Verso Paper (VRS) Q1 2020 Earnings Call Transcript

Verso Paper (VRS)
Q1 2020 Earnings Call
May 11, 2020, 9:00 a.m. ET

Contents:

• Prepared Remarks
• Questions and Answers
• Call Participants

Prepared Remarks:

Operator

Good morning, everybody, and welcome to Verso Corporation's first-quarter 2020 earnings conference call. [Operator instructions] Please note, this event is being recorded, and a replay of this call will be available on the Investor page on Verso's website after 11 a.m. Eastern Time today. At this time, I'd like to turn the presentation over to Verso's treasurer, Tim Nusbaum.

Please go ahead, sir.

Tim Nusbaum -- Treasurer

Thank you and good morning. The first-quarter 2020 financial results of Verso Corporation were announced this morning before the market opened. The earnings release as well as the set of slides that we will refer to during the call are available on the Investors page at Verso's website, www.versoco.com. Joining me on the call today is 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 make -- in order to give you a better understanding of our performance, we will 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 would 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, on the Investor tab. At this point, I'd like to hand the presentation over to Adam St. John.

Adam St. John -- President and Chief Executive Officer

Thank you, Tim, and good morning, everyone. We're definitely going through some unprecedented and uncertain times. So I'd like to start off by recognizing the leaders in our community, in our company for helping us work through this terrible pandemic. I would like to take the opportunity also to thank all the frontline workers dealing with this unfortunate situation for their obvious bravery, commitment and hard work.

So thanks, everybody. So let's get started with Slide 3 in the presentation. 2020, definitely a time of concern and disruption, with a sudden and abrupt COVID-19 outbreak beginning in the first quarter. So for me, what comes to mind first is the health and safety of our employees.

They've been doing an outstanding job running our mill operations, per state government guidelines and CDC and OSHA recommendations in a really safe and cost-effective manner. We've implemented lots of different things in the mills to keep our folks safe. We've also implemented some frequent cleaning of work areas, social distancing, we supplied face masks, installed barriers where workers are working in close proximity like control rooms, labs and things like that and we're also screening for symptoms. So lots of good work going on in the mill to try to keep our people safe and healthy.

I also appreciate our customers and suppliers working with us through the pandemic situation. And I will note that we -- fortunately, we haven't had any supply issues, so much appreciated there. In addition, we've been quick to act in managing what we can control in product mix, which means product development efforts and our capital allocation in watching overall costs across the company, but we're really focused on managing our cash. Our financial position is strong.

At the end of the first quarter, we had liquidity of $498 million through combination of the proceeds of the sale of the two mills to Pixelle, which closed in the first quarter and the funds available under our ABL. All of these actions will certainly help us manage and conserve cash through this economic crisis. Now moving to Slide 4 for some results. In the first quarter, we had sales of $471 million with an adjusted EBITDA of $35 million compared to sales of $639 million with an adjusted EBITDA of $69 million for the first quarter of 2019.

In the first quarter of 2020, results include revenue of $59 million and adjusted EBITDA of $4 million from Androscoggin and Stevens Point, up to the date of the sale, which took place on February 10. So half of the quarter included Andro and Point. The Stevens Point and Androscoggin Mills had a first-quarter 2019 revenues of $131 million and an adjusted EBITDA of $5 million. So it's important when looking at the comparison quarter-to-quarter to keep in mind that Luke was in the first quarter of 2019 and Stevens Point, obviously, ran half of the quarter in 2020.

So a large capacity difference there, explaining the difference in revenue. Our graphic-related products volume declined at a rate of 15% in the first quarter as compared to the first quarter in 2019. And as I already mentioned, the Luke Mill closure was a big part of that and our intentional shift to packaging grades at Duluth and the continued decline in the demand for our graphic products, which was further exacerbated by the economic disruption of the pandemic at the end of the quarter. On the bright side, our -- however, in -- our specialty business and packaging pulp business remains solid, with release liner up in volume.

Packaging products continue to grow as a result of the partial conversion at our Duluth facility, which was online a couple of months for the quarter, as scheduled. And also, our market pulp sales remain sold-out with a price increase announced for the second quarter. So we've got the graphic business in decline, but some really good news, some solid business to offset that decline with our specialty and packaging and pulp. Our mill operations teams had an excellent safety performance.

Despite the transactions that came with the pandemic, we had a TIR of 0.64 for this quarter, which is really a great number. I am so sorry to report, however, that tragically, there was a third-party contractor fatality at our Wisconsin Rapids mill that is currently under investigation. We continue to have a strong focus on managing our costs, including maintaining our industry-low SG&A expense. As a percentage of sales, we continue to try to manage that around the 4% range.

During the first quarter, we did repurchase $2.7 million or around 0.5% of our outstanding shares in a very limited window that we had available. We do expect to continue this effort in the second quarter and also expect to initiate a quarterly dividend of $0.10 a share. Now turning to Slide 5 in your deck. So in addition to what I've already mentioned, we quickly and continue to take steps to address the decline in business due to the COVID-19 impact.

We accelerated our announced workforce reduction to reduce our costs quickly, which included approximately 95 positions. These eliminations were necessary to rightsize our SG&A after the Andro and Stevens Point sale. We're just implementing it ahead of time to accelerate the savings so we pick things up a little bit quicker. We're also turning over every stone with a focus on continuing to reduce our operating costs and other corporate costs.

The mills have really done a nice job and stepped up with cost reduction efforts. So a lot of work going on in the mills to reduce costs and conserve our cash. We trimmed our 2020 capital spend by $11 million. We started out at $56 million for the year.

We're down to around $44 million -- $45 million to spend for the year, and we'll continue to manage capital aggressively with a high threshold while maintaining the reliability of our facilities. We're also focused on managing our finished goods inventory levels, and we'll also take the appropriate downtime to maintain supply and demand. The current plan is to take the necessary downtime to balance the demand in the second quarter, focusing on not increasing our inventory levels. Given the current environment, it's extremely difficult to forecast the continuing impact of COVID-19 on our business.

But when you apply industry forecasts across Verso's book of business, we could experience a 40% decline in shipments for the second quarter versus prior year. Obviously, this will be fluid as we see how quickly the economy gets restarted. So as previously mentioned in the first quarter, we completed the sale of Andro and Stevens Point to Pixelle. And following the sale, we did announce the authorization of $250 million to repurchase outstanding shares of the company, funded by the proceeds from the Pixelle transaction.

Given the current state of the economy and volatility in the stock market, we believe it's prudent course to conserve our liquidity and we'll defer implementing a tender offer until there's greater visibility to return to a more stable economic environment. We do believe that executing a tender in this environment would be difficult at best. However, we have mentioned we will continue with the repurchase activity in quarter 2 in addition to expecting to initiate a quarterly dividend of $0.10 a share. And Allen will give a little more color on that during his presentation.

Lastly, as I mentioned, our financial position remain strong. We are in a healthy place with our balance sheet, and we have substantial liquidity. We're positioned extremely well to weather this crisis and have the ability to take advantage of opportunities that may arise. Again, our focus will be on keeping with our folks safe and managing our cash during this pandemic.

With that, I'm now going to turn it over to Allen for a review of our financials in detail.

Allen Campbell -- Senior Vice President and Chief Financial Officer

Thank you, Adam. Turning to Page 7, we provide some key metrics for the quarter. As noted, our first quarter includes partial quarter results for our two sold mills. In addition, we are fully operating our Luke Mill last year in the first quarter.

As Adam noted, our sales were down in the quarter, excluding the sold mills, we declined from $508 million to $412 million as we were down significantly in graphic papers, Luke sales out, Willamette Falls mill's restart on the West Coast, our textbook delays and supercalendered business declining significantly. Decline in volume drove the decline in adjusted EBITDA. We are continuing our efforts to improve our product mix as we move the percentage of our business of pulp, packaging and specialty on the current mill configuration, from 24% last year to 26% this year. Our net income was driven primarily by the sale of Androscoggin and Stevens Point mills, but we've included a pro forma schedule to try to pull the noise out of the quarter, to show on a run rate basis, we did have positive net income on the remaining four mills.

On Page 8, we show the items that we believe are an appropriate adjusted EBITDA for Verso. The calculated EBITDA was $103 million for the quarter, with a pre-tax gain on sale accounting for $88 million. In addition, we had $10 million of Luke costs, of which we add back $9 million adjustments for significant tank cleaning, wastewater and other costs. We expect this cost to drop significantly going forward, and we believe we are progressing on the sale of equipment and land there.

We booked $4 million of severance in the quarter, primarily related to a reduction of overhead related to matching our cost structure with a go-forward 4-mill operation. In addition, we had $4 million of costs in the quarter related to the contested proxy solicitation. The rest adjustments were relatively minor and typical. Turning to Page 9, we bridge our year-over-year performance.

Two things to note: the net impact of closing Luke improved our adjusted EBITDA by $4 million; while the sold mills made $5 million in our full quarter last year and also $4 million for the partial period this quarter. Price and mix was a large hit in the quarter, with total average pricing down 11% as we saw competitive actions around our product lines, together with intentional growth in recycled packaging grades, which are at a comparatively lower price point. Volume is down, especially on coated freesheet and supercalendered products, more than offsetting the extra tons gain of packaging and release liner. In addition to the sales volume decline, we took some extra downtime around some small mill outages.

On the positive side, input costs and freight costs are running more favorable. In addition, SG&A cost control continues to pay off for us, and we did see a favorable improvement in net pension P&L impact. Operations on this bridge shows slightly unfavorable, but that was more than accounted for in a reduction in carrying cost of inventory as we improved our operations and input costs over this time period. Moving forward to Page 10, this is what we'll be focusing on this year, our cash and liquidity.

We ended the first quarter of $498 million of liquidity and $276 million of cash on the balance sheet. I want to spend a few minutes walking through our cash usage in the first quarter. Note that the first quarter is always a seasonal use of cash for us. The $82 million use of working capital compares to $106 million used in the first quarter of 2019.

When looking at the individual items and changes from year-end 2019, the key drivers of this quarter's change include: accounts receivables, up $26 million; we had one major customer that we had a $12 million swing in this period; $6 million earlier-than-expected payment in 2019, while likely paying $6 million this year. In addition, we saw several accounts will pay in March and April. We are working with our customers in managing this area going forward, and we do not expect major write-offs. Our inventory was up $24 million in the first quarter.

We increased our raw materials in the quarter by $28 million as we build our wood inventories in the winter as we do every year ahead of the spring fall, which significantly hampers the movement of wood in the supply chain. Finished goods tons were up slightly, but the carrying value was lower this year due to lower manufacturing and purchasing costs. Accounts payable was down $18 million. This relates to timing of check runs and in-transit cash deltas.

Other amounts of $14 million, primarily seasonal impact of compensation programs and customer rebates. Capital spending was $22 million. We had a related busy end of the year last year in capital projects, and we included carryover here of a net $12 million from last year into the first quarter. New spending on projects were $10 million.

So that's the $10 million plus the $12 million to $22 million. Pension contribution was $8 million in the quarter, but we also adjusted a $4 million credit in the EBITDA number for a total of $12 million. We discussed the restructuring closure costs that related to the Luke Mill. We show the mill transition cash on the schedule, while other costs included proxy contest, severance, share repurchase and other miscellaneous items.

As Adam mentioned, we are focused on conserving our cash position through austerity measures, managing capital spend, deferred compensation and deferred payroll taxes as allowed by the CARES Act. On Page 11, just a summary of what Adam mentioned in -- and what we intended to do. You know the Board authorized up to $250,000 -- $250 million of share repurchase, and we did some 4-day window that we had in the first quarter where we purchased 205,000 shares. We expect to continue open market purchases when the trading window is open.

We believe we will be able to be in the market throughout the projected open period, and we could purchase, depending on trading levels and price, somewhere between about $15 million and $25 million of shares. Given the unsettled market, we believe it would not be good timing to initiate a formal tender offer. We expect to initiate the previously discussed $0.10 per share dividend, as Adam mentioned. And with that, I'd like to return the call to the operator to open up the line for questions.

Questions & Answers:

Operator

[Operator instructions] Our first question today will come from Jeff Van Sinderen of B. Riley. Please proceed with your question.

Jeffrey Van Sinderen -- B. Riley FBR -- Analyst

Good morning, everyone. A couple of multipart questions, if you don't mind bearing with me. Can you speak a little more about how the progression of demand and pricing evolved in March and then into April with the onset of COVID and lockdowns? Maybe you can talk about graphic and specialty and pulp segments separately. And then if you could touch on how you're thinking about demand and pricing as the U.S.

economy reopens? And then also what plans do you have to idle production at your facilities in Q2, if any? And then touch on overall cost reduction efforts planned for Q2.

Adam St. John -- President and Chief Executive Officer

Sure. Yes, we don't normally guide on price, but I will tell you that we're seeing persistent downward pressure across all the graphic business due to the lack of demand. If you look at RISI's predictions, they're predicting a 5% to 7% erosion in 2020. So that's kind of all I can say on price.

We are planning on idling production in the second quarter. We're going to try to balance our supply and demand. We're predicting 110,000 to 120,000 tons on the graphic side of things with really no downtime planned at all for our specialty pulp and packaging business. And what was the -- what was your last question?

Allen Campbell -- Senior Vice President and Chief Financial Officer

Cost reduction.

Jeffrey Van Sinderen -- B. Riley FBR -- Analyst

It was just, I guess trying to get a --

Adam St. John -- President and Chief Executive Officer

Cost reduction efforts?

Jeffrey Van Sinderen -- B. Riley FBR -- Analyst

Yes.

Adam St. John -- President and Chief Executive Officer

Yes. Yes, so everything going on the table. We've got an austerity plan, an integrated action plan that we're working through. Obviously, most of this -- most of it comes out of the mills.

We're taking things out that we don't deem as critical. Especially during our shutdowns, we're going to concentrate on doing all the regulatory requirements, anything that would be a safety issue. And we're obviously cutting nonessential spend everywhere throughout the mills, cutting back on operational-type purchases and things like that. And we've got a pretty good list going in the millions of dollars that we feel like is going to help us through the situation.

Jeffrey Van Sinderen -- B. Riley FBR -- Analyst

OK. And then as a follow-up to that, just given that specialty and pulp are trending relatively better, can you speak more about what you're seeing in each of those segments, the plans to lean into that relative strength then maybe how we should think about you potentially increasing capacity for up to kind of go after opportunities in specialty? Which types of products and capital investment you're planning for that? And then just generally, what opportunities do you see that you might pursue during COVID?

Adam St. John -- President and Chief Executive Officer

Right. As I mentioned, our pulp business remains strong. So we -- any potential opportunity with -- when we take downtime on the machines, obviously, and we can make pulp on some of our machines. So we'll take opportunity to make more pulp and sell it to the market.

Our specialty business is doing well, specifically our release line of business on E3. So we're working -- and we've run some trials on some other machines with regard to that, and we've had a really good success with our release line of business. So we're ramping up that business. So those are the kind of things we're doing on the product development side of things.

So those businesses are looking really good for us going forward. We don't see any decline happening. So we're going to concentrate on us moving as quickly as possible for as little as capital we -- as possible to get into those markets a little bit deeper. We don't plan on any significant capital.

We're going to be very stingy with our capital through this period.

Jeffrey Van Sinderen -- B. Riley FBR -- Analyst

OK. Fair eough. Thanks for taking my questions and best of luck.

Adam St. John -- President and Chief Executive Officer

Thank you.

Operator

Our next question will come from Hamed Khorsand of BWS Financial. Please proceed with your question.

Hamed Khorsand -- BWS Financial -- Analyst

Good morning. Just on the pricing pressures that you're seeing, is that being driven by customers or is that being driven by competitors? You had one competitor noting they took market share when they reported last week.

Adam St. John -- President and Chief Executive Officer

Yes. It's a little bit of both. I mean, -- but the pressure from the lack of demand, obviously, is there but we do have competitors that are taking the approach to fill the machines up and going after price aggressively. So we have to react to that.

Hamed Khorsand -- BWS Financial -- Analyst

Are you changing any of your sales tactics in Q2 just given -- because of COVID and you guys, your projection of a 40% decline in shipments?

Adam St. John -- President and Chief Executive Officer

Yes. We're taking an aggressive approach with our -- with sales. I mean we're going to go after market share where we think we can get it. Obviously, the sales guys can't get enough on the road and do their normal kind of thing, but they're constantly working the phones and using technology to get out there and talk to customers.

I would probably just say that we've ramped up our efforts with regard to that, speaking to customers more often, trying to get a feel for where they are at and making sure that we're there for them. Going forward, we -- and I would say we've seen a flattening of at least cancellations and starting to get some orders coming through. So we may be seeing a bottom to what's been going on here.

Hamed Khorsand -- BWS Financial -- Analyst

How much do you think the customer base is oversupplied right now because their business got impacted by COVID-19? And how fast you think the orders could ramp up once the economy gets going again?

Adam St. John -- President and Chief Executive Officer

Geez. I mean, if I can predict that, I'd be really good. That's a tough one. I don't -- we don't really have visibility with printer, what they have in inventory.

So it's hard for me to comment on that. I apologize.

Hamed Khorsand -- BWS Financial -- Analyst

All right. And then given the current circumstances of the business, would you still be free cash flow positive this year?

Adam St. John -- President and Chief Executive Officer

Absolutely.

Hamed Khorsand -- BWS Financial -- Analyst

Very good. Thank you.

Operator

Our next question will come from Hale Hoak of Hoak & Co. Please proceed with your question.

Hale Hoak -- Hoak & Co. -- Analyst

Hi, guys. Good morning. Can you give a little more color around your capital expenditures? You said you reduced the plan by $11 million this year down to, I think, you said $44 million. How is the $44 million being spent? What are your current thoughts on what's kind of maintenance capex versus growth capex?

Adam St. John -- President and Chief Executive Officer

Yes, no problem. The plan is to spend $10 million in quarter 1. Our heavy spend is in quarter 2 of $20 million, and that's really all driven by our mill outages. Quarter 3, we spent -- we plan on another $11 million and then I believe in quarter 4, $5 million.

We're really focused on just -- at this point, it's just maintenance capital items. Nothing extraordinary.

Hale Hoak -- Hoak & Co. -- Analyst

OK. Great.

Adam St. John -- President and Chief Executive Officer

We did spend the Duluth capital that we said we were going to spend in the first quarter. We spent about $5 million to convert the machine to some packaging products.

Hale Hoak -- Hoak & Co. -- Analyst

And is that -- it's early, but is that hitting your return expectations?

Adam St. John -- President and Chief Executive Officer

Yes, it is.

Hale Hoak -- Hoak & Co. -- Analyst

Great. Thank you.

Operator

[Operator instructions] Our next question will come from Adam Ritzer, an individual shareholder. Please proceed with your question.

Adam Ritzer -- Individual Shareholder

Hi. Good morning. Thanks for taking my call. I have a question about your pension contribution.

When you guys announced the sale of the mills, you said you're going to put in $54 million into the pension to kind of upload the whole year. So could you explain if you're going to do that, if you're not? And I noticed you spent $12 million in the pension in Q1. So any more detail on what you're going to do with it?

Allen Campbell -- Senior Vice President and Chief Financial Officer

The $54 million is still a placeholder that we have for the contribution. Our required contribution is a little bit less than that, so you'll see in the Q what our required contribution is. But it's our placeholder in that range for this year, yes, for cash contribution.

Adam Ritzer -- Individual Shareholder

OK. So you're not going to have to put in the 50 -- you're not -- you didn't put in the $54 million at once, you're going to spend that roughly during the year?

Allen Campbell -- Senior Vice President and Chief Financial Officer

That's correct. Larger payments in the third quarter.

Adam Ritzer -- Individual Shareholder

Got it. OK. Thanks. And is the Duluth spend over now? Was -- are you only going to spend the $5 million to do the small conversion? Is there anything further to do with Duluth?

Allen Campbell -- Senior Vice President and Chief Financial Officer

Currently, that's the -- that's what we're planning on spending. We're still evaluating the first phase of that, and we'll decide later whether we're going to continue to invest in that project.

Adam Ritzer -- Individual Shareholder

Got it. And what about industrywide shutdowns? Have you seen any of your competitors shutting capacity either here in the U.S.? I know in Europe, there's a big closure coming, I guess, in Q3, Q4. Anything further that's happening lately?

Adam St. John -- President and Chief Executive Officer

Yes. We've had a lot of competitors announced downtime. The last time I looked in a RISI report, it was north of 750,000 tons of announced downtime. And that includes some downtime in Europe.

Adam Ritzer -- Individual Shareholder

OK. So who in the U.S. is shutting? Anybody you could specifically mention?

Adam St. John -- President and Chief Executive Officer

No, I can't mention that. I think it's in their earnings report.

Adam Ritzer -- Individual Shareholder

OK. But it's globally 750,000 tons that you're hearing about so far?

Adam St. John -- President and Chief Executive Officer

Yes. That's -- I mean, that's what's been announced so far. Yes.

Adam Ritzer -- Individual Shareholder

OK. Great. Thanks very much. Appreciate it.

Adam St. John -- President and Chief Executive Officer

You bet.

Operator

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

Adam St. John -- President and Chief Executive Officer

Yes. Yes, as I said before, we're definitely in an uncertain and unprecedented times that are certainly having an impact on our business. However, our focus on capital allocation and lots of austerity measures will help us through this crisis. Our company's liquidity remains strong, and we intend to manage our cash and take care of the expectations of our employees, customers, suppliers, and shareholders.

The cash flow? Go ahead. Allen is going to clarify [Inaudible]

Allen Campbell -- Senior Vice President and Chief Financial Officer

Yes, there was a question earlier about do we expect to beat free cash flow this year, and it will be challenged this year. So it's one we're working on helping the earnings side and also helping the spending side, but it's not obvious that we'll be free cash flow positive. We wanted to correct that.

Adam St. John -- President and Chief Executive Officer

All right. Thanks. Have a great day.

Operator

[Operator signoff]

Duration: 32 minutes

Call participants:

Tim Nusbaum -- Treasurer

Adam St. John -- President and Chief Executive Officer

Allen Campbell -- Senior Vice President and Chief Financial Officer

Jeffrey Van Sinderen -- B. Riley FBR -- Analyst

Hamed Khorsand -- BWS Financial -- Analyst

Hale Hoak -- Hoak & Co. -- Analyst

Adam Ritzer -- Individual Shareholder

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