KP Tissue Q3 2023 Earnings Call Transcript

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November 8, 2023

There are 6 speakers on the call.

Operator

Good morning, ladies and gentlemen. Thank you for standing by. Welcome to the KP Tissue Third Quarter 2023 Results Conference Call. At this time, all participants are in a listen only mode. Following the presentation, we will conduct a question and answer session.

Operator

Instructions will be provided at that time for you to queue up for questions. Followed by 0 for operator assistance at any time. Before turning the meeting over to management, I would like to remind everyone that this conference call is being recorded on Wednesday, November 8, 2023. I will now turn the conference over to Mike Baldessara, Director of Investor Relations. Please go ahead.

Speaker 1

Thank you, operator, and good morning, ladies and gentlemen. My name is Mike Baldesser. I'm the Director of Investor Relations at KP Tissue Inc. The purpose of this conference call is to review the financial results of the Q3 of Kruger Products Inc, which I'll refer to as Kruger Products going forward. With me this morning is Dino Bianco, the Chief Executive Officer of KP Tissue and Cruiser Products and Mark Holbrook, Chief Financial Officer of KP Tissue and Cruiser Products.

Speaker 1

The following discussions and responses to questions contain Forward looking statements concerning the company's activities. Forward looking statements involve known and unknown risks and uncertainties, which could cause the company's actual results differ materially from those in the forward looking statements. Investors are cautioned not to rely on these forward looking statements. The company does not undertake to update these forward looking statements except if required by applicable laws. There is a page at the beginning of the presentation, which contains the usual legal cautions, including as to forward looking information, which you should be aware of.

Speaker 1

I'd like to point out that all figures expressed in today's call are in Canadian dollars unless otherwise stated. The press release reporting our Q3 2023 results were published this morning and will be accessible from our website at kptissueinc.com. Please be aware that our MD and A will be posted on our website and will also be available on c. Finally, I'd like to ask that during the call to refer to the presentation we prepared to accompany these discussions, which is also available on our website. We also appreciate that during the Q and A period for you to limit your questions to 2.

Speaker 1

Thank you for your collaboration. Ladies and gentlemen, I'll now turn the call over to Dino Bianco, our CEO. Dino?

Speaker 2

Thank you, Mike. Good morning, everyone, and thank you for joining us for our Q3 earnings call. We are very pleased with our financial results in the Q3 of 2023, highlighted by robust sales volume in our consumer segment and improved productivity from our network assets. We also benefited from a seasonally strong quarter, lower pulp and other input costs as well as pricing carryover from 2022. As a result, we outperformed profitability expectations despite an uncertain economic environment.

Speaker 2

Looking ahead to the Q4, while pulp and transportation costs have likely bottomed, we continue to see inflation, other input costs and SG and A expenses. We believe volume will remain strong and with our previously announced pricing, margin should be stable. Now let's take a look at our quarterly numbers on Slide 6. Revenue increased 10.9% to $473,400,000 in the Q3 of 2023, mainly due to higher sales volume and favorable sales mix in our consumer segment, along with selling price increases across all segments and regions in 2022. Revenue was also positively impacted by foreign exchange fluctuations on U.

Speaker 2

S. Dollar sales. Revenue in Canada rose 7.1% year over year in the 3rd quarter, While in the U. S, it grew 16.1% as this market benefited from strong sales growth in both our consumer and AFH segments. In Canada, AFH sales were actually slightly down compared to the Q3 of 2022.

Speaker 2

As well, the U. S. Dollar increased almost 0.05 Mark will provide you with more details in his financial overview. On Slide 7, pulp average prices in Canadian dollars decreased double digits in the Q3 of 2023 from the previous quarter, while year over year prices dropped more sharply. NBSK and BEK average prices fell 26.2% 35% year over year in Q3 2023.

Speaker 2

After dropping near the bottom of the price curve, pulp prices are expected to increase according to industry analysts. Let's move on to our Sherbrooke operations and expansion on Slide 8. Our TAD operations continue to Form well surpassing production expectations on the paper machine and on the converting lines, including the new bathroom tissue converting line. Given supply chain inflation and higher costs, however, we are now anticipating a capital cost increase of $26,000,000 which would take the project to $378,000,000 for our Sherbrooke expansion. Construction of our new production facility is well underway with our facial tissue lineup line starting up in Q1 2024.

Speaker 2

This has been moved due to a shortage of electronic that has now been resolved, while the paper machine ramp up is still expected for Q4 2024. I'm also happy to report that employee hiring and onboarding is tracking to plan for the ramp up of these new assets. Turning to a facial market update on Slide 9. As a leading supplier of facial tissue, we intend to fulfill the demand created by the recent announcement of Kleenex brand exit from the Canadian grocery channel. We are currently exploring opportunities to secure additional long term capacity in addition Our previously mentioned new Sherbrooke facial line and we continue to invest to build our Scotty's brand to drive growth through Baseline and innovation.

Speaker 2

In the U. S, our facial line in Memphis, which has been up and running for more than a year continues to exceed its ramp up curve. As a result, with the addition of the new facial assets, we believe that we're well positioned to satisfy consumer needs for facial tissue across North America. Flipping to our Memphis operations on Slide 10. The focus on reliability is delivering better results for our TAD manufacturing operations.

Speaker 2

Production volume and the cost structure are progressing well, allowing us to have a better balance of product production across the two sites with Sherbrooke and Memphis. The deployment of digital twin AI tools has proven to be successful on the new facial line. So we will extend this new technology across our Finally, we are leveraging learnings from both Sherbrooke and Memphis to create a TAD center of excellence that will bring together best practices for both sites. Now let's pivot to brand support on Slide 11. We are maintaining strong second half investments to drive brand share.

Speaker 2

Several multi brand activities continued in the Q3, namely our Unapologetically Human Love is Messy campaign that included the launch of ethnic versions And a successful made in Canada promotion. As mentioned earlier, we increased media support of Scotty's to build brand awareness in Canada as there will be a gap in Tissue demand that needs to be filled. We also maintain investments in our sustainable Bonterra product family, which has a loyal following among environmentally conscious Consumers and we want to build awareness of this brand as we know the product fits the consumer need. Earlier this month, We celebrated Cashmere's 20th anniversary collection in a fashion show entitled Love Struck to kick off October's Breast Cancer Awareness Month. The award winning runway show featured original couture from 20 world class Canadian designers who were up to the challenge of creating garments with our Juriously soft cashmere bathroom tissue.

Speaker 2

A new addition this year was a behind the scenes documentary available both on TV and online. Finally, we continued strategic shopper investments behind our White Cloud brand at key accounts in the U. S, including a facial tissue launch at select retailers. Moving to Slide 12. The data presented is taken from Nielsen.

Speaker 2

It shows market share performance over a 52 week period ending September 9, 2023. The data reflects that Kruger Products is gradually regaining share as pricing has stabilized And promotional activity on trademark brands has increased. More specifically, we've seen strong growth on our Sponge Tails brand 52 week period ending September 9, 2023, and we expect continued share growth for our bath and facial brands as we move into Q4. Looking at Away From Home on Slide 13. Sales volume in the Q3 was stable year over year and sequentially.

Speaker 2

Although our AFH segment benefited from a seasonally strong quarter, we believe the recovery of this business is now Quite sustainable. And in fact, Q3 2023 marked the 5th consecutive quarter that it posted positive EBITDA. Going forward, asset performance continues to support additional volume growth. A cautionary note on the AFH business remains the

Speaker 3

Thank you, Dino, and good morning, everyone. Please turn to Slide 14 for a summary of our financial performance in Q3 2023. Dino has already talked about our robust adjusted EBITDA of $72,400,000 on sales of $473,400,000 in the quarter. I'll address the net income, which totaled $12,900,000 in the 3rd quarter compared to a loss of $38,800,000 in Q3 2022. The $51,700,000 increase was mainly due to significantly higher adjusted EBITDA, along with a lower foreign exchange loss, partially offset by higher income tax expense.

Speaker 3

In the quarterly segmented view on Slide 15, Consumer revenue increased 12.8 percent year over year to $390,300,000 in the 3rd quarter and 1.8% sequentially from Q2 2023. Consumer segment revenue rose both in Canada and the U. S. In the Away From Home segment, revenue improved 2.6% year over year to $83,100,000 and 0.3% sequentially from the previous quarter. Consumer adjusted EBITDA totaled $65,900,000 in the 3rd quarter compared to $25,000,000 in Q3 2020 2, with an adjusted EBITDA margin of 16.9% versus 7.2% for the same respective period.

Speaker 3

Sequentially, consumer adjusted EBITDA was up $12,700,000 or 23.9 percent from Q2 2023. For our AFH business, adjusted EBITDA amounted to $8,400,000 in the 3rd quarter compared to $5,400,000 in Q3 2022 with a robust margin of 10.1%. Sequentially, AFH adjusted EBITDA was up $2,600,000 from Q2 2023, as Q3 is a seasonally stronger quarter. On Slide 16, we review year over year revenue growth for Q3, which grew $46,400,000 or 10.9 percent. As Dino mentioned, higher sales volume in our consumer segment was the main driver.

Speaker 3

On a geographical basis, revenues in Canada rose $17,800,000 or 7.1 percent year over year, while U. S. Revenues grew by $28,600,000 or 16.1 percent. On Slide 17, We provide an additional insight into profitability in the Q3. Adjusted EBITDA increased by $41,700,000 to 72,400,000 representing a margin of 15.3 percent from $30,700,000 in Q3 last year or a margin of 7.2%.

Speaker 3

Several factors contributed to generating strong adjusted EBITDA in the Q3, including higher sales volume and favorable sales mix, Selling price increased carryover from 2022, lower pulp and input costs and increased productivity in operations, along with lower freight costs. These factors were partially offset by higher warehousing and SG and A expenses, as well as an unfavorable FX impact. Now I'll turn to Slide 18, where we compare Q3 revenues Sequentially to Q2 2023, revenue improved by $7,100,000 or 1.5 percent, mainly due to higher sales volume in our consumer segment, partially offset by higher promotional spending. Geographically, revenue in Canada rose by $2,400,000 or 0.9 percent sequentially, while revenue in the U. S.

Speaker 3

Grew by $4,700,000 or 2.3 percent. On Slide 19, adjusted EBITDA in the 3rd quarter increased sequentially by 17 point $4,000,000 or 31.6 percent on higher sales volume, lower pulp prices, reduced warehousing costs, Increased productivity and operations and lower G and A costs. These factors were partially offset by higher promotional and marketing spending. Adjusted EBITDA was up 3.5 margin points from 11.8% in Q2. Turning to our balance sheet and financial position on Slide 20.

Speaker 3

Our cash position stood at $151,100,000 at the end the Q3, an increase of $62,900,000 from Q2 2023. Significant increase in cash sequentially was mainly due to the strong Adjusted EBITDA generated in Q3 2023 combined with reduced working capital. Total long term debt at quarter end was $1,100,000,000 down $11,800,000 from the end of the previous quarter. Net debt decreased $74,800,000 sequentially, dollars 948,800,000 as we remain disciplined with our capital spending and generated cash from reduced working capital. As a result, our net debt to last 12 months adjusted EBITDA ratio Significantly decreased to 4.3 times in the 3rd quarter from 5.7 times in Q2 2023 and 9.5 times in Q3 2022.

Speaker 3

Leverage improved on the strength of lower net debt Higher adjusted EBITDA in the last 12 months. We expect deleveraging will continue its downward trend in Q4 2023, Despite significantly ongoing investments in our Sherbrooke expansion project, as adjusted EBITDA keeps growing on our last 12 months basis. At quarter end, total liquidity representing cash and cash equivalents and availability from revolving credit agreements stood at $277,600,000 In addition, dollars 22,500,000 of cash was held for the Sherbrooke expansion project. I will conclude my section by reviewing capital expenditures on Slide 21. Total CapEx in Q3 2023 was $28,500,000 including $21,600,000 for the Sherbrooke Expansion project.

Speaker 3

Year to date, CapEx stood at $105,900,000 after 3 quarters completed. Due to significant inflation across the Supply chain and interest rate increases during construction, the capital cost of the Sherbrooke expansion project is now expected to reach $378,000,000 from $352,000,000 The additional $26,000,000 in capital cost is being financed by investments from Kruger Products and an $8,200,000 increase in the construction loan facility. We continue to monitor the project closely to minimize any impact of further inflation. For fiscal 2023, we have slightly reduced our CapEx forecast to between $190,000,000 210,000,000 Since spending related to the Sherbrooke expansion project will now be more heavily weighted towards the final year of the project in 2024. Consequently, we are anticipating CapEx for 2024 to range between $170,000,000 190,000,000 including the Sherbrooke Expansion Project.

Speaker 3

Thank you for joining us this morning, and I'll now turn the call back over to Dino.

Speaker 2

Thank you, Mark. Please turn to Slide 23 for my closing comments. We have demonstrated remarkable agility and resilience amid an uncertain economic environment as reflected by broad top line growth and strong profitability in the Q3. We are intensifying investments in our brands to drive long term growth. We are exploring additional opportunities to increase our facial capacity in order to meet strong demand.

Speaker 2

Our Away From Home segment continues to deliver against the sustainable profit model on the strength of 5 consecutive quarters of positive EBITDA. We remain focused on asset productivity to help offset rising costs and maintain our margins while driving demand for our new assets. Our leverage ratios have significantly improved as adjusted EBITDA over the last 12 months continues to trend upwards and our net debt levels have decreased. And finally, we will keep investing in organization and culture to drive future growth. Now let's turn our attention to the outlook for the Q4 of 2020 3, we are expecting margins to stabilize and we will continue to reinvest in the business to drive long term value.

Speaker 2

Accordingly, adjusted EBITDA for Q4 2023 is expected to be in the $60,000,000 to $65,000,000 range. I also want to take this opportunity to thank our employees across North America for the turnaround in our business after a very difficult 2022. Their efforts, resilience and agility is the key driver of the turnaround of our performance. We will now be happy to take your questions. Operator?

Speaker 2

Operator, are you there? We're ready for questions.

Speaker 1

Operator, are you there? We're ready for questions now.

Operator

Hello and apologies for the delay. Thank you. Ladies and gentlemen, we will now begin the question and answer session. Your questions will be polled in the order as they are received. And And the first question comes from the line of Hamir Patel of CIBC Capital Markets.

Operator

Please go ahead.

Speaker 1

Hi, good morning.

Speaker 3

Good morning. Bruno, are you seeing more pressure in Canada from some

Speaker 4

of your grocery customers, just given the sort of political pressure that they've been under to lower pricing?

Speaker 2

That's a great question, Hamir. We live in strange times with what's going on With respect to the actions around who's to blame for inflation. Look, at this point, I think everybody who has been involved with this understands from the business side understands that we've come through a pandemic. We've got Global supply chains that are in flux and quite frankly, a lot of money being printed over that time. And I think that's why you're seeing what You're seeing in terms of inflation across almost every commodity, every sector.

Speaker 2

As it relates to pressure from our retailers, At the end of the day, we've passed on our cost increases and there's obviously a timing lag. You saw that last year, we got hurt by it. This year, we're benefiting a bit by that at the end. In the long term, no, supply and demand and competitive pressures will dictate pricing. So I would say that within a range, our pricing is where it needs to be.

Speaker 2

And we'll have to watch what goes on with respect to Commodity movements, but not just items like pulp and freight, which we always talk about, but every single line item on anybody's P and L, Whether it be IT costs or labor costs or insurance, they're all going up. And I think we just need View the business on a total cost basis as it relates to how we reflect our pricing.

Speaker 3

Great. Thanks, Dino. That's helpful. And just Looking at the AFH segment, what type of margins would you be targeting there for 2024?

Speaker 2

Well, I'm not going to give you 2024. I've always said we should be 5% to 10% and we're certainly pushing up now into the high single digits. I think if I look at that business, I think the volume curve is very strong, particularly growth in the U. S. I think our pricing models now are More stable and reflective of managing through cost changes.

Speaker 2

Our operations are running well. I think the last piece in the puzzle would be that sourcing more internal paper. We do buy paper on the market and that Offs us an upcharge. And with the new paper machine coming in next year, that should help relieve some of that pressure. It will come in late next year, But that should allow AFH to move closer to the 10% range as longer term as we have internal paper supply.

Operator

Thank you. Your next question comes from the line of Kasia Kopytek of TD Securities. Please go ahead.

Speaker 2

Good morning, Cassia.

Operator

Cassia, you may go ahead and ask your question. As there's no response from the line of Kasia Karpytek, we will go to our next question from the line of Zachary Hendershud of National Bank Financial. Please go ahead.

Speaker 4

Good morning, everyone. This is Nate calling in for Zach. So my question is based on where you guys are on the cost curve and how the market is approaching price hikes, Do you still stick to your previous guidance on where margins shake out in the long term, especially with pulp prices coming back? And Do you still expect there to be a 12 to 16 week lag on pricing or have sales channels kind of adapted to quickly moving costs?

Speaker 2

Yes. It's a lot packed into that question. Obviously, in my previous answer, Amir, we're looking beyond just pulp total costs. So as I said in my prepared remarks that pulp has bottomed out and we're starting to see some upward movement. We're watching that closely.

Speaker 2

And As we reflect on our pricing and we manage that long term, we want to make sure that that price is on the right side of the equation, not just for pulp, but as I mentioned, All the other input costs. There always is a lag getting into the market on pricing. It's just built into the way that The grocery industry works both U. S. And Canada.

Speaker 2

There needs to be a lead time provided to retailers so that they can adjust their pricing accordingly. So We have to build that in when we're thinking about price changes. And we do, we know what it is now. So we're pretty comfortable If we move pricing that we would be reflecting that lag that happens more longer lag on the upside than on the downside, but So lag on both sides and we would reflect that in any pricing changes that we announced to the marketplace. As far as margin management, I do believe we're getting it in the stable range of where we should be.

Speaker 2

Last year was unusually high. This quarter was probably our most favorable quarter as it relates to margin. But as you think about where costs are going, we're Within a range, we're now being fairly stable on our pricing margins, as I mentioned in our guidance as well.

Speaker 4

Thanks. That's very helpful. And so touching on Kleenex leaving Canada, What have competitive actions looked like with respect to that gap in supply? Has this spurred any Concrete plans for investments and consolidation within the industry? Or is everyone still looking cautious on CapEx?

Speaker 2

I can't talk about everyone, but I'll tell you our position. I mean, first of all, Kleenex did announce at the end of August That they were leading the grocery side of their business, the consumer side in the grocery channel. So we were preparing already, as you know, to increase our capacity on facial through the Phoenix project, Which I mentioned is now going to come on board in Q1. I also mentioned that we're looking for additional Capacity, now as we redo our projections for demand across North America, including the new use for Kleenex, we're going to need more capacity. So we're in the process of Doing that and making sure that we've got capacity to supply not just the Canadian market, but our U.

Speaker 2

S. Customers. We're also seeing strength in facial. As it relates to what's going on at retail, we've been working with our customers and I'm sure our competitors have as well just to Rethink what this category looks like now with the exit of Kleenex and the remaining players and how the section should be set up as it relates To the key three players being private label, ourselves and Royale. And looking at how we now look at that section, how innovation will come into play over the next little while.

Speaker 2

Obviously, from capacity point of view, we will be okay. I can't speak for our competitors. So that's kind of a total category approach that we're taking. We're the market leader with Scotty's. And we believe being the market leader, we have a strong obligation as we always had with Kleenex or without to really drive the category and Provide both consumer and customer benefit as it relates to facial.

Speaker 4

Thanks. And just one quick last one. Looking ahead for AFH on Q4, can we expect the same seasonality from Q3 to Q4?

Speaker 2

Q4 tends to be a little weaker in AFH. And if you read any of the reports now with restaurant visits Down and so forth. We're just we're a little worried about that. I mean, I'm not going to give you guidance as of Guyana FH. I think all the things that have driven their success We'll continue to be there.

Speaker 2

The one piece that we just have to we have Maybe not as much control over is what's happening in the economic environment. So As I think every comment we make about AFH will now add the line around Depending on what happens in the economic environment around us, because if there is an economic slowdown as we probably are already and if that gets into a deeper recession, The first channel that starts to feel that pain is going to be the commercial industrial section. So But I do feel what AFH has put in place is sustainable. The pricing model is sustainable. The operational performance that group has, the mix of customers is more diversified than it ever was.

Speaker 2

So that should help provide some insulation there if the market has

Operator

followed by the one. Our next question comes from the line of Kasia Popipek of TD Securities. Please go ahead.

Speaker 5

Okay. Let's try this again. Hi, everyone. One question for me around your increased promotional Funding going forward, is that a level that we should think about normalized for you guys? Or is it going to be Temporarily elevated over the next little while as you look to catch up on some of those brand building activities you weren't able to engage in over the last year?

Speaker 2

Hi, Kathy. I'm assuming you cut out a little bit. Did you say marketing spending?

Speaker 5

Yes. I'm just curious whether the increased marketing spending that you signaled you're going to be having over the next little while, is that a normalized level? Or is it Going to be temporarily elevated as you look to catch up on some of the activities you weren't able to engage in over the last year?

Speaker 2

I think there's 2 things going on. Certainly, we continue to increase our marketing spend as Our business is getting bigger. Our company is getting larger. Obviously, our brands are growing. So we continue to And inflation happens in that in marketing spend as well.

Speaker 2

So we absolute level goes up. But I think as it relates to this year, we came into the year After a tough year last year, uncertainty in the year, we purposely weighted our marketing spend to the back half. We wanted to make sure that we were earning Profit before we started spending marketing, we have discretion over how we spend that marketing. So what you're seeing somewhat in Q3 and you'll see in Q4 is just More marketing spend in the way the year balanced out. As we look forward, We will continue to increase our marketing investment in line with the growth of our business as we see our brands continuing to grow.

Operator

There are no further questions at this time. Please proceed.

Speaker 2

Okay. Thank you for joining us on this call today. We look forward to speaking with you again following the release of our Q4 results for 2023. Thank you, and have a great day.

Operator

Ladies and gentlemen, this concludes your conference call for today. We thank you for participating and ask that you please disconnect your lines.

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