Rayonier Advanced Materials Inc. Q1 FY2023 Earnings Call

Good morning, and welcome to the RYAM First Quarter 2023 Earnings Conference Call. During today's presentation, all parties will be in a listen-only mode. Following the presentation, the conference will be open for questions with instructions to follow at that time. As a reminder, this conference is being recorded. I would now like to turn the call over to your host, Mr. Mickey Walsh, Treasurer and Vice President of Investor Relations. Thank you. Mr. Walsh, you may begin.

Thank you, and good morning. Welcome again to RYAM's first quarter 2023 earnings conference call and webcast. Joining me on today's call are De Lyle Bloomquist, our President and Chief Executive Officer; and Marcus Moeltner, our Chief Financial Officer and Senior Vice President of Finance. Our earnings release and presentation materials were issued last evening. They are available on our website at ryam.com. I'd like to remind you that in today's presentation, we will include forward-looking statements made pursuant to the Safe Harbor provisions of Federal Securities Laws. Our earnings release as well as our filings with the SEC lists some of the factors which may cause actual results to differ materially from the forward-looking statements we may make. They are also referenced on Slides 2 and 3 of our presentation material. Today's presentation will also reference certain non-GAAP financial measures, as noted on Slide 4 of our presentation. We believe non-GAAP measures should provide useful information for management and investors, but non-GAAP measures should not be considered an alternative to GAAP measures. A reconciliation of these measures to their most directly comparable GAAP financial measures are included on Slide 17 through 25 of our presentation. I'll now turn the call over to De Lyle.

Thank you, Mickey, and good morning. I will start this call with a review of the financial highlights from the quarter before turning the call to Marcus to provide additional details on each business segment and provide an update on our capital structure and liquidity. After Marcus' update, I will provide an update on our key 2023 initiatives and guidance before opening up the call for questions. We started 2023 with continued positive momentum on revenue, EBITDA and cash flow. Revenue increased $115 million or 33% from the prior year to $467 million, driven by solid price increases across all our products and overall stronger volumes, supported by improved operational productivity. Adjusted EBITDA increased $31 million or 155% versus prior year to $51 million as the price and volume increases more than offset the higher costs. The largest EBITDA gain from the prior year was led by our High Purity Cellulose segment, delivering $44 million of adjusted EBITDA, up $28 million or 175% from the prior year. Paperboard delivered another solid quarter with $13 million of EBITDA and High-Yield Pulp contributed an additional $8 million of EBITDA as we realized higher prices in the quarter. Corporate expenses increased $8 million from last year due to a $14 million gain from the sale of our GreenFirst shares in the prior year. By delivering on these positive results, we remain on track to deliver our $200 million to $215 million of EBITDA for the full year, and we are increasing our free cash flow guidance to $40 million to $65 million. Now, I'd like to turn the meeting over to Marcus to take us through the financial details for the quarter.

Thank you, De Lyle. Starting with the High Purity Cellulose segment on Slide 6. Sales for the quarter increased $93 million or 33% to $374 million, driven by an 8% increase in sales prices, including an 18% increase in CS prices. Sales volumes increased 27% to 265,000 metric tons due to improved production, a higher mix of commodity sales, and enhanced customer contract terms. Sales for the quarter also included $23 million of biomaterials sales, primarily from green energy and lignin. EBITDA for the segment improved $28 million to $44 million. The impact of higher prices and volumes was partially offset by higher chemical and logistics costs, along with the impact of annual maintenance expenses in the prior year. Turning to Slide 7, Paperboard segment sales grew $5 million, an 18% increase in sales prices due to demand for packaging grades, which was partially offset by a 7% decline in sales volumes as a result of sales timing. EBITDA for the segment grew 30% or $3 million to $13 million as the higher sales prices more than offset the lower volumes and increased costs for chemicals and purchased pulp. Turning to the High-Yield Pulp segment on Slide 8, sales increased by $20 million from the prior year, reflecting a 39% increase in external sales prices and a 43% increase in sales volumes due to stronger demand and improved logistics. Cost increases were primarily related to higher chemicals and logistics. EBITDA for the segment improved $8 million as compared to breakeven in the prior year. On a consolidated basis, operating income for the first quarter improved $33 million to $17 million. Sales price improvements across each segment and volume increases in HPC and High-Yield Pulp more than offset $59 million of higher costs for chemicals, purchased pulp, and logistics expense along with the impact of annual maintenance expense in the prior year. EBITDA margins for the quarter were nearly 11%, which is up over 500 basis points from the first quarter of 2022 and essentially flat to the prior quarter. Turning to Slide 10. Net debt declined to $683 million, a reduction of $72 million from the same period in 2022. We continued to repay debt, including $5 million of senior unsecured notes in the first quarter and $10 million of senior secured notes in April. As we continue to repay debt, we're still preserving strong liquidity. Liquidity ended the quarter at $276 million, including $169 million of cash. We recently purchased trade credit insurance, which will increase liquidity by an additional $36 million. This excess liquidity provides flexibility for our upcoming refinancing activities. Given our recent focus on increased maintenance CapEx to improve reliability, we are now capturing the benefits of the improved production. Consequently, we are lowering our CapEx outlook for 2023 to a range of $100 million to $105 million, down from approximately $110 million in our original guidance. While we were able to reduce our maintenance CapEx, we still expect to invest $30 million to $35 million in strategic capital, primarily focused on high-return projects, which will provide immediate and incremental benefits to the business. Net leverage ended the quarter at 3.3x, an improvement of 0.7x in the quarter and ahead of our initial expectations. With lower debt and improving credit metrics, we expect to refinance our 5.5% senior unsecured notes, which mature in June of 2024, under acceptable terms in the coming quarter. We recently engaged Goldman Sachs to help advise us on the best structure for our refinancing, including high-yield notes, syndicated loans, and privately placed loans. Our existing cash balances and expected free cash flow will allow us to further reduce gross debt and minimize the impact of higher interest expense. With that, I'd like to turn the call back over to De Lyle.

Thank you, Marcus. Turning to Slide 11, we are making solid progress on 2023 initiatives. With $51 million of EBITDA generated in the first quarter, we remain on track to deliver between $200 million and $215 million for the full year. Free cash flow generation was also strong, with $36 million achieved in the quarter. $31 million of this free cash flow was generated from working capital initiatives, primarily from lower inventory while CapEx was managed to $21 million with the Tartas annual maintenance outage executed in the quarter. As we have realized improved operational reliability, we now expect to reduce maintenance CapEx and increase our free cash flow guidance to $40 million to $65 million in 2023, an increase of $5 million to $10 million from our initial estimate. With this strong quarter's financial results driving down our net leverage to 3.3x, we expect further improvement in the second quarter. We increased cash balances to $169 million while continuing to reduce debt. As Marcus noted, this strong cash balance coupled with significantly improved credit metrics will increase our flexibility with refinancing efforts. The maturity of the senior unsecured notes is coming due in just over a year. Consequently, we are keenly focused on refinancing this debt in the coming quarter. The underlying interest rates have continued to increase with the recent Federal Reserve actions, but markets are currently open and active. We remain flexible on the type of debt and expect to utilize our strong liquidity position to help minimize the impact of interest expense. Operationally, we remain focused on two key areas to drive value. First, we are realizing increased benefits from our investments to improve operational reliability, including increased production and sales volumes and lower unit fixed costs. Our total sales volumes for the HPC business increased 27% from the prior year. While a significant portion of this increase relates to the timing of annual maintenance outages, we are realizing a significant increase in overall operational efficiency. If we normalize for the annual maintenance outages, production volumes increased 8% during the quarter versus the prior year, even as we reduced finished goods inventories. We continue to invest in our assets with $21 million of total CapEx spent in the quarter, including $6 million of strategic capital. However, we expect to reduce our normalized CapEx to approximately $90 million while we continue to execute on $10 million to $15 million of catch-up CapEx in 2023. For the full year, we now expect to spend $100 million to $105 million on custodial CapEx with a greater weighting of spend around our annual maintenance outages. Our two largest facilities in Jesup and Temiscaming will complete their annual outages in the second quarter. With demand for some products remaining soft, we will continue to operate our assets to match market demand. Second, we are capturing a higher value for our products. Our cellular specialty prices are up 18% from the prior-year period, driven by our contractual negotiations in 2023, and we will continue to prioritize the value of our cellulose specialty products over volumes. The cellulose specialty market is expected to remain balanced as the new hardware viscose pulp supply coming online will not impact the cellulose specialty grades. In the fluff and viscose markets, we captured a 6% increase in prices from the prior year. We also realized an 18% increase in Paperboard prices and a 39% increase in High-Yield Pulp in the quarter. While prices are expected to decline for commodity products in the coming quarter, Paperboard prices are expected to remain elevated with steady volumes. Turning to Slide 12, we present our progress against our 2023 guidance for EBITDA and free cash flow. Note that the waterfall chart reflects the updated guidance for our higher target for free cash flow of $40 million to $65 million. Notably, the significant improvement in free cash flow for the quarter includes $31 million of working capital benefits, offset by $14 million payments made against our France energy liability. Our free cash flow will be used to either repay debt and/or invest in attractive strategic projects, which were both accomplished in the first quarter. On Page 13, we provide additional color on each of our businesses. 2023 cellulose specialty prices are expected to increase by high-single-digit percentages versus 2022. Demand for our high purity business remains mixed, with strength in acetate and many other specialty grades offsetting softness in construction ethers and food additives. Fluff prices are expected to decline, but industry forecasters have raised the price floor versus prior cycles. Viscose prices have stabilized and are expected to increase slightly in the second half. Commodity HPC sales volumes are expected to increase as we realize further productivity gains and ease logistic constraints. Certain input costs are moderating, but we expect these will remain at elevated levels. We continue to make strategic investments in our biomaterials business, which we believe will provide incremental growth for the company. The bioethanol plant in Tartas remains on track to begin production in the first half of 2024. The second-generation ethanol produced at this facility is expected to provide a $9 million to $11 million annual EBITDA benefit to the company. In Paperboard, prices are expected to moderate slightly over the balance of the year, but remain elevated compared to 2022 levels. Volumes are expected to remain steady, while raw material prices will decline due to lower purchase prices. In High-Yield Pulp, prices are expected to be impacted by both the global economic slowdown and new capacity coming into the market. Sales volumes are expected to improve slightly with eased logistics and higher productivity. Corporate expenses are expected to be higher than 2022 due to expenses associated with the ERP implementation and 2022 FX benefits that are not expected to repeat in 2023. Overall, we expect EBITDA for the second quarter to be in the low $40 million range due to our planned maintenance outages at our two largest facilities: a slower-than-anticipated restart from the Tartas outage, and the calendarization of some customer annual outages. We believe that we remain on track to deliver the $200 million to $215 million of EBITDA for the full year. Turning to Slide 14, we've depicted the progression of our EBITDA margin growth and our net leverage decline. Margins are expected to continue to improve towards the 11% to 12% range for the full year as we capture both the improved value from our products, realized operational efficiencies, and reduce costs. Net leverage is expected to hold relatively steady for the full year, including a slight benefit for the second quarter as we drive toward our target net leverage ratio of 2.5x over the next three to five years. With that, operator, please open the call to questions.

Thank you. We will now begin the question-and-answer session. Our first question comes from George Staphos with Bank of America. Please go ahead with your question.

Good morning, everybody. Thanks for the details. I guess the first question I had, you mentioned, I think it was $7 million or $8 million impact from sales timing in Paperboard as I recall. Can you talk about what that was? And do you, I presume, get that benefit in 2Q? And then, relatedly, Marcus and De Lyle, you talk about a low $40s million in EBITDA for the quarter. One of the things you mentioned I think was a slower start up in Tartas, if I heard correctly. Can you go through the other factors there and the cadence we should expect in earnings 1Q to 2Q across the segments towards that low $40 million EBITDA range?

Good morning, George. This is De Lyle. The first question about the lower sales in Paperboard, which were $7 million to $8 million in the first quarter, likely relates to destocking, a topic you've probably heard us mention several times. We anticipate that destocking will begin to ease as we progress into Q2, and we expect to see growth return to historical levels in the second half of the year.

Okay. So, is it fair that you expect some of that to come back in the second quarter compared to the first quarter regarding your projections? Or are you not considering that in how you project to reach the low $40 million?

We're expecting some improvement in Q2 compared to Q1, but I want to note that the effects of destocking are not completely behind us, so we will still experience some of that in Q2. However, we believe there will be an increase in volume relative to Q1, and we anticipate stronger volumes in the second half of the year.

Okay. And broadly, just in terms of the cadence 1Q to 2Q or trend we should expect sequentially across the segments, if we've already covered Paperboard, the other segments would be great.

Yeah, High-Yield again, I think the same type of impact that we saw with Paperboard, some destocking, but also there were some demand issues, principally in China in the first part of the first quarter. So, first quarter was quite light. We do expect that the volumes will pick up in Q2 for the same reasons I outlined for Paperboard.

And George, just on High-Yield, as you know, the market is trading down in paper pulp, so High-Yield does follow that pricing cadence; expect sequential price erosion. And then, on CS volume, again Q1 was actually a decent quarter for us. Acetate was very robust for us as well as some other specialty applications around filtration, casings, and nitrocellulose. Q2 will be light because we're taking down two of our plants, including Jesup, the largest facility that we make our CS from. So that'll be light in Q2. But then it will pick back up to close to what we experienced in Q1 for Q3 and Q4. For the commodity High Purity business, again, this is relating to viscose and our fluff; Q2 will be lower than Q1. Then you'll see a little bit of a pickup, but we're going to see a sales mix change we believe in the second half as we see increased demands in the ether business around construction activity improving in the second half in Europe.

Understood. You already addressed this to some extent. I'll pass it on after this one. Can you provide some insight into your pricing expectations for your commodity businesses, whether it's fluff, viscose, or High-Yield? You mentioned that prices for hardwood in China have fallen over $300 a ton. How does that influence your guidance for the year? Thank you.

Yeah. I'll give primarily qualitative guidance on that. Starting with the High-Yield, we expect it to decrease significantly as you indicated. The pricing coming out of Q1 is in the $700 range. We're expecting that our pricing will average in the mid-$600 range for Q2. And you got to remember that our sales have about a one-month lag roughly, so we're capitalizing on some of the pricing from Q1. We see it dropping further through Q3, roughly 10%, and then in Q4 we see it leveling and actually increasing as we think that the market demand in China will pick up and support prices a little. In Paperboard, again, we think it will be relatively static. We previously mentioned that roughly two-thirds of our business there is under contract. We are seeing some softness on the spot business that we have there. Hence, we expect that pricing will decline relative to what we experienced in Q1 and in the second half. However, it's important to note that our Paperboard business will benefit from lower pulp prices, so we expect the earnings potential for that business will continue to be strong. On the cellulose business, the CS side, it's very strong. As we've noted, we expect the pricing in '23 to be up relative to '22 and will remain strong in the high-single digits throughout the year. For commodity business, we anticipate that the low point on pricing around fluff and viscose will likely be Q3 before we start seeing fluff pricing stabilize and begin to improve into Q4.

Okay. Thank you so much for the color.

Yeah.

Thank you. Our next question comes from Paul Quinn with RBC Capital Markets. Please proceed with your question.

Yeah, thanks, guys. Good morning. You referenced holistic refinancing in your press release. Just wondering what that means to you, and whether you're looking for any component of equity in the refinancing?

Hey, Paul, this is De Lyle. I'll address the second part of your question first, which is if we're looking to use equity. The answer is absolutely not; that is not something that we're interested in doing. We believe that the markets are open. Given our improved credit metrics, we believe that we'll find debt at a reasonable price, albeit in a market that is at a higher level than it was just three months ago. Our tactic here is that, because of our improved credit metrics, we believe they are indicative of a B credit. As a result, we are considering different debt structures, whether it's high-yield, syndicated loans, or privately placed loans. Since we have those options, we firmly believe we'll be able to refinance this debt with only debt.

And Paul, to your comment on holistic, again as you know, we've been consciously operating our business currently with a higher cash balance such that we have the flexibility as we approach this refinancing to stay committed to—our messaging has been we're going to look to resize the next refinancing so that we can manage the interest rate environment that we're in. Therefore, I believe it is something smaller on the refi.

Right. To note is that given the amount of cash we have, but more importantly the capacity on our ABL, we have around $70 million on the balance sheet we can use to downsize the debt offering or utilize in other ways to reach a proper conclusion. We believe we have sufficient liquidity and a significantly better credit position than we had even just three months ago.

Okay. So that assumes that you'll do the refinancing somewhere around $250 million?

Well, I don’t—again, I'm not going to commit to what level, but directionally if that's what's needed to refinance at a lower level to downsize, that's certainly one of the options we will consider.

Okay. I get it. Just turning to High-Yield, I appreciate all the color on specific end-markets that High-Yield looks particularly difficult here. Just wondering when the decision to scale back production at Temiscaming and just basically run the operation for the Paperboard? Is that going to close in Q2?

You raised a very hard question. If pricing gets down to our cash variable cost, we will consider reducing our production and may shut down a line or two. As you know, in Temiscaming, we have two lines of High-Yield, but one of those lines feeds our Paperboard business. Therefore, we will likely keep one line open to continue supplying the Paperboard business and shut the other line down if we find that pricing reaches near or below our variable cost.

Got it. Thanks for the color. Best of luck.

Thank you. Our next question comes from George Staphos with Bank of America. Please proceed with your question.

Hey, guys. A couple from me to finish up here. To the extent that you've been obviously talking with customers and the like as you normally would, but certainly given the market volatility, what are you finding in terms of customers' expectations for usage of your products and whether that's improving over time? Are you getting any benefit? I mean, the pulp companies frequently talk about this; I'm not sure how direct it affects business near term, but plastic-to-fiber substitution—anything that you're seeing that's changed in the last quarter in terms of the outlook for demand? That's number one. Number two. Can you tell me a little bit about what this credit insurance purchase means? What flexibility does it give you? Why did you have to do it? And then I had a couple of follow-ons.

Regarding the sustainability demand story on whether we've heard any changes on replacing fossil-fuel-based products with fiber-based products, I can say that the story has only strengthened, particularly surrounding bioenergy as the world, especially the United States and Europe, moves away from fossil fuels and towards more sustainable fuel sources. We believe again we're well-positioned in this arena with bioethanol, and we think this story is only becoming stronger. However, will that translate into more sales in 2023? Perhaps, particularly around acetate plastics and some of the other applications with our customers at Eastman and also with some pull-through from other customers who are developing such products. I think we're likely to see a significant impact in '24, particularly when we bring the bioethanol plant online in Tartas.

The trade credit insurance effectively expands our advance rates on receivables for foreign customers. This trade credit insurance will lead to an expansion of $35 million to $40 million in our ABL on a comparable basis to where we end up this quarter.

I see. And then two last questions from me. First, on the bioethanol projects, the $9 million to $11 million you're expecting to generate—how sensitive is that to overall levels of energy pricing? To the extent that we are seeing global slowdown or recession, are we observing energy prices coming under pressure? Does that affect your return on that project? Will the $9 million to $11 million move down a couple million dollars under lower energy price scenarios, or is it relatively unaffected by the energy outlook? And then, can you update us on what—if it has any impact—the increase that we’re seeing in capacity? Recognizing it’s mostly paper-grade hardwood, are you seeing projects or swing projects in dissolving, and if so, whether you’re seeing any encroachment into your markets from this new capacity?

Regarding the bioethanol business, first off, we have a five-year contract with a multinational corporation to purchase our bioethanol on essentially a take-or-pay basis. Second, it's worth noting that our plant produces second-generation bioethanol. This means we are producing bioethanol from a non-food source, which is actually mandated by the EU. When we consider pricing for second-generation bioethanol, it's at a significant premium relative to first-generation bioethanol. Hence, the pricing remains relatively stable, if not increasing as the mandates become stricter. We believe that the business will continue to generate the $9 million to $11 million of EBITDA on an annualized basis. What was your second question?

Yes, sorry about that. There’s a lot of capacity coming in—mostly paper-grade, but there are swing projects in dissolving. Are any of those encroaching into your markets?

We don't foresee that, George. We believe that we won't see any of that swing capacity encroach into markets where we aim to derive the best value for our products. It ultimately comes down to the fact that the products we produce are highly customized and technically challenging to create. It's not simply a matter of saying, 'I want to move into the acetate market or acetate plastic market by switching from paper pulp.' I don't believe the knowledge and capabilities are readily available.

George, to highlight, as you know, viscose accounts for 5% of our enterprise sales, so it's small in comparison. We differentiate ourselves with softwood versus this hardwood capacity as well.

Very good, guys. Thank you, and good luck in the quarter.

Thank you.

Thank you. There are no further questions at this time. I would like to turn the floor back over to President and CEO, De Lyle Bloomquist, for closing comments.

Well, thank you all for your time today. As noted, we started the year on the right path to achieving our strategic and financial goals. I am proud of all of our efforts within the company and confident that we will continue to improve our profitability and reduce our leverage, and I look forward to our next update coming in August. So, between here and then, if there's any questions, feel free to reach out to us.

Thank you. This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.