbent pulp mix, and the reduction of commodity grades.

Volume sequentially was relatively flat overall as improved demand for absorbent pulp was offset by lower sales of commodity grades as we continue to focus on strategically aligning our business with the most attractive customers and segments. Operations and costs was unfavorable sequentially due to the January freeze and cost inflation, including labor, materials, contracted services and higher cost of employee benefits and some timing of spend. Most of this was offset by $12 million of lower fixed costs resulting from the two pulp machine closures at our mills at Riegelwood, North Carolina and Pensacola, Florida. Planned maintenance outages were lower in the first quarter by $10 million, and also included a $24 million outage related to the Georgetown white papers machine that unfavorably impacted earnings in the first quarter, but is expected to be recovered throughout the rest of the year through an existing supply agreement with Sylvamo.

Finally, input costs were higher by $7 million, primarily due to higher energy costs during the January freeze. On Slide 10, we’ll take a look at our second quarter outlook. I’ll start with Industrial Packaging. We expect price and mix to improve earnings by $65 million sequentially. This is the result of the prior index movement in North America, higher export prices to date, as well as continued progress with our Box Go-to-Market strategy. Volume is expected to increase earnings by $55 million, primarily due to seasonally higher daily demands with one more shipping day. Operations and cost is expected to decrease earnings by $70 million. This includes proactive maintenance spending beyond our full scale mill annual outage program. As we anticipate continued demand recovery and increased equipment utilization, this spending is focused on improving productivity and efficiencies across our mills and Box plant network.

We will continue to experience additional inflation and higher S&A including additional commercial resources to support our Box Go-to-Market strategy. Higher maintenance outage expense is expected to decrease earnings by $4 million. Included in that total is a $19 million outage related to the Riverdale white papers machine that will be recovered throughout the year through an existing supply agreement with Sylvamo. And lastly, input costs are expected to be stable overall as higher OCC costs are expected to be offset by lower energy costs. Switching to Global Cellulose Fibers, we expect price and mix to increase earnings by $15 million as a result of prior index movements. Volume is expected to remain flat as we reduce exposure to commodity grades and grow with absorbent pulp.

Operations and costs are expected to increase earnings by $20 million, primarily due to lower fixed costs resulting from full machine closures at our Riegelwood and Pensacola mills to not repeat of the January freeze and time of spending. Lower maintenance outage expense is expected to increase earnings in the second quarter by $19 million. This sequential improvement reflects the $24 million Georgetown paper outage that occurred in the first quarter which we expect to recover throughout the rest of the year. And lastly, input costs are expected to be stable. With that, I’ll turn it back over to Mark.

Mark Sutton: Thanks, Tim. I’ll turn to Slide 11 and give you some additional perspective on our progress we’re making on our business strategies. Our teams across International Paper are advancing our strategies and capturing significant value. In the packaging business, which is on the left hand side of this slide, our Box Go-to-Market strategy is focused on enhancing our capabilities and strong value propositions to improve margins and mix. We are making choices that create value for our customers while maximizing the profitability of our packaging business. Earlier Tim called out approximately $110 million of price and mix benefits realized in the first quarter, and we expect additional opportunities as we go through the year.

In addition, we continue to make investments across our Box network to improve our capabilities to serve customer needs and increased productivity. These projects have attractive financial returns and position our packaging businesses for profitable growth in the future. In our Global Cellulose Fibers business we are — we also realized benefits from our optimization strategy by aligning our resources with the most attractive customers and segments and reducing exposure to commodity grades. This shows up as market and mix improvements in the first quarter. Across the enterprise, we also optimized our mill system that realize $34 million of fixed cost savings in the first quarter. These strategic initiatives across our portfolio are focused on accelerating margin improvement and driving profitable growth and will remain a high priority for our teams at IP.

Moving to Slide 12, and given our CEO transition, I’d like to take a moment to express my personal gratitude for my journey with International Paper. It has been a privilege to be part of the IP family for my entire career. Four years really goes by fast when you work with outstanding people at a great company. While I enjoyed all the various roles and opportunities, I’m truly humbled and honored to have served as IP’s leader for the past decade. During this time, we have become a more focused company and our financial foundation is strong, as are the principles and core values that guide our actions and decisions about how we operate. Our team knows our mission matters, that we improve people’s lives by using renewable resources to make products people depend on every day.

We understand how important it is to help our customers solve problems and achieve their goals. And we’re laser focused on the things that are improving the company and making IP a very well-positioned company for the future. I’m incredibly proud of our employees. I have seen them demonstrate time and time again their resilience and agility to overcome challenges. This was particularly evident during the global pandemic, when our team showed up for work every day to get the job done. Their dedication ensured people around the world had access to a variety of essential goods. To everyone on the IP team and all our operate — our operations and offices around the globe for what you do each day, and for making a difference, thank you. And to our shareowners, thank you for your continued confidence and investment in International Paper.

It has been a remarkable journey for me being part of IP’s 126 year legacy. I’m proud of how far our company has come and I’m looking forward to seeing how far International Paper will go. And with that, we’re ready to move to Q&A.

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Q&A Session

Operator: [Operator Instructions] Your first question comes from the line of Matthew McKellar from RBC Capital Markets. Please go ahead.

Matthew McKellar: Hi. Good morning. Thanks for taking my questions. I was wondering if you can start with just reconciling the benefits from the changes in your go-to-market strategy in the Box business versus what you’re expecting to start the year. And then it sounds like you’re expecting some incremental benefits to flow through in Q2 and beyond. I was wondering if you could help us just quantify that.

Mark Sutton: So Matthew, thank you for asking. We had outlook closer to maybe $70 million and we overachieved that. Tom Hamic, I think can walk you through a lot of moving parts on that. But I think he can walk you through how we basically overachieved our outlook.

Thomas Hamic: Sure. Thanks, Mark, and good morning, Matthew. I would say we exceeded the price component for two reasons. First of all, at the local level, we had better-than-expected improvement as we were starting Q4. So these are customers that are really the decisions are made in the field. Most of our forecasts and thinking about the improvement was focused on very large customers that are across the country. We exceeded the expectations there. But the big mover was our investment in the commercial teams in the field, training, execution, driving benefit for our customers and frankly, getting a fair price that maybe we didn’t in the past. I can’t say that the volume gap to market was almost exactly where we expected it. So these tradeoffs are playing out the way we expected, but the margin improvement is more significant.

Matthew McKellar: Great. Thanks for the color there. And then I realized it’s a pretty marginal change, but can you talk about what you’re seeing in the market either in Q2 so far and more generally that led you to revise your expected North American Industry Box shipment growth to 2% to 3% in ’24 from 3% previously.

Thomas Hamic: Sure, Matthew. This is Tom again. I would say that the second quarter is going to be close to 2% for the industry. So that’s an improvement from 4 to 1 to 2. We expect that improvement to continue. I would say 2% is probably in line with a fairly tough economic second half. And obviously, when you’re forecasting, the toughest things to predict or when you have a turn, and we are going to have a turn, our customers do not have enough inventory. And at some point, they’re going to have to reinvest in that base as the economy improves. And so our forecast, if you cut down to 2%, that suggests no improvement at all, and probably a fairly tough retail sales environment. I think it would be closer to 3%, and I would not take 4% off the table. So a moderate adjustment to be conservative is what I would say.

Matthew McKellar: Great. Thanks for the color there. That’s all for me. Mark, congratulations on the retirement. I’ll turn it back.

Mark Sutton: Thank you, Matthew.

Operator: Your next question comes from the line of Mark Weintraub from Seaport Research Partners. Please go ahead.

Mark Weintraub: Thank you. First question, just wanted to understand the operations and costs in the packaging business. I think you’ve talked to being a negative $70 million 2Q v 1Q. And I think though at the same time, we should have about $50 million positive because we don’t have the fire and we don’t have the winter freeze issues. So that seems to be like a $120 million negative swing. So I was hoping to get kind of more specific as to why that number would be so large?

Mark Sutton: Mark, hi. This is Mark. That’s a great question. I think it’s two parts. It’s the value chain, starting with containerboard and all the way through Box. Our prepared remarks talked about generically preparing for what we believe will be higher utilization as well as some of the spending is maintenance costs, but it really is in the Box business to improve productivity and throughput. It’s just not at the capital cost level. So what I would like to do is ask Jay Royalty to talk a little bit about the containerboard part of the value chain, and then Tom can add some comments on the converting and bauxite. So Jay?

James P. Royalty: Thanks, Mark, and good morning, Mark. Thanks for the question. I think speaking to the containerboard side of the equation, there’s a couple of things going on to keep in mind. One is the inflationary situation. So if you step back and think about what’s happened in the last couple of years and how to think about that in the context of where we are, the cost to deliver the same value to customers has really increased dramatically over the last couple of years, and we see that again as we step into 2024, and we saw a meaningful impact in our 1Q numbers. We will see — and this is related to all of this inflation. And we will see another step in 2Q and then you can really think about that kind of leveling out from there.

And why that is the case is a lot of this inflation is labor related. When you think about labor flowing through all of these different things, but it’s also front-end loaded as these contracts reset at really the beginning of the year. And so labor and benefits, maintenance services, operating supplies and materials warehousing cost and even some kind of benign overhead expenses like insurance and property taxes, we all see those meaningfully up as we come into ’24. And so that’s one thing that’s impacting the numbers in 1Q and then again in 2Q. The other thing, and Tim spoke to it in terms of the proactive maintenance spending. If you think about how we’ve been operating for the last several quarters in light of the lower demand environment, we’ve been modulating our spending in reaction to that.

But as you heard us talk about, we are seeing more and more evidence of the recovery really across all the channels and we need to be ready for that. We are in the early stages, but it’s going to continue to ramp and we need to be ahead of that. So on — Tom will talk about the Box side. On the mill side, I would characterize it as a very modest step up. But given our size and scale, the numbers are not insignificant, but it’s really about trying to get ahead of that — and these are things like ongoing maintenance and repairs to support productivity, efficiency, reliability across all facets of the mill, the pulp areas, the power areas and the paper as well. So it’s really about increasing that cadence and then depending on how the demand plays out from here, we will modulate that accordingly.