Sylvamo Corporation (NYSE:SLVM) Q1 2023 Earnings Call Transcript May 14, 2023

Operator: Good morning. Thank you for standing by. Welcome to Sylvamo’s First Quarter 2023 Earnings Call. [Operator Instructions] As a reminder, your conference is being recorded. I would now like to turn the call over to Hans Bjorkman, Vice President, Investor Relations. Sir, the floor is yours.

Hans Bjorkman: Thanks, Greg. Good morning, and thank you for joining our call today. Our speakers this morning are Jean-Michel Ribieras, Chairman and Chief Executive Officer; and John Sims, Senior Vice President and Chief Financial Officer. Slides 2 and 3 contain important information, 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. Reconciliations of those figures to U.S. GAAP financial measures are available in the appendix. Our website also contains copies of the first quarter earnings press release as well as today’s presentation. With that, I’ll turn the call over to you, Jean-Michel.

Jean-Michel Ribieras: Thanks, Hans. Good morning, and thank you for joining our call. I’ll begin my comments on Slide 4. Our first quarter results were strong and in line with our expectation. Adjusted operating earnings per share were $2.51 and we achieved $208 million in adjusted EBITDA with a 22% margin. We maintained a strong financial position with net debt at 1.1x adjusted EBITDA. Price and mix as well as input transportation costs were favorable to our outlook. Our volume reflected continued inventory destocking and the worse than expected seasonal demand slowdown in Latin America. Our recently acquired Nymolla mill posted a strong quarter. The ramp up of cost savings from the recent port mill modernization are on schedule.

We are also pleased with our progress on other operational and commercial synergies. We returned $21 million in dividends and share repurchases to share owners in the first quarter. I am now on Slide 5. We remain committed to operating as a sustainable corporation that creates profits for its shareowners while protecting the environment and improving the life of those with whom we interact. With that in mind, since the spinoff, we’ve been pursuing the formal approval of our 2030 goals for greenhouse gas emissions. We are pleased to announce that we received formal approval of our 2030 emission reduction goals from the science-based target initiative. SBTI acknowledge that our commitment to reduce our absolute Scope 1, 2 and 3 emissions by about 28% is consistent with a well below 2-degree scenario.

As the slide shows, our own goal is even more ambitious. We are committed to a 35% reduction in total greenhouse gas emissions related to our 2019 baseline. Slide 6 highlights our key performance metrics for the first quarter. We achieved sales of $959 million, up 3% versus the fourth quarter. We generated adjusted EBITDA of $208 million, up more than 20% versus the fourth quarter. As expected, free cash flow was lower than the fourth quarter, reflecting an increase in mill inventories in preparation for our second quarter planned maintenance outages and the payment of annual incentive compensation. And we posted adjusted operating earnings of $2.51 per share, an 87% increase over the last year’s first quarter. The strong performances demonstrate our ability to continue to deliver on our investment thesis.

Now John will discuss our first quarter performance in more detail. John?

John Sims: Thank you, Jean-Michel. Good morning, everyone, and thank you for joining our call. Let’s turn to Slide 7 to review our first quarter adjusted EBITDA bridge. As Jean-Michel mentioned, we posted a solid quarter, generating $208 million in EBITDA, up $38 million versus the fourth quarter and in line with our guidance. Our EBITDA margin was strong also at 22%, 400 basis points better than the fourth quarter. Price and mix decreased by $8 million, driven by lower market pulp prices in all regions, which accounted for the majority of the decrease. In Europe, we reduced our paper prices as we rolled back Saillat energy surcharge announced in the fourth quarter. Paper price and mix was stable in the Americas. Volume decreased by $34 million.

In addition to the normal seasonal slowdown in Latin America, orders for the Brazilian government textbook program were delayed beyond the first quarter. Volumes in Europe and North America continue to be impacted by channel inventory corrections, particularly in the commercial printing segment. Operations and costs improved by $18 million, primarily due to lower accruals for the annual incentive compensation and favorable foreign exchange in Brazil. The ops and cost improvements occurred despite taking about 60,000 tons of lack of order downtime in response to our customers’ inventory adjustment. About half of the lack of order downtime was taken in Europe and the other half in North America. We did not conduct any planned maintenance outages in the first quarter, which resulted in a $31 million favorable variance.

Input and transportation costs improved by $14 million, reflecting favorable energy and distribution cost trends. And lastly, our Newland mill added $17 million of adjusted EBITDA and is performing very well since we closed on the acquisition at the beginning of the year. Let’s move to Slide 8 and talk about the uncoated freesheet industry conditions. In the first quarter, significant inventory destocking continued in all regions, resulting in lower shipments in Europe and North America. We expect inventory corrections to continue in the second quarter and be completed in the third quarter. With respect to demand, the first quarter is always the seasonally weakest quarter in Latin America. Demand was also adversely impacted by delay in the annual Brazilian government textbook program.

This was a material shift since the Education segment accounts for about one-third of Brazil uncoated freesheet demand. These orders have started in the second quarter. The cut size segment, which accounts for about 40% of the uncoated freesheet market in North America has been the most resilient segment of uncoated freesheet over the last few quarters as demand has increased with more workers returning to the office. The cut size segment didn’t see an increase in inventories in North America, so there’s no need to destock. As we expected, uncoated freesheet imports receded to more normal levels after peaking last October. We anticipate second quarter imports to return to normal levels, driven by the adequate domestic supply and the reopening of the Chinese economy.

In the first quarter, two competitors has announced permanent uncoated freesheet capacity shutdown. In North America, a 240,000 ton in North America was shut down in North Carolina was shut down. And in Europe, a machine in Austria will be shut down as well. We expect these capacity reductions to favorably impact operating rates. And in North America, we have already secured more than 60,000 incremental tons on an annual basis. Let’s go to Slide 9 to look at imports into Europe and North America. Driven by domestic supply shortages in the first half of 2022 and lower Chinese demand due to the COVID lockdown, Indonesian exports were diverted from China into our regions and increased steadily until peaking in October of 2022. As we mentioned last quarter, we expected that imports had already peaked and would return to more normal levels.

And as you can see from the chart, imports have dropped by about half in Europe and two-thirds in North America are back to normal levels. Moving to Slide 10, let’s discuss our second quarter outlook. We expect to deliver an adjusted EBITDA of $115 million to $125 million, which reflects a $59 million increase in planned maintenance outage expense this quarter. We project price and mix decreased by $45 million to $50 million, reflecting the realization of prior price decreases for pulp in all regions and paper in Europe as well as less favorable product mix. Keep in mind that pulp accounts for 10% of our sales on average 100,000 tons per quarter. We expect volume to improve by $10 million to $15 million, reflecting seasonally stronger volume in Latin America.

We project operations and costs to increase by $10 million to $15 million due to unabsorbed fit costs as we continue to match supply to our customers’ needs. We expect input and transportation costs to improve by $15 million to $20 million, largely on favorable trends in cost for natural gas, chemicals and transportation. Our adjusted operating earnings should be about $0.90 to $1.10 per share, including about $1 per share of higher planned outage expense. Slide 11 shows our planned maintenance outage schedule for the quarter, with 2/3 of the total annual cost scheduled for the second quarter. During this quarter, we’ll conduct outages in all three regions. After this quarter’s remaining planned outage expenses will largely occur in the fourth quarter.

I’m on Slide 12, which shows again our capital allocation framework and how we think about allocating cash to drive shareowner value. As we maintain our much stronger financial position with about $1 billion of gross debt, we are putting a greater emphasis on returning cash to shareholders and reinvesting in our business to grow our earnings and generate cash. We remain a cash flow story. We leverage our strengths to drive high returns on invested capital and generate free cash flow. And we use that cash to increase shareholder value by maintaining our strong financial position, returning more cash to shareholders and reinvesting in our business. Let’s flip to Slide 13 to review what we have done to enable us to increase the limits on cash returns to shareholders.

In March, we repurchased $360 million of our outstanding notes in order to eliminate the covenant that limited cash returns to $90 million per year. We replaced these notes with a new $300 million term loan A and short-term debt. This also allowed us to reduce our interest expense on $300 million of debt from 7% to 6%, and we locked this rate in by executing 5-year interest rate swaps. The last step to increasing the limits on cash returns is to address the credit agreement covenant that restricts annual cash returns to $90 million. When we approach that limit later this year, we expect the deposit $60 million into an SAC account and maintain $225 million in liquidity. These actions will enable us to return more than $90 million, returning more cash to our shareowners remains a priority.

I will wrap up my comments on Slide 14. We are also reinvesting in our assets to strengthen our business. This year, we plan to invest $175 million to $190 million of nondiscretionary capital. We are committed to ensuring safe operations in compliance with all laws and regulations, and we need to ensure reliable operations to remain the supplier of choice to our customers. In order to remain an investment of choice, we need to maintain our low-cost position and ensure availability of low-cost fiber in Brazil. We also expect to invest $35 million to $45 million in cost reduction and strategic capital at our flagship mills to improve our low-cost position and ensure the long-term [indiscernible] mills. This slide shows two examples of attractive cost reduction projects, one in Eastover to reduce chemical consumption and one at Luis Antonio to increase energy efficiency.

Both projects are forecast to generate internal rate of returns over 20%. So with that, Jean-Michel, I will turn it back to you.

Jean-Michel Ribieras: Thanks, John. I’m now on Slide 15. We have revised our full year outlook. We now project adjusted EBITDA of $720 million to $770 million and free cash flow of $250 million to $280 million. These new projections reflect the impact of previously announced pulp price decreases. Our updated views on second half pulp and paper pricing and volume and favorable implement transportation costs. Sylvamo remains a cash flow story. Our revised outlook indicates continued strong free cash flow of about $6 to $7 per share, which will allow us to return more cash to share owners. Slide 16, please. We remain confident in our ability to create shareowner value and remain committed to our investment thesis. We will continue to leverage our strengths to drive high returns on invested capital and generate cash, and we reduce that cash to maximize shareowner value.

Our three-pronged strategy of commercial excellence, operational excellence and financial discipline will enable us to continue creating long-term value for shareowners. We are grateful for our talented and engaged colleagues and their dedication to working safely, delivering on customer commitments and creating value for our shareowners. We are also grateful for our customers. Without their continued support and partnership, we cannot succeed. With that, I’ll turn the call back to Hans.

Hans Bjorkman: Thanks, Jean-Michel, and thank you, John. Okay. Greg, we are now ready to take questions.

Q&A Session

Operator: Okay. [Operator Instructions] Your first question comes from the line of George Staphos from Bank of America. Please go ahead.

Operator: [Operator Instructions] And we will go back to the line of George Staphos. Please go ahead.

Operator: Your next question comes from the line of Paul Quinn from RBC Capital Markets. Please go ahead.

Operator: Your next question comes from the line of Jonathon Luft from Eagle Capital Partners. Please go ahead.

Operator: Next, we’ll go back to the line of George Staphos. Please go ahead.

Operator: [Operator Instructions] And you have a question from the line of David Steinhardt from Contrarian Capital. Please go ahead.

Operator: And next, we will go back to the line of George Staphos. Please go ahead.

Operator: And at this time, there are no further questions. I’d now like to turn the call back to Hans Bjorkman for any closing comments.

Hans Bjorkman: Thanks, Greg. Before I wrap up the call, Jean-Michel, any closing thoughts?

Jean-Michel Ribieras: Thanks, Hans. First of all, thanks, everybody, for joining our call. I think it’s important to say this year, we remain confident in our ability to generate very strong EBITDA between $720 million to $770 million, free cash flow of $250 million to $280 million. Just to put it in perspective, that represents an adjusted EBITDA of more than 18% and a return on invested capital above 25%. So we are expecting good numbers, and that will allow us to achieve one of our main goal, which is to return more than 90 million to shareholders. We will do that dividend and share repurchases in ’23, and that remains one of our priority. With that, thank you for joining the call.

Hans Bjorkman: Thanks for joining the call. We appreciate your interest in Sylvamo, and we look forward to continued conversations in the coming weeks and the months ahead. Thank you very much. Have a great day.

Operator: Once again, we would like to thank you for participating in Sylvamo’s first quarter 2023 earnings call. You may now disconnect.