Sylvamo Corp

NYSE:SLVM

Earnings Call Analysis

Sylvamo Projects Higher 2023 Free Cash Flow

Sylvamo is fortifying its value creation capabilities, anticipating more than $270 million in free cash flow for the current year. The company expresses confidence in its future, driven by strategic initiatives like Project Horizon, which is expected to provide a $60 million net benefit by 2024 despite anticipating roughly $50 million in inflation. Global demand trends are projected to persist, with an expected ongoing annual decline around 5%, although the impact from inventory correction seen in prior periods is not expected to recur.

Strengthening Financials and Cash Flow Projections

The company has been focused on fortifying its balance sheet and liquidity. With an investment of $318 million in high-return capital projects, the company strives to create value for shareholders across market cycles. A noteworthy projection for the year is the generation of more than $270 million in cash, which highlights the company's robust cash flow story. This sound financial base is allowing the company to explore further development of strategic channel partnerships and leverage its low-cost assets, particularly in Brazil.

Cost Reduction and Efficiency Initiatives

Project Horizon, a cost reduction initiative, has been introduced with the expectation of achieving a $110 million run rate by the end of 2024. Despite facing potential inflationary pressures estimated at approximately $50 million, the company anticipates a net benefit of $60 million to the profit and loss statement. The full run rate is expected to materialize in a net benefit ranging between $10 to $15 million.

Navigating Through Market Demand Fluctuations

The company is currently witnessing a global demand downturn of around 5%, which is thought to be largely related to inventory corrections rather than a deeper recessionary decline. Going forward, the company expects demand to stabilize and align more closely with consumption levels, eliminating significant inventory corrections. The management has also secured a new business win in North America that could help counterbalance the demand challenges.

Earnings Call Transcript 2023-Q3

[Operator]

Thanks for standing by. Welcome to Sylvamo's Third Quarter 2023 Earnings Conference Call. After the speaker's remarks, you will have an opportunity to ask questions.

[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, executive]

Thanks, Greg. Good morning, and thank you for joining our call today. Our speakers this morning are Jean-Michel Ribiéras 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 third quarter 2023 earnings press release as well as today's presentation. With that, I'll turn the call over to Jean-Michel.

[Jean-Michel Ribiéras, executive]

Thanks, [ Hans ]. Good morning, and thank you for joining our call. Let's turn to Slide 4, please. In the Third Quarter, we achieved $158 million in adjusted EBITDA and generated strong free cash flow of EUR 150 million -- PLN 155 million.

We achieved adjusted operating earnings of $1.70 per share. Price and mix, operation and input transportation costs were all favorable to the outlook we provided in our Second Quarter call. Our Third Quarter volume was short of our expectations reflecting ongoing China inventory destocking and weaker-than-expected demand.

We strengthened our financial position in the Third Quarter with net debt of $796 million another 1.2x net debt to adjusted EBITDA ratio. We also deposited $60 million in escrow to remove cash [ return emits ] related to the Brazil tax dispute in our credit agreement while returning $24 million in cash to shareholders in the quarter.

Slide 5 compares our Third Quarter key financial metrics versus prior periods. In the Third Quarter, our earnings were better than our outlook, and we took measures to maximize free cash flow, including selling and administrative cost reduction, shrinking working capital and adjusting the timing of capital spending. I'm proud of our teams collaborated to take care of our customer needs while executing significant economic downtime safely and as efficiently as possible. Now John will discuss our Third Quarter performance in more detail. John?

[John Sims, executive]

Thank you, Jean-Michel. Good morning, everyone, and thanks for joining our call. Slide 6 shows our Third Quarter earnings bridge. As Jean-Michel stated, we earned $158 million of adjusted EBITDA in the quarter, which was slightly higher than our guidance of $130 million to $150 million.

Let's discuss the changes versus the Second Quarter adjusted EBITDA. Price and mix decreased by $55 million due primarily to lower paper prices in Europe and Latin America export markets as well as lower global pulp sales. Volume increased by $6 million in the Americas, while Europe remained stable. Operations and other costs improved by $1 million with better operating and supply chain results offset by $13 million in higher unabsorbed fixed costs due to increased economic downtime.

Planned maintenance outage costs decreased by $55 million with no major planned outages in the quarter. Input and transportation costs improved by $27 million, driven by favorable fiber, chemical and transportation costs.

So let's move to Slide 7. This slide sums world graphic paper demand at just over 100 million tons. Here, you can see that uncoated freesheet is the largest and most resilient of all the graphic paper grades. What separates uncoated freesheet. It's quite simple. Uncoated freesheet has the highest number of end-use applications and is used across all sectors of the economy, Uncoated freesheet's sustainable, fordable and functional. And we believe paper will remain an effective vehicle for education, communication and entertainment for a long time.

Paper plays a critical role in education. Studies continue to show that students of all ages absorb more when reading on paper versus reading on digital screens. In fact, Sweden recently moved students off digital devices and back on to books and handwriting on paper. This is why total demand for uncoated freesheet exceeds the sum of all the other printing and writing grades combined.

Let's turn to Slide 8. We continue to believe that current uncoated freesheet consumption is better than the demand data suggests. The Pulp and Paper Products Council, has published that shows year-over-year changes in estimated consumption versus demand. And on this slide, you can see North American comparisons for 2021, '22 in the first half of '23.

The Pulp and Paper Products Council, sears our view that coming out of the pandemic customers were buying more paper than they were using. And this year, they're using more paper than they are buying. The situations in Europe and Latin America are similar.

Moving to Slide 9. Current industry conditions are starting to show signs of improvement. U.S. advertising is starting to pick back up and the U.S. economy continues to [ see vitality ]. And uncoated freesheet with channel destocking nearly completed, we are starting to see increased order entry globally. Pulp inventory levels have improved significantly globally and prices are increasing globally.

Slide 10, please. We expect to deliver Fourth Quarter adjusted EBITDA of $90 million to $110 million. We project price and mix to decrease at a slower rate of $20 million to $25 million primarily reflecting prior paper price decreases in Europe and unfavorable geographic mix in the Americas. We expect volume to improve by $20 million to $25 million. This reflects seasonally stronger volume in Latin America, the completion of destocking in Europe and North America as well as a new business we picked up in North America.

Operations and other costs are projected to increase by $25 million to $30 million, and this is primarily due to higher seasonal operating costs in Europe and North America. We expect input and transportation costs to increase by $5 million to $10 million due to seasonally higher energy. Planned maintenance outages are projected to increase by $25 million as we have outages in all our regions in this quarter.

We project adjusted operating earnings of $0.55 to $0.90 per share. This level of Fourth Quarter adjusted EBITDA may be a bit less than expected, and here's how I think about it. At current industry demand, price and input costs the quarter would be $15 million to $25 million higher, adjusting for 3 factors.

First, normalizing for planned maintenance outages. Second, adjusting for higher cold weather operating costs, and third, we're taking some -- more downtime to reduce our inventories in the Fourth Quarter, especially in North America.

Let's go to Slide 11. We compete as a low-cost producer of commodity products sold to mature demand cyclical market. become a leaner, stronger company, we initiated Project Horizon to streamline our organization and improve our cost structure. Before inflation, we are targeting a run rate savings of $110 million by the end of 2024. About 2/3 of the target will come from operational cost reductions in our mills and supply chains by improving efficiencies, accelerating our cost reduction capital spending pipeline, and reducing direct variable and indirect costs.

The remainder will come from selling and administrative cost reductions, including the elimination of about 150 salaried positions globally or nearly 7% of our [ solid book for ]. Let's me to Slide 12 to talk about how we are allocating cash to create value. Year-to-date, through the Third Quarter, we have generated $190 million in free cash flow. We will continue to maintain a strong balance sheet returned substantial cash to shareholders and create value by reinvesting in our business.

During the Third Quarter, year-to-date, we repaid $36 million of debt and in October, we repaid another $10 million. As of November 9, we have returned $110 million in cash to shareholders and plan to return $125 million this year. Remember, we also deposited $60 million in escrow in the Third Quarter so we can return more than $90 million.

Our Board of Directors increased our regular dividend by 20% and declared a $0.30 per share special dividend. We paid both totaling $25 million on October 17. The Board also authorized an incremental $150 million share repurchase program. At the end of the Third Quarter, the May 2022, September 2023, authorization collectively had $167 million remaining. We will continue to look for opportunities to repurchase shares at attractive prices. Jean-Michel, I'll turn it back to you.

[Jean-Michel Ribiéras, executive]

Thanks, John. I'm now on Slide 13. In October, we celebrated our 2-year anniversary. We would have thought that we would go through such extreme industry cycles in the first 2 years. Being a low-cost global producer with strong supply position and iconic brands has positioned us well.

We have created significant shareowner value by managing what we can control. First, we have allocated cash to improve our financial position by reducing debt by 35% of $530 million to strengthen our balance sheet. Second, we continue to deliver on our investment cities. We have earned over 1.3 billion in adjusted EBITDA which is a 19% margin. We also generated $568 million in free cash flow and returned $200 million to shareholders since our spinoff. Third, we continue to reinvest in our business to strengthen our low-cost assets. We have invested 318 million and are accelerating investment in high-return capital projects.

I'll conclude my remarks on Slide 14. We are strengthening our ability to create shareholder value throughout the cycle. Sylvamo remains a cash flow story, and we are now projecting more than $270 million in cash this year. We are building on our strong supply position while we further develop our strategic channel partnerships. Operational excellence remains key to our performance as we leverage our low-cost assets and Brazilian [ post ].

John walked you through our cost reduction initiative, Project Horizon, which will make us a leaner, stronger company. We understand our efforts to reduce our global salary positions may affect our colleagues whose position would be eliminated. We will help these employees by providing transition service and want to thank them for the service. Financial discipline is [ trade ] important to us. We will continue to leverage our strength to drive high returns on invested capital, generate free cash flow and use that cash to increase shareholders' value by maintaining a strong financial position, returning cash to shareholders and reinvesting in our business.

We will create long-term value, so a talented team, iconic brands and low-cost mills in favorable location. We're confident in our future and motivated by the opportunities that lie ahead. With that, I'll turn the call back to Hans.

[Hans Bjorkman, executive]

Thanks, Jean-Michel, and thank you, John. Okay, Greg, we're ready to take questions.

[Operator]

[Operator Instructions]

Your first question comes from the line of George Staphos from Bank of America.

[George Staphos, analyst]

Thanks for the details. The first question I wanted to hit on is with Project Horizon. The deck speaks to about $22 million of run rate savings from the salaried reduction, if I'm reading it correctly, the footnote correctly. In total, what net benefit do you think you'll be able to get from the program in '24, recognizing, obviously, it affects a number of people who worked with the organization for a long time and it's a bittersweet, but what do you think the net benefit to the P&L would be from this program in '24?

[John Sims, executive]

And George, it's John. To answer your question, we're talking $110 million run rate by the end 2024 and we do have on the slide, we're estimating that inflation for 2024 can be approximately $50 million. So the net benefit in total will be $60 million once we get to the full run rate in 2024, we're expecting a net benefit of about $10 million to $15 million.

[George Staphos, analyst]

Second question, what we've been seeing in volumes will maybe from an amplitude standpoint is larger and, therefore, worse than expected. It's it's not unreasonable based on history, it's fairly consistent. We're seeing big drops in demand in very large economic downturns or deceleration. Whether or not we're in a recession, certainly from the companies that I look at over the last year or so, the volumes have been such where I think packaging paper has been basically in a recession.

What you normally then see though is not a real rebound in demand, rather, the world learns to be more productive and you have a new demand level for uncoated freesheet. What do you think in terms of where we are right now in terms of any further demand destruction that we may see or may not. Hopefully, it's resolved. And what -- if you had to estimate at this juncture, what do you think your shipments, your demand will look like in '24 by market year-on-year if you can provide that?

[Jean-Michel Ribiéras, executive]

Thanks for joining the call. I think, as you said, we've added cycles some more strong numbers sometimes decrease due to economical factors, due to COVID, due to multiple factor. Even if you take '23 strong decrease, we are still in our trend back to 4% to 6% in the U.S. down come and back to 3% to 4% down in Europe. I think we are on this trend, and we're going to continue to be on this trend. What happens is when you have strong elements like inventory correction you've seen this year, you could kind of think is much worse than this trend and numbers show it's not. '24 it's difficult to predict. What we do know in '24 is we do not expect to have the inventory correction again. So when you compare it to '23, it should probably look better, but on the trend demand deep, I think there is no change. It's still a minus 5% globally.

[John Sims, executive]

I was just going to add 1 more comment to that is this is -- I think we agree with what you're saying. And to the extent for North America and Europe, Latin America, the demand is down, but most of that is all due to inventory corrections. So I just must focus that for 1 part of our market, we're not seeing that recessionary type decline that you referenced.

[George Staphos, analyst]

So should we expect on a year-on-year basis that demand should match consumption in '24? Or would you expect some inventory rebuild such that you might actually see some year-on-year increases in percentages for the grades? And my last one, I'll turn it over. Can you talk about the -- you indicated you had a new win in North America, if I heard you correctly, if you could talk to that? That would be great. And I'll be back in queue.

[Jean-Michel Ribiéras, executive]

Yes. So we do expect to be at least at level of consumption. I would say maybe some inventory correction would be an upside, but our expectation is to be more at normal -- normal demand consumption right now. As you mentioned, the upside. If you remember, in North America, we mention, I think it was asked Quarter 1 before. With the closing of the [ Canton ] mill, there was opportunity to take some new businesses for us in North America, and we did. So that's what we mean by that.

[Operator]

Your next question comes from the line of Matthew McKellar from RBC Capital Markets.

[Matthew McKellar, analyst]

Maybe just picking back up with Project Horizon. So any more color you can give on what kind of opportunities you're seeing to reduce costs in the manufacturing supply chain side, in particular, including if there are any specific mills or even geographies that you call out as presenting the best opportunities? And then are there -- is there a need to spend capital to achieve some of these savings?

[John Sims, executive]

Yes, Matt, on a couple of -- first of all, some of it is realization of capital that we've already spent in terms of cost reduction. And then we also do have some cost reduction capital planned for next year that will yield some benefit. The other area is that we're just continuing to work on efficiencies around energy consumption, chemical consumptions and becoming more efficient in terms of our operations.

[Jean-Michel Ribiéras, executive]

I'll add to that. We have some permit it or opportunities in supply chain, especially in North America. When we spin, we kept the network we had before, mostly intact. We did not look at what was the opportunities to ameliorate, optimize that network. I know that we have 2 years of experience and understand better the market and where we do -- we think we have opportunities to significantly improve our supply chain operation efficiency, especially in North America. That's probably where we have the biggest supply chain. We now have good opportunities there, too.

[Matthew McKellar, analyst]

Great. That's helpful. Maybe next, it sounds like you're expecting channel inventory correction to be largely complete by year-end. Would that be the same or similar across geographies? Or are there any areas where you call out as being a little bit different as you look from region to region? Any particular here, I'm thinking about Latin America, which I think you've said has kind of exhibited different demand trends and would be seasonally stronger in Q4?

[Jean-Michel Ribiéras, executive]

Yes. I think Latin America, the strongest we saw was not Brazil, other Latin America. And I will say with the other pattern we have right now, we can say this is behind us. I would say both Europe and North America, especially in the last 4 weeks, when we see our order intake and what our customers said that give us a good indication that the investor correction is done.

[Operator]

Next, we'll go back to the line of George Staphos from Bank of America.

[George Staphos, analyst]

So I want to come back, I think Matthew queued it up nicely on Project Horizon. So was this a program that you developed internally either from existing learnings you had within Sylvamo or the predecessor company? Or did you bring in somebody from outside the firm to sort of teach you whatever you're doing to get at these net savings over time?

And then again, we've got supply chain, we've had efficiencies that's all well and good, and we wish you well in the program. But is there something sort of unique to this program relative to past cost reduction programs that you might have been associated with either at Sylvamo or or prior companies that we should keep in mind and give us more or less optimism on its prospects?

[John Sims, executive]

Two things on that, George. First of all, we named Project Horizon because this is a project that talked about the future for Sylvamo. So we knew coming out of the spin that we could operate more efficiently leaner, more focused and the plan was to get there as soon as we got the spend behind us. And so we did this internally. This is about on focusing on our strategy and make sure that we have the organizations and the capabilities we need to execute going forward.

So this is from an internal perspective. We did not go to outsized resources for that. And the same is true for our operational side. And some of this has to do with us continuing to ramp up our investments that we've been doing and showing in terms of our facilities, both in the maintenance and the cost reduction capital. But it's also more of a concerted effort and focused on areas of opportunities we have to improve our operations.

We set a short time frame, we want to be able to execute this quickly, and we wanted to be able to assume that you ought to be able to see it on the bottom line pretty quickly. Now we talked about $10 million to $15 million in 2024 but this is going to be an exit rate. So you should be seeing it beginning First Quarter of 2025.

[Jean-Michel Ribiéras, executive]

If I may, I would just add, just in supply chain, when I was talking about network optimization, we did get some specialist supply chain services to help us, and we're continuing to have them helping us redesigning our network and thinking about it different.

[George Staphos, analyst]

Okay. But actually, I just want to make sure I understood. So the $10 million to $15 million, I took it as a net realized with the run rate being after inflation, the $60 million or so, did I get that incorrectly? And if I got it correctly, does that mean then there's another $30 million to $40 million benefit that you get in '25 based on the program?

[John Sims, executive]

That's the way. The net benefits in the 15 after inflation and the $60 million is net of inflation.

[George Staphos, analyst]

Okay. And on the Ops efficiencies, I mean is it just purely you went machine-by-machine boiler by boiler and just did indexing and yield analysis? Or was there something else related to the program? I'm sure it's much more, but is that the fundamental that you were employing there?

[John Sims, executive]

Yes. That's probably a good way to describe it. It was a bottoms-up work with an extensive, let's say, extensive feedback information from everybody working in our facilities.

[Jean-Michel Ribiéras, executive]

And some of it is due also to our cost investment that John mentioned. We've invested in some equipment, in some mills much better online data analytics to get the capacity now to much better understand clients and predictive them and act on them.

So some of the cost programs we've done with this automation, I won't call it AI, it's too much, but I would call it digital progress in the mills. Analytics is helping us also a lot.

[John Sims, executive]

And George, let me add, these are structural changes. These are not -- we're not trying to push off or avoid -- we're looking at $110 million. These are sustainable changes. So they do not include, for example, increased volume and absorbing unabsorbed fixed costs that we had this year versus because of the lack of order downtime we took because of the inventory correction. So that's not included in this $110 million.

[George Staphos, analyst]

Interesting, John. One last quick for me and then I'll turn it back and try to get back in queue. I remember a discussion about [ LatAm ] seeing some improvement in volumes with the textbook program, did that materialize? And how is the order book in [ Lat Am ] going into '24?

[Jean-Michel Ribiéras, executive]

Yes, it did materialize mostly. And order book is good. It's a seasonality also which is always very good in the Fourth Quarter. So Fourth Quarter in [ LATAM ] is the strongest one, First Quarter, the weakest one, but that's just a seasonal demand.

[George Staphos, analyst]

Last one for me. So share repurchase currently available authorization did you say $160 million? And do you have an outlook on maintenance at this juncture gentlemen for '24?

[John Sims, executive]

Yes, we have -- I think I believe 167 million authorization. And we have yet to -- we're still developing plan for 2024, and we'll probably be sharing the maintenance outlook with you and when we announce the Fourth Quarter.

[George Staphos, analyst]

Okay. At this juncture, would you expect relatively flat? Or could it be lower or likely higher?

[John Sims, executive]

I would say right now, relatively flat.

[George Staphos, analyst]

Yes. Understood.

[Operator]

And at this time, there are no further questions. I'd now like to turn the call back to Hans Bjorkman.

[Hans Bjorkman, executive]

Thanks, Greg. Before I wrap up the call, Jean-Michel, any closing comments?

[Jean-Michel Ribiéras, executive]

First of all, thank you for joining our call. We remain a cash flow story, [ 270 ] million in free cash flow this year and remain committed to rating 125 million to shareholders. We remain confident in our ability to generate strong EBITDA and free cash flows throughout the cycle. We will exit this current industry down cycle as a leaner, stronger company. We allocate capital to increase shareholder value. We use cash to maintain a strong balance sheet, return cash to shareowners and reinvest to our strengthen our business in the future. So thank you, everybody.

[Hans Bjorkman, executive]

Thanks for joining our call today. We appreciate your interest in Sylvamo, and we look forward to the discussions in the coming weeks and months ahead. Thank you so much.

[Operator]

Ladies and gentlemen, that does conclude your conference for today. Thank you for your participation and for using AT&T teleconference. You may now disconnect.