All right, I think we can get started. If somebody in the back wants to close the door, that'd be helpful, just 'cause the noise. Thanks. Thanks, Chris. So I'm Michael Hoffman. Those who've been in here now for the last hour are gonna know that, but I'm Michael Hoffman, Group Head of Diversified Industrial Research. So in the multitudes of things I do, I cover some of the packaging world. And while Clearwater Paper is not in our coverage, they are, we do have a relationship with them at the firm, and we invited them to participate 'cause we think there's an interesting story to be told here. So who I have with us is the CEO, Arsen Kitch. Thank you very much for coming up and joining us today.
Thanks for having me.
So why don't we set the stage a little bit? I think, you know, people who are in the room have a sense of who you are, but, you know, there's basically two basic businesses-
Mm-hmm.
There's tissue and there's paperboard, but let's just the 30-second
Yeah.
Here's Clearwater.
Here's Clearwater. Two businesses, about a billion-dollar private-branded tissue business, so it, it's what it is. We focus on selling to retailers, private-branded tissue products. Before this latest acquisition that we made, about a billion-dollar paperboard business focused on SBS, so that high-quality bleached paperboard. So about a $2 billion business before our Augusta acquisition.
Doing Augusta.
Yeah.
Doing Augusta.
That's right.
All right, so we're gonna get to Augusta. All right, so let's break up the two businesses-
Mm-hmm.
And we'll talk about tissue first. So you have been enjoying an unbelievable level of demand. What... So, what you— Is this company-specific, market-specific, and combination of the two, and how, what would you account for it?
Yeah, I think it's a combination of the two. So if you look at trends over the last 10-plus years, there's been a steady growth in private-branded share of the market. It hit about 36% here last year. So it's-
It's come from 25 or 30?
It was... I wonder. It was even, it was around the 20% level-
Okay
- When I started.
Pretty good growth.
Over the last 10-15 years.
Yeah.
Right, long term.
Yeah.
It's taken place-
That's nearly a double, so that's almost 10% compounding.
It's been a great run, and historically, it's this space has been viewed as doing really well when there's economic pressure and so on and forth.
Right.
But we've seen steady growth and share, as an industry over the last 10 years, and that's been primarily, you know, economic expansion. So consumers, I think, are very comfortable with private-branded tissue products. If you look at Europe, there's countries north of 50%, so I think there's still runway to continue to gain share.
What's your value proposition to the buyer? So it's the wholesale buyer who's buying it to then distribute to the consumer. What's the value prop to the wholesaler that says, "I'm buying private label versus branded?
Yep. So retailers are. It's a very competitive environment. And so what retailers have been doing over the last several years is developing their own brands, their own differentiated brands. So they're trying to deliver value to their customer, to their consumer, to get them to come into the store. So if you think about some large national club retailers that have very well-known brands, store brands, that consumers seek out.
What's Costco's tissue brand?
It's Kirkland.
Oh, okay.
Yeah.
Yeah.
And it's-
Kirkland golf balls, Kirkland everything. Okay.
And so Costco's a good example of someone that's developed a fantastic private brand in tissue. They only have two SKUs. Historically, they had two SKUs, one bath, one towel, and they've done really well with it. And I think other retailers are looking at their private brands as strategic for them, right? Versus selling national brands at a discount, they're looking at private brands as a way for them to differentiate themselves from their competitors.
Presumptively, if we're using Costco as an example, they would have multiple sources that would supply them at their standard of what that brand has to be. So you might be one of them, somebody else would be another one, all making tissue and then boxing it into their brand.
So we,
Is that the way to think about it?
Yes.
Yeah.
We manufacture for a number of national retailers.
Right.
We'll manufacture the actual package that you see at the store-
Right
... itself. So we'll go from paper manufacturing, converting, packaging, and then shipping that case to to the customers, to the customer's warehouse.
How much of your paperboard business circles around and supports that?
Very little, if any.
Very little? Okay.
Really, really none. It's a different market.
Okay.
We make paper towels and bath, which is the bulk of the private-branded tissue sales.
Okay.
There's some facial, and there's some napkins, but really, there's really no paperboard involved in our tissue business.
Okay. So not even in the container, the boxes or the two-
It's a recycled container.
Okay.
So we get it from a different supplier.
Okay, okay. And that's, that's part of their requirement, is they want to be able to. That's their, part of their circularity is...
It's, there's cost plays-
There's cost plays.
... and so on and forth.
All right.
Yeah.
What is it about your manufacturing process that gives you a competitive advantage to com-
Yeah
... to say, "Hey, I'm going to be, I can be your source," and you make money, and they get the right selling point?
What makes us unique is we have two things. We're national, so we have a national footprint. We're able to supply national retailers across the country.
Through the distribution system, or you have plants too now?
Plants and distribution.
I see.
That's the first piece. The second piece is we're able to play across all quality tiers and product categories. So we can make the highest quality, call it Charmin, Bounty equivalent, all the way to more of a value product. And then we can make from bath towels, napkins, and facials. So we can supply all product categories and all quality tiers across the country. So there are retailers that place value on that. They value that one solution for their entire tissue category, and we can deliver that. We can deliver the quality, the service, the supply chain to supply those retailers. That's what makes us unique.
So when I think about your network, then, around the country, are there pieces missing? Like, are they either geographies or processing capacity, make papermaking capacity? What's missing, is something like what? When I think about the model, are you positioned and now it's about go-to-market and selling, converting customers to you?
We have approximately 350-400 thousand tons in that range of capacity. We have plants, we have four plants across the country, from the Northwest, in Idaho, Las Vegas, Shelby, North Carolina, as well as in Illinois.
Yep.
So we've got plants across the country. We have a good distribution system across the country. We operate at pretty high utilization rates. And so it's
It's good for your world?
It's good. It's well into the nineties-
Okay
... it is good in our world.
Yep.
Actually, the entire tissue industry, if you look at the first couple of months of this year, has been operating at 96% utilization.
Oh, that's great.
... if you look at RISI. So very high utilization rates. So I think what's happened here in the last several years, and the data I think supports this, is you had capacity, net capacity reduction in the tissue space. If you look between 2021 and 2023, there's been 200,000 tons of net capacity reduction.
Aged out?
High cost, capacity shut, whatever.
Right, right.
And we actually did that as well. We had a high-cost capacity that we shut. There's natural demand growth every year. Tissue category growth-
Okay
... single digits.
Yeah, I was going to say-
Population growth, it's even less than that.
Oh, is it? Okay.
You know, one, 1-ish %.
Volume growth plus price, or just volume?
Just call it volume.
Volume.
I'd call it volume. The entire sector, if you look at home and away from home, is about 10 million tons.
Mm-hmm.
So it grows, call it 100,000, maybe 150,000 tons a year. And a tissue machine is probably 70,000-80,000 tons. So the industry, just to keep up with demand growth, needs approximately 100,000-ish tons of capacity.
Kind of one and a half machines a year?
Right.
Right.
And if you look at between 2021 and 2023, 200,000 tons came out, right?
Right.
Which is driving the high utilization rates?
Right.
So conditions have certainly improved. And if you look at our margin last year, we've been enjoying really good margins. So I think finally the tissue industry has turned the corner.
So when I first started doing what I'm doing 38 years ago, I worked for a guy named Sherman Chao, who was the paper and pulp packaging analyst, and the paper industry was notorious for overbuilding. And, you know, they would have periods of boom and bust. Where are you today? I mean, will this discipline persist, do you think, in this side of this situation?
You know, it's a very competitive industry. You know, the pricing at the end is supply and demand driven.
Mm-hmm.
There was quite a bit of supply added to the industry, you know, probably between 2010 and 2020, 2015 and 2020, in that time range. So there was quite a bit of supply added, primarily targeted at the private branded tissue space, right? Where we had good demand growth, but the capacity additions, from my perspective, outpaced demand growth in the private branded space. So I think what's happening is now consumer demand is catching up with the capacity that's been added over those years.
Okay.
So we're normalizing. Our view is, in the short to medium term, we expect these good conditions to persist. We think we can maintain much of the margin improvement that we saw in 2023. But again, you know, we're 350,000 tons in a 10-million-ton market.
Right.
It's a big market with lots of competitors. It's a highly competitive market, so I think a lot of it is going to be, you know, what the margin outlook looks like, cost of capital, and so on and forth. So...
And what's your primary raw material? Is it a virgin or is it a recycled material?
It's virgin.
Virgin.
It's virgin pulp, and we're primarily in the tissue industry, generally speaking, the pulp is purchased.
Okay. And what's the raw material side of your model look like? Is it relatively disciplined? Is there plenty of supply, or...?
It's a cyclical industry on the pulp side.
Yeah.
So we saw price declines over last, call it last year, and this year we're seeing a price uptick on the pulp side. So I've seen a few of these cycles go up and down. It's a global market.
Yeah.
We're actually... You know, a lot of the pulp, external pulp, is consumed in China, so China's a big driver of the global pulp markets, and it is a global market.
So they're the ones basically who absorb capacity and make other parts of the world tight as a result for you?
They buy so much.
Yeah
... that they tend to,
It was 50 or 50% of the papermaking. I'm assuming your pulp source, though, is sourced in North America. You're not importing?
It's global.
Are you importing?
It's global.
Okay.
So, there's hardwood pulp and softwood pulp.
Yeah.
Hardwood pulp, there's some North American supply. A lot of the supply comes out of Brazil, Latin America.
Right.
So, they're both global markets. Softwood, there's quite a bit of in North America, but it's also Northern Europe, so they're both hardwood and softwood are global markets.
What's the principal thing that creates the volatility in that market?
It's again, I think it's supply and demand. These are very capital cost and capital-intensive assets. So as capacity comes on and off, that tends to affect the supply position. And what we talked about is global economic growth, especially in China-
Right
... and how much pulp they consume. So it is, it's very much of a supply and demand-
So basically, China's the swing factor, and if they've reached a point of stability and it was just constant-
They're very large players.
... it would be a lot, there'd be a lot more stability in the whole thing. Okay. All right, switching gears into the paperboard market. So tell us about what are you supplying, and who are you supplying and why?
Yep. So let me give just a brief overview of the broad paperboard market.
Right.
I think that'll be helpful for the folks here.
Mm-hmm.
It's about a 10 million-ton market in North America, and there's really three primary substrates. You have SBS, which is what we produce. That's the, it's the high quality. Think, think of the coffee cup that's in front of you, that's likely SBS board. Then you have what we call CUK, which is a beverage carrier board, so think, you know, Pepsi, Coke, beverage carriers. And then you have CRB, which is a recycle board. So think cereal boxes. So those are the three primary grades in paperboard. We're in the SBS space, but there's two other substrates. Our focus is to strengthen our position as the independent supplier of paperboard. We do not have downstream converting.
Okay, I was gonna ask if you-
And so that's our differentiators. We do not have downstream converting. We service the converters, the North American converters.
Right.
That is our market. We've been doing that for decades, and we're good at it.
What are they principally making? Cups, or are they making-
They make. So there are several applications. So there's the consumer packaging application.
Mm-hmm.
So, think just boxes, think toothpaste-
Yeah
... pharmaceutical boxes, and so on and so forth.
Right.
Those types of high-quality boxes. There's food service-
Part of the high quality is there's lots of printing.
Lots of printing.
It-
Great print surface-
Yeah
... you know, beautiful print surface. You know, nice, nice folding. You know-
Right
... it's a beautiful end box.
Right. Right.
So there's, there's that application. There's food applications, but call it a box.
Right.
There is then food service, which is the cups, plates. You know, food service-
Mm-hmm
... even call it ice cream board, that's, that's food service-
Okay
... cup, cup business. And then there's liquid packaging, think milk, juice cartons, and so on and forth. So those are kind of three large applications-
Applications. Yep
... three large applications for SBS. There's others, but broadly speaking, those are the applications.
So the milk people are taking yours and then doing other things to it, 'cause you're not putting the water barriers-
No
... yourself, right?
So it's a smaller part of our market.
Yeah.
And so there's various flavors of paperboard. There's extruded that has the coating, there's... And there's various grades and flavors of-
Right
... of SBS paperboard. Liquid packaging, which is the milk board, it is a smaller part of our business. We are more heavily weighted towards folding carton, which is the consumer and pharmaceutical packaging.
Right.
There is a good amount of growth that's taken place in food service, over the years, so think cup and, you know, cups, coffee cups, drink cups, plates. So that, that's a growing market, especially as, there's a shift away from plastic and foam towards, towards paper.
A shift towards recycling within that paper side. So are you again, a virgin material, making what you're making, or are you introducing a recycled content?
We do have a couple of brands, ReMagine and NuVo, where we've introduced upwards of 30%-35% post-consumer recycled, food-grade recycled content. I would actually call that product more of a premium product.
Yeah
... for us. It’s because the recycled content has to be, you know, food contact, food, food-
Right
... food contact, you know, post-consumer recycled, so it's a high-quality-
Right
... recycled pulp.
But you have places like California that have been passing legislation around, you know, the quick-serve restaurant-
Mm
... and serve restaurant world and all their food packaging, that takeaway food packaging, pushing them away from plastics. It's moving more to either consumer eco-friendly plastics or into the paperboard world. Is that having an influence on your go-to-market strategy?
I think we're in the early innings of that.
Yeah.
And so we think, you know, historically, paperboard has grown in that low single digit along with GDP.
Mm.
So we're optimistic that we could potentially see some higher growth in the years to come, and it's gonna be a lot of it's gonna be driven by this transition from plastic to paper, but I think we're still in the early innings of that.
Okay. So you described that there were three major players in the market. Is that what you said earlier at the beginning?
3, 3 substrates?
Three substrates.
There's a number of players, but yeah, there's several larger players that are primarily focused on vertical integration.
Right.
So they-
They're converting.
They're converting.
Right.
They make the board, they convert. We are somewhat unique, is that we are entirely focused on,
Make the board.
... on that, make the board, and then we sell it to those converters.
So what's your go-to-market strategy to displace the, and be the source to the converter? Why, why are they coming to you and saying, ultimately, the empire of the cup, why... You know, if I work my way back up-
Yeah
... what's your special sauce?
Yep. So our special sauce is we have great quality. We've been in this business for a long time. We have great quality, we have fantastic, fantastic, fantastic service, and we ultimately prioritize those converters. So when times are good or bad, they are our primary customer. We're not conflicted in the channel.
Right.
We don't have our own converting. We're not prioritizing our own converting. We're entirely focused on that independent customer. And so they view us as a long-term partner.
Right
... to grow with. So that's our-
Are you coming out of an over-earning period because of what happened through the pandemic and what have you, and cycling out of that back into something normal or?
I think it's cyclical. There's a cycle in this industry.
Yeah.
So if you looked at 2022, there was this, you know, significant growth and demand. There was more demand than supply in the market. We had great earnings year. 2023, if you look at demand, actually shipments, industry shipments were down something like 15%-16%. Utilization rates were down. So it was certainly a pullback, and I think a lot of it was inventory-driven, and it was.
Just overbought.
It was destocking.
Right.
So what we are looking at this year as a start of a recovery-
Yeah
... I think we already started to see some glimpses of that as we reported in our Q1 earnings. We, what we said previously is we expect a more meaningful recovery here in the second half of this year, because fundamentally, consumer demand was not down 16%-
No
... last year.
No. So where are we on unit pricing?
... so, big, big question. And so-
Mm-hmm
... there's one source out there in terms of, that reports pricing in the industry.
That's RISI.
That, that's RISI.
Everybody loves to hate RISI.
RISI
I'm being diplomatic in not saying anything.
So RISI, actually, a lot of folks misunderstand what RISI does. RISI's intent, what RISI tries to do is report what's already happened in the market. They're trying to reflect what's already happened in the market.
Right.
Right? Some folks view RISI as, you know, "Here, here's the, here's the industry price." It's not. They're reflecting what's already happened.
Yeah.
Now, there's players like us and others that tie some of their volume to the RISI price index-
Right
... so it becomes a little circular.
Right.
But 35%-40% of our volume is tied to the RISI price index, so 60%+ of our volume is just market-driven-
Right
... which is what RISI reports on, and then 35%-40% of our volume then adjusts based on what RISI reports.
But isn't part... I mean, I have to keep beating up on RISI for a second, but isn't part of the issue is instead of using automation and what have you, they still do a very manual collection, so do they in fact accurately capture what's really happening?
You know, I'm gonna stay away from making-
Oh-
... from commenting on that, but -
Yeah, fair, fair enough. Fair enough. I had—I had to throw it out there. But anyway, so where are you in the con—'cause there have been puts and takes on the pricing issue. Are we, are we about to weather year-over-year compression and start seeing sequential improvements?
You know, what we saw, what RISI reported is an $80 decrease in the second half of last year-
On a year-over-year basis?
Well, they just report-
Yeah
... in 2023.
Yeah.
I mean, they just, you know, they essentially report these price movements.
Right.
And then they reported another $60, $40, $40 in February and $20 subsequently of additional price decreases this year.
Right.
So, I gotta think through the timing of those pieces. But it was 80 in the second half of last year, 60 in the first half of this year.
Mm-hmm.
They do have forecasts and outlooks, so we'll just, we'll set that aside.
Mm-hmm.
That's, you know, more forward-looking pricing, so we'll stay away from that. So we're still, I think, overlapping the second half of last year.
So we're getting close, though, 'cause it's 80, 60, 20. We're sort of asymptotically coming-
Yeah
... towards a-
We should.
Should we?
I think, at the end of the day, it's gonna be, does capacity utilization get back to a normalized level, which is in the low 90s in this industry?
You are where now?
You know, I'm trying to remember what, where we landed last year, and I wanna say operating rates in 2023 were 84%. I think they improved in the first quarter of this year, but we're still not at normalized operating rates.
But you're not, you're not in the 90s?
No, the industry is not in the 90s-
Yeah, 90s
... at Q1. And so it's, we're looking for enough demand recovery to have normalized operating rates in the industry, and I think that that'll be... You know, that's what we're looking forward to here in the coming quarters.
When you're sitting there with your Ouija board, what are you looking at downstream from things that you'd say, "Okay, that's indicative of there'll be this flow back up towards us"? What are you watching?
Yeah, what, what was really interesting last year is, you know, historically, we look at consumer trends. We look at what the consumer is doing, but last year was, what happened in the industry was not consumer-driven.
Right.
It was primarily supply inventory-
Right
... inventory-driven. So what we've been looking at here over the last 12 months is, has that inventory cleared, the value chain, right? Has-
Where in the chain is it? If I'm holding a cup in my hand and you're making the board, where in the chain is this backup?
I think it's throughout the value chain.
Okay.
I think the inventory pools are, they're more numerous and deeper than most folks realize, right? 'Cause it's everything from how much board we have, how much board the converter has purchased, how much finished stock they have, how much is sitting in the warehouse, how much is sitting at the store-
Right. Right
... how much, okay, there's pockets of this inventory, and all the way down to the consumer.
Okay.
You know, you know, if you're thinking about toothpaste, it's, it's, you know, when does the consumer choose to buy another... I'm using that as an example.
Yeah, yeah.
At what point do they say, "I'm gonna skip this time, I'm gonna buy another one?
Right. So what is your response to the price pressure? What have you all been doing business-wise?
Yeah. So, what, what's... We look at price and cost together. So, you know, there's also been some easing in cost inputs, right, across both of our businesses, last year. So our margin, even though we've seen some of this price erosion, our margins have stayed relatively healthy. They've actually improved in the tissue side of the business-
Mm
... and they've stayed in the high teens in the paperboard side of the business last year. So we've maintained good margins. We have managed our inventory, so we've adjusted our production to manage to reflect our demand, to manage our inventories. We've tried not to balloon our inventories.
Right.
So it's managing the cost side of the equation, it's making sure we've got enough pipeline of volume to fill up our mills. So it's doing all those right things for our business-
Right
... knowing that it's at the end, it is a cyclical business.
Yeah. And, where are you geographically just split-placed?
Yep. Yeah, so we have a mill up in the Northwest in Idaho.
Mm.
We've got a mill in Southeast Arkansas, and now we have a mill in Georgia.
Okay. 'Cause, have you closed that?
Yes.
You did close it.
Yeah.
Okay. So let's talk about Augusta.
Yep.
Why was it the right deal to do in the middle of a downturn in a marketplace?
It's the best time to do a deal. So it's, you know, joking aside, it's our focus is to strengthen that position of being that premier independent supplier paperboard, right? So to have the scale, to have the cost structure, to be relevant to those independent converters. It's a great mill, well invested, good book of business. Yes, you know, we were in a down cycle as we were doing the deal, but we're optimistic that with a great asset, a great book of business, being strong, being more relevant to our customers is the right long-term play for our paperboard business.
Why was this asset available?
You know, Graphic has their own strategy-
Mm.
-and I think they're focused on vertical integration and being a packaging company. We're focused on that open market and those independent customers. So I think it made sense for both of us.
This is something you've watched and watched and watched, and if it ever became available, it was the right thing to do?
It's a great asset.
Right.
We like the asset a lot. It's well invested, it's well positioned. You know, it's great in our portfolio. It really improves our footprint.
I cover things to do lots of M&A, and usually there's a capital spend cycle behind an M&A.
Mm.
Is this that good of an asset that isn't needed, or do you have to put some capital to work to it?
I think the way we look at it. So we'll talk more about it here at the end of the second quarter.
Mm.
But what we've said before is a well-invested asset. Graphic invested nicely into that asset, $several hundred million since they bought it from IP. So I think this becomes another mill for us-
Right
... that has its normal capital requirements and maintenance requirements, and so on. So...
How's the integration going?
Now we're just over four weeks into it.
Mm.
So we closed on May 1, so it's still early, it's still early days. The mill, the folks at the mill have been very receptive. They've been wonderful. So the hard work has started.
Right.
And so we need to do this well. We're not a big company, and this integration needs to go very well, and we need to realize the synergies that are ahead of us by 2026.
Were you able to get a management team with it, or did you have to populate it with operators? I mean-
The mill-
The workforce was your workforce.
It's a great work force.
Yeah.
It's a great, great leadership team down there-
Mm
... great technical team. And so that's actually part of the equation is to get folks to come on board that are very talented people. So there's a great team in Augusta, so we're thrilled.
Okay. What's your balance sheet look like today?
So we financed the acquisition with debt.
Mm.
And that's public. I think we filed the 8-K with the structure. So, you know, we expect our leverage ratio to peak out at 3.5-4-
Mm
... our EBITDA. What we said is, in the long run, we're comfortable at about 2.5. We got as low as 1.5, actually below 1.5 after, at the end of Q1, so we're gonna be focused on deleveraging.
Right. And just do that organically? So grow the EBITDA, and that'll drive the delever, or will you take cash and proactively pay down debt?
Our debt that we took on to finance is pre-payable.
Yep.
So we will be focused on deleveraging. And we did that. So when I stepped into this chair in 2020, we had quite a bit of debt coming out of some large investments that we made in our tissue business. And we focused on deleveraging over the last few years, and we deleveraged significantly. So we've been very disciplined in our approach to capital allocation and cash flow generation. So I think we have a track record of deleveraging, and we intend to do that here. Now, we'll continue to look at other strategic opportunities.
Mm.
We do think that there will be others down the road, but the priority right now is for us to deleverage.
But stay in tissue and SBS on paperboard?
Yeah, so what we, what we said is, you know, our intent is to build out that, that paperboard business. What we also said publicly is, we will be looking at strategic, options, for, for our tissue business. And so that's-