Good day, and thank you for standing by. Welcome to the Clearwater Paper's Second Quarter 2021 Earnings Conference Call. [Operator Instructions] Please be advised that today's conference may be recorded. Thank you. [Operator Instructions] I would now like to hand the conference over to your first speaker today, Mr. Sloan Bohlen, Investor Relations. Sir, the floor is yours.

Thank you, Joanna. Good afternoon, and thank you for joining Clearwater Paper's Second Quarter 2021 Earnings Conference Call. Joining me on the call today are Arsen Kitch, President and Chief Executive Officer; and Mike Murphy, Chief Financial Officer. Financial results for the second quarter of 2021 were released shortly after today's market close, along with the filing of our 10-Q. You will find a presentation of supplemental information, including a slide providing the company's current outlook posted on the Investor Relations page of our website at clearwaterpaper.com. Additionally, we will be providing certain non-GAAP information in this afternoon's discussion. A reconciliation of the non-GAAP information to comparable GAAP information is included in the press release and in the supplemental information provided on our website. Please note Slide 2 of our supplemental information covering forward-looking statements. Rather than reread this slide, we are going to incorporate it by reference into our prepared remarks. With that, let me turn the call over to Arsen.

Good afternoon, and thank you for joining us today. Please turn to Slide 3. As you saw from our press release, the financial performance for the second quarter was better than our expectations. On a consolidated basis, the company reported net sales for the second quarter of $406 million and adjusted EBITDA of $15 million. A few highlights to mention. Our paperboard business continued to see strong demand. Based on that strong demand, we implemented previously announced price increases across our SBS portfolio. We successfully completed our largest major maintenance outage of 2021 in April at our Lewiston, Idaho mill, which impacted the business by $22 million. As previously discussed, our tissue business saw lower shipments, reflecting market trends. Consumers destock their pantries and retailers work through elevated inventory levels. Both industry data and our own sales orders point to a bottoming out of shipments in April. We started seeing a recovery in May. With the decrease in orders and elevated pull price levels, we took downtime on our tissue assets to meet demand and reduce inventories, which impacted our fixed cost absorption. We also announced an indefinite closure of our Neenah, Wisconsin tissue mill and an exit from the away-from-home tissue market. These actions will result in a lower overall cost structure of our tissue business. In comparing the first quarter to second quarter 2021 raw material inflation was largely offset by the previously announced price increases in SBS and mix. And finally, we maintained ample liquidity of $297 million at quarter end and reduced net debt by $4 million. As noted during previous quarters, we remain focused on our top priorities during COVID, the health and safety of our people and safely operating our assets to service customers. We're monitoring the latest trends and are adjusting protocols and…

Thank you, Arsen. Please turn to Slide 6. The consolidated company summary income statement shows second quarter 2021, the second quarter of 2020 and the first half of each year. In the second quarter of 2021, our net loss was $52 million. Diluted net loss per share was $3.10 and adjusted loss per share of $1.07. The adjustments incorporate the impacts from the Neenah site closure as well as other adjustments. The impact of the Neenah closure activities in the quarter was $41.7 million. The noncash portion of the charge, $36.9 million was primarily a fixed asset impairment, but also included inventory and other reserves. The cash portion of the charge was for employee pay during a worn notification period and severance-related expenses of $4.9 million. We anticipate that we will have similar employee-related cash expenses in the third quarter, slightly above $4 million. These estimates reflect our best assessment at this time, and we will update them as appropriate as we monetize the assets at Neenah. The corresponding segment results are on Slide 7. Our paperboard business completed a major maintenance outage in the second quarter of 2021 that impacted us by $22 million, while consumer products saw lower production and demand. In our comments during the second quarter, we mentioned that our adjusted EBITDA could be close to breakeven for the second quarter of 2021 relative to the first quarter of 2021 adjusted EBITDA of $54 million. With $15 million of adjusted EBITDA for the second quarter, we came in better than our initial expectations. The improved performance relative to expectations included the impact of the Neenah closure, slightly better tissue demand, cost mitigation efforts and better SBS price realization. Slide 8 is a year-over-year adjusted EBITDA comparison for our Pulp and Paperboard business in the second quarter.…

Thanks, Mike. I would like to reiterate my comments from last quarter regarding the actions that we're taking across the company to proactively address our market-driven headwinds and tailwinds. In our paperboard business, we're benefiting from the implementation of previously announced price increases and are maximizing production to meet demand. This includes moving some maintenance and a headbox installation from 2021 to 2022. In our tissue business, we're working with customers to offset higher costs through product and other changes. In addition to the market recovery in tissue demand, we're focused on growing our volume through various sales initiatives that have been discussed in previous quarters. Across both businesses, we're taking steps to reduce both short- and long-term costs. As previously discussed, we continue to focus on generating cash to reduce our net debt. Last quarter, I spoke about performance improvement efforts focused on improving core operations in the medium to long term, aimed at achieving the full profit potential of Clearwater Paper over the next several years. Given the inflation and competitive pressures in our industry, we are working to find ways like this effort to combat margin compression and achieve margin expansion. We're in the planning phases currently, and I look forward to updating you when we're in the execution phase. Let me remind you of why I think these businesses are well positioned in the long run. For our paperboard division, we believe that the key strengths of this business are the following. First, we operate well-invested assets with a geographic footprint, enabling us to efficiently service our customers. We have a diverse customer base, which serves end markets that have largely stable demand. Second, not being vertically integrated enables us to focus on independent customers with unparalleled service and quality commitment. Third, we believe through product…

[Operator Instructions] Your first question is from Adam Josephson of KeyBanc Capital Markets.

A few for me. One on your inflation expectation for the year. It came down a smidge about $5 million. Is that pulp, Mike or Arsen, or is that something else? Just wondering what the moving parts there are.

So I think we had offsetting factors within pulp, freight and some other items and then some benefit actually on wood fiber in the Pacific Northwest. So that's kind of how things have changed around a little bit, and we're slightly better from an inflation standpoint.

Got it. Okay. And on the SBS commentary sequentially. So I think your commentary, Mike, implies about a $50 a ton sequential price increase in SBS. Just based on what the trade publication has recognized and your price lags, how much more can we expect 3Q to 4Q, above and beyond that $50 that seems to be happening 2Q to 3Q?

So I think you're heading down the right path that we do have some sequential improvement from third quarter to fourth quarter. And as you do the buildup, first quarter and second quarter was just below $6 million. We have some pulp price improvement happening there. And then you have the second to third quarter within the guide, and you can go from the, yes, third quarter to fourth quarter. So we can work through the math offline, but that will build up to [$40 to $45] and there's some nice sequential improvements occurring.

Got it. And I appreciate that. Arsen, one on tissue. I mean you mentioned that once you get past the COVID distortions, hopefully, you'll be on a path toward greater cash flow. And a thought occurs to me, which is if I annualize your first half, Consumer Products' EBITDA, you'd be at $82 million. And that basically is in line with or averaged from 2016 to 2019 and then the fact the distortion was really last year when tissue EBITDA tripled because of COVID. And it seems like this year is actually more normal when I look at history. Is there a reason you would have me think otherwise?

Adam, you're taking 2 quarters that I think are both somewhat unusual. So Q1, I mean, still had some impact from COVID, and Q2 had us taking down our production pretty substantially with a pretty major hit with our fixed cost absorption as well as some of the higher coal prices that we're seeing. So I think as we get into the third and the fourth quarter, I think there will be a better representation of a tissue baseline post-COVID. If we think longer term, we're focused on a few things, Adam. So first and foremost, it's getting the benefit from the Shelby investment. So part of achieving that benefit was our announced closure of Neenah to improve our overall tissue cost structure. We're also focused on improving our volume base to fully utilize our assets. So there's -- we've had a lot of variable quarters over the last year, 1.5 years and we look forward to getting some stability and focus as we approach the rest of the year.

I appreciate that. And just one last one back to SBS, which is -- I think your even at capacity in that business for a while. I think your shipments were down about 1% in the first half despite very strong industry demand. Any thoughts about the need to add capacity in that business in the near future or longer-term future, just given what your outlook is for that business?

Yes. I think, Adam, part of our longer-term capital plan involves a number of different projects. I think in the industry that there's the notion that you should get a little bit of volume increase year-over-year, and we'll continue to look at that. As you're aware about our system, we do have excess pulp capacity at the Lewiston site. So that might be an easier site for us to achieve some, call it, smaller capacity increases then.

Your next question is from the line of Mark Wilde from Bank of Montreal.

Just a follow-up on Adam's last question. Just in terms of SBS. You've got a really interesting position with the sort -- with the nonintegrated garden players. If you could put your hands on more capacity, could you move more volume through that channel?

I think if we look at the last several quarters, we're in a position where we're oversold, and we are trying hard to service our existing customers and allocate product. Certainly, there are opportunities in the market in the long run for us to grow if we're able to move up our capacity in SBS.

Okay. All right. Last quarter, you gave us kind of the month to month to month in terms of the tissue shipments. Is it possible to get that for the -- for May and June and then also what you've seen in July, Arsen?

Yes. I think for July, I have the data handy. We saw about 3.7 million cases in July versus an average of 3.4 million in Q2 and a low point of 3.1 million in March. So we're seeing sequential growth in our retail business. July was impacted by our -- a bit impacted by our exit from away from home as well. So that's a small impact, but it has -- it does have some consequence on our comps.

And is there -- do you have any visibility just in terms of backlogs a bit and that what August looks like?

We typically have orders in our system as we start the month. Lead times on tissue can vary depending on customer, but it's a bit different from the paperboard market where you have backlogs. We essentially get the tissue orders and have a certain amount of time to deliver them. So August is looking reasonably healthy, and I think we'll continue to see the recovery.

Okay. And then, Mike, is it possible for you to give us a little bit more color on what's in that $9 million to $13 million of sequential input inflation in the third quarter?

Again, I'd say it's mostly pulp that's hitting us in the quarter, but freights picked up in a big way. So those are the 2 key drivers of our inflation expectations quarter-over-quarter.

So I'm just curious because there have been a lot of widespread reports of pulp starting to ease in the trade press. And I wonder whether you're starting to see any advantage there. I think it's even showing up on the hardwood market. And then I think probably what you buy is mostly like bleached eucalyptus.

Yes. Reflecting back on Adam's question, we do see inflation coming off a bit in pulp, really in the fourth quarter, and this is more accounting fund in terms of when you actually buy the pulp to when you actually sell it. There's probably at least a quarter that we have flowing through our P&L.

And Mark, just to provide you a bit more context, if you look at RISI, so March BEK was around $1,100, $1,140 a ton in June. And July, it's around $1,360. So to Mike's point, there is a lag in when we recognize the cost impact that rolls through our system. So that's happening here in Q2 into Q3.

Yes. And just to be clear, Arsen, for everybody that's on the call here. Those represent list prices, not actual prices paid, correct, after kind of discounts?

Correct. Absolutely right. So the typical structure, it's RISI list with a negotiated discount and that resets on a monthly basis.

Yes. Okay. And then are you seeing any activity in terms of tissue pricing? Or do you think that this recent stories about kind of pulp weakness have kind of pulled the rug out from under that issue for now?

I think what we said before, Mark, is in both markets, price is determined by supply and demand. So if you look at current market dynamics in paperboard, they're quite favorable. I'd say, less so in tissue with the slowdown that we've seen and some of the curtailments that we've had to take on our assets. On top of that, you can look at some of the new capacity additions that are coming online in tissue. There's 150,000, 160,000 tons of private branded TAD capacity that's coming online this year. And while if you look at the overall market of 10 million tons, that's a relatively small number, but it's a more consequential number for the private branded.

Yes, yes. Okay. Just 2 last ones. How is your inventory at the end of June in tissue relative to where you'd like it to be optimally?

We're still higher. So we reduced our inventory by -- off the top of my head, 15% to 20% from our peak, but there's still more to go. And as Mike mentioned, we're going to continue to manage our production schedules for balance of the year to manage down our inventory.

Is that an issue that gets taken care of in the third quarter? Or is that something you see kind of carrying into the fourth quarter, just too hard to call at this point?

I think it's still difficult to call in this quarter, especially with our announcement on Neenah as we rebalance our system, but the team is working hard to manage our inventories down, especially with these elevated pulp prices.

Yes. Okay. And then the last one. Just -- is there any way for you to kind of quantify for us how much runway will be left at Shelby, particularly if we kind of take into account the Neenah closure?

So what we said is we will ramp Shelby converting by the end of this year, and I think we are progressing. So there's still some upside in capacity in Shelby. If we step back and you look at our overall capacity and you look at last year as a proxy for our capacities that we're running full out, I think we produced and sold about 60 million cases. So as the Neenah assets come out of our system, that probably represents around 15% of our converting capacity. So we have -- we'll be running probably around 90% utilization and looking to expand our capacity and sales through operational improvements here and the next couple of years.

Your next question is from the line of Paul Quinn of RBC Capital Markets.

Just trying to figure out on the tissue side, just sort of pickup in shipment volumes. So you did 10.2 million in Q2, you did 3.1 million in April, looks like the -- is it sort of a linear growth like 300,000 cases per month for May, June? And then do I take that July 3.7 million cases and add 150,000 cases for the away from home for Neenah?

I think what we mentioned is we expect 10% to 15% growth in tissue volume quarter-over-quarter. And so we did just over 10 million cases in Q2. So if you apply 10% to 15%, I think you can get to the average run rate in Q3.

Paul, on the 3.7 million for July, there is still some volume -- some sales going into the away-from-home market. And we were in the process of winding down the -- both production there that happened very early in July and then getting the finished goods out. So we just have a little bit of noise in the numbers looking at going from June to July. We'll begin to have a little noise in the numbers going from July to August, but we think we're on a pretty good trend line here. It's going to flatten out as we move forward through the rest of the year. I think what we saw going from April to May was a reaction of the retailers having clean up their supply chains and getting back to a normal order cycle. And now I suspect what we're seeing is just consumers getting back to buying to their consumption as they work down their pantries and what they stocked up last year.

Okay. That's helpful. Maybe just on the paperboard side. You got the Slide 20, which is the maintenance schedule. Do you have any idea what's going to be even in 2023?

Paul, we're working on that now and [Technical Difficulty] we'll come out when we're ready with [Technical Difficulty].

These have to go down in 2023? Or is it just when?

I think we'll clarify that here in the coming quarters.

Okay. And then I think I recall seeing something on -- you guys have -- on the Lewiston -- that would be my dog. On the Lewiston digester issue and lawsuits, can you update us on what's happening there?

So yes, we did -- we have filed a claim there. I don't think that there's anything to update on that. Arsen, do you want to...

Yes. I think there's some unsettled issues with -- regarding the continuous digester and the polysulfide equipment. So we're working through that, kind of discussing that with the manufacturer of that equipment. So at this point, we don't have a whole lot more to add about possible claims.

Okay. Any idea on timing of that?

Not at this time.

Okay. Any idea on expectations to hit the net debt target of 2.5x? When do you foresee yourself getting in a position that you're closer to that?

Yes. I think what we want to do, Paul, is just to get a better sense for how the rest of this year and next year is going to play out before kind of providing commentary there. But we're continuing to make some progress and reducing the leverage that we have on the balance sheet.

[Operator Instructions] Your next question is from the line of Adam Josephson from KeyBanc Capital Markets.

Just on the CapEx guidance, you reduced it by $5 million. It's obviously below your normalized level of $60 million and the first half level was only $21 million. Can you just talk about what's happening with your CapEx? And what your -- I guess it's too early to talk about next year, but I presume you'd be at or above that $60 million next year based on what's happening this year.

Adam, we are in the process of working through a multiyear capital plan to understand our base needs as well as what opportunities we have to improve our cost structure. I think what you're seeing this year is a little bit of that is due to shifting some installations into next year just to maximize paperboard production. Frankly, what you're also seeing is probably -- Mike and I is providing a bit more scrutiny on our capital spending. In fact, there's -- I don't think there's anything major happening this year in order to curtail capital spending across our system.

I appreciate it. Arsen, you mentioned where your tissue inventories are and partly would only down your inventories further, but also perhaps waiting for pulp prices to come down further. Just wondering how much of a role your view on pulp prices plays and your willingness to ramp up production again. I would think that the 2 are very much related in the sense that as tissue demand has weakened, pulp demand has done the same and it's no coincidence that pulp prices have been falling for the last 2 or 3 months or so. Can you just talk about the interplay between pulp prices and your inclination to produce?

I would say the primary driver on production is demand and the secondary is the inventory levels within our system. At some point, making inventory and paying to move it and store it beyond a certain level that's required doesn't make any sense. The pulp pricing is adding to that equation, right? It makes even less sense at really high pulp prices. So it's certainly a factor, but our production historically tends to be reflective of our demand with more moderate fluctuations in inventory. But where we've been here, the last quarters, we saw an upswing and then we took some pretty dramatic steps to curtail production to manage inventory in light of the pulp prices that we were seeing or are seeing.

Yes. No, I totally understood. And just given -- I might have missed your comments about where you think industry inventories are. I know yours are still above where you'd like them to be. Just with the Delta variant gathering steam domestically, just wondering what the possibility is of another restocking cycle, or are we well past that point and inventories are too high to -- for that to really matter? I'm just wondering what your thoughts are along those lines.

It's hard to predict where this is going to go, and this is still pretty fresh. And we're working with our sales team to see what our customer patterns are and consumer patterns are here with the Delta variant. There's another dynamic that we're also watching and this is around the channel mix. So we, as Clearwater, have historically been more geared towards the grocery channel. And if you look back in history, we were more than 3 quarters in grocery. We're probably just over half in grocery at this point. And that benefited us pretty significantly last year with the grocery channel picking up in the first couple of quarters. This year, the channel has lost some share to club and mass. So in addition to what consumers are going to do. It's also about what do the channels do and what are the trends happening, what kind of trends do we see in our channels and how does it impact our business. So there's a few variables at play here around volume for the second half.

And why has that happened year-to-date, Arsen, to the best of your knowledge that grocery has lost that much share to club and mass?

If you think about last year with the lockdowns, I think a lot of people rediscovered their neighborhood grocery store as a quick way to get into a smaller footprint retailer to buy their products. I think this year, there's been a reversal of that. As there have been long-term historical trends more towards mass and club, and we've done a lot of work over the last 5 to 10 years to shift our channel mix to some of those growth channels as well. But we're still more heavily represented in grocery than I think the market is.

I appreciate it. And then just one last one for me or perhaps, Mike, 3Q to 4Q. So obviously, maintenance will be down a little bit and you'll likely get more SBS pricing just based on what's already been recognized. Anything sequentially in terms of inflation, 3Q to 4Q, that based on your full year guidance that we should expect or other -- any other moving parts 3Q to 4Q that I should be mindful of?

I think on deflation, I hope we're hitting our apex here in the third quarter, and that will be maybe neutral third quarter to fourth quarter. I think sequentially, our expectation is tissue volumes to continue to grow throughout the remainder of this year, albeit at maybe a slower growth rate than coming off of that April bottom. I think those are probably the couple of key variables to think about for the remainder of the year.

Speakers, I am not seeing any other questions. Ladies and gentlemen, this concludes today's conference call. Thank you all for joining. You may now disconnect.