Value Investors Club / CLEARWATER PAPER CORP (CLW)

Description

This is the third time I have written about CLW for VIC. I have generally done well with

the stock and every once in a while it sets up well because the backdrop improves.

Ultimately, I think CLW will be sold to a larger strategic buyer but that will not likely

happen until they have paid down their debt to about 2.5X EV/EBITDA. When it sells I

think they could get somewhere around $65 to $75 a share. I think that they will meet

their EV/EBITDA target in early 2023 because of the cashflow they will generate in the

interim. If they don’t sell the company, I think they will reinstate their buyback which they

used to reduce share count by ⅓ from its peak and drove the stock into the high $60’s

back in 2014. But that is not why I think it is attractive now.

CLW has two different businesses: Pulp and Paperboard (SBS) and Consumer

Products (tissue and paper towels).

Earlier this year CLW got hit because of consumer and retail destocking of tissue

following last year's hording and because of large inflationary increases that were

mainly attributable to higher pulp prices. This year, CLW anticipates that raw material

inflation will have a total negative impact of $60-70MM. As a result, the stock price fell

from the mid $40s to the high $20 in the first half of this year. More recently, SBS prices

have risen dramatically and pulp prices have started to fall. Also, CLW shut down its

high-cost unionized plant in Ninna Wisconsin and is moving the capacity to its recently

expanded non-union Shelby North Carolina plant with an anticipated $10+ annual

savings. In addition, there is significant evidence that consumers have been hording

tissue paper again.

CLW makes SBS:

In a nutshell: CLW has 840K tons of annual SBS capacity. Price increases that

have been recognized by RISI have increased $150 per ton of SBS. All in these

price increases represent just under $120MM of incremental profit assuming 95%

capacity utilization. YTD, CLW has enjoyed about a $10MM positive impact from

these higher prices.

SBS, particularly in the food service channel, has been negatively affected by the pandemic and related closures. However, SBS folding carton board has benefited from the strong demand in grocery stores and from restocking. SBS should also benefit from the anticipated migration of folding carton users from CUK to SBS. The growing need for CUK in the beverage market and higher prices and lower costs than SBS has led to CUK producers attempting to push users in segments like frozen foods back toward bleached

cartonboard while at the same time shifting SBS production to CUK. Buyers will presumably welcome this shift given that CUK prices have climbed $140/ton higher than SBS. This is a historical anomaly as SBS has traditionally been priced at a premium relative to CUK. Already, Graphic Packaging has reportedly moved about 100,000 tons of CUK customer demand toward SBS. GPK also switched 100,000 tons away from SBS production to produce more CUK which is more profitable. Another reason for the change in the demand/supply balance has been the announced capacity adjustments, namely WestRock’s shut of 200,000 tons of annual SBS capacity at its Evadale, Texas, mill at the end of 2020.

Additionally, WestRock and Graphic Packaging are shifting more swing capacity from SBS to CUK due to the need for more CUK supply and the fact that prices for SBS – traditionally the more premium product – have slipped significantly below CUK prices. This is significant since the total paperboard production in the US in 2019 was only 5.3MM tons. As a result, SBS folding cartonboard prices moved up in five of the last six months. SBS folding prices rose $20/ton in July, attaining all $150/ton of the announced price increases through August.

Prices for SBS cup stock and food service grades grew another $50/ton in August after increasing $50/ton in July. SBS cup stock prices have now realized all $150/ton of the increases that some producers have

announced.

GPK has announced two additional price increases, one set for September 1 and

another for October 1 each for $50 per ton of SBS. GPK and WRK tend to be the

leaders in price increases as they collectively represent about 50% of the SBS market.

These price increases have not yet been recognized by RISI but for each $10

recognized CLW should benefit by $8MM.

Demand for SBS is higher than ever with unmade orders over 7 weeks. The Bleached

product referred to below is SBS.

Pulp costs:

According to Fisher International, about 70% of the cash production cost of tissue is

pulp. After a historic rise late last year and early this year, pulp prices are starting to

move down. See chart above.

The annualized impact of pulp prices rising from trough to peak was likely around

$112MM on an annualized basis. Hardwood prices have fallen anywhere from $20 to

$30 per ton since they peaked in June. For every $10 move the effect on cost is about

$3MM to costs. As you can see from the chart below pulp prices tend to trend for

several months at a time.

In 2022, there is a large amount of South American Capacity due to come on line which

should put further pressure on hardwood pulp. Pulp prices tend to trend for 9 to 18 months at a time. I think we will continue to see pulp prices erode which should lead to higher margins for CLW’s tissue business.

Tissue Shortages Again:

On the Q2 call, CLW reported that tissue shipments were 10.2MM cases vs. 16MM in 2020 Q2. The lowest shipment month was April at 3.1MM cases and production was curtailed to reduce inventory and meet demand. At the time they reported that order patterns were increasing into Q3. The result was a $40 MM drag on tissue profitability of $40.8MM on the quarter compared to last year. Last year they benefited in Q2 from covid related demand by about $20MM so on a normalized basis they should do $20MM better next year. Since Q2 however, there have been a number of media reports that suggest that consumers have resumed hording behavior in light of the rise of Covid. Ultimately, at home tissue consumption has likely experienced a step change as more consumers are working longer at home and away from the office even after covid

becomes normalized.

Though it does not seem like the tissue shortages that have been occurring recently are as

dramatic as those seen earlier this year and last year they should clear out any excess

inventory in the channel.

https://www.5newsonline.com/article/news/local/walmart-ceo-sees-supply-chain-challenges-inventory-shortfalls-into-2022/527-1aacba8c-3b7d-480f-adcb-515cad23e964

Walmart CEO sees supply chain challenges, inventory shortfalls into 2022

Walmart CEO Doug McMillon said Thursday (Sept. 9) supply chain problems and inventory shortages are as stark as he can remember in his 30 years in retail.

www.5newsonline.com

https://www.bizjournals.com/triad/news/2021/09/09/pg-ramps-up-to-fight-new-toilet-paper-shortage.html

As Delta variant surges, P&G ramps up toilet paper production - Triad Business Journal

Consumers are back to clamoring for toilet paper amid surging Covid numbers. P&G is ready for it.

www.bizjournals.com

https://www.wsj.com/articles/americans-are-stocking-up-on-toilet-paper-again-11630431042

Americans Are Stocking Up on Toilet Paper Again - WSJ

News Corp is a global, diversified media and information services company focused on creating and distributing authoritative and engaging content and other products and services.

www.wsj.com

https://bestlifeonline.com/news-toilet-paper-shortage/

A Toilet Paper Shortage Is Hitting Grocery Store Shelves | Best Life

Last year, going to the grocery store was a bit of a gamble. The pandemic had pushed some people into panic-buying, leaving many essential items missing from store shelves.But while it seemed for a moment that those stockpiling days were coming to an end, the Delta variant has shoppers running to stores once again. In fact, one household essential item already appears to be disappearing from ...

bestlifeonline.com

Neenah closure:

This is from the most recent Q2 call: "The Neenah site recently generated negative adjusted

EBITDA. And by closing the site, we will avoid these losses and lower our overall cost structure by moving production to other sites. These actions will also help fully realize the benefits of the Shelby investment. In total, the benefit on a combined basis is expected to exceed $10 million annually with full benefit realization occurring in the fourth quarter."

Conclusion:

You can do the math yourself but as we look at how this all stacks up based on the

current accepted prices for SBS and current prices for Pulp we get to about $240 to $260

in EBITDA next year and about $7-$9 of free cash flow. Sell-side has them doing $205 in

EBITDA. Historically, CLW has traded at 7.0X EV/EBITDA and currently it is trading at 6X

based on consensus 2021. If we are right on the low end CLW should trade at around $45

per share at the current multiple assuming they use there cashflow to paydown debt.

That assumes $240MM of EBITDA and $7 of FCF. That also assumes no further

decreases in pulp prices, no further increases in SBS (despite another $100MM of

announced but not yet recognized price increases) which I think will both continue to

improve. I think SBS will move up about another $50 and that pulp should fall off by at

least $100. That would be worth about $40MM and $33MM in incremental EBITDA to CLW

all else equal. If that comes to pass and CLW returns to its historical multiple the stock

could trade significantly higher.

I do not hold a position with the issuer such as employment, directorship, or consultancy.
I and/or others I advise hold a material investment in the issuer's securities.

Catalyst

CLW's profits and cashflow will be signficantly higher than sellside estimates which do not capture the increases in SBS paperboard.
Pulp prices will likely continue to decline improving profitablity.
CLW will use its signficant free cashflow to paydown debt which should acreat to the value of the equity.
Ultimately, CLW will reach its leverage target and institute a buyback
CLW will probably be sold to a stratgic after it pays down its debt.

show sort by

			2021	2022
Price:	33.20	EPS	.26	4.70
Shares Out. (in M):	17	P/E	127.9	7
Market Cap (in $M):	551	P/FCF	7.86	4.7
Net Debt (in $M):	734	EBIT	0	0
TEV (in $M):	1	TEV/EBIT	0	0