Mercer International Inc.

good morning and welcome to mercer international's third quarter 2023 earnings conference call on the call today is juan carlos bueno mercer's president and chief executive officer and richard short mercer's chief financial officer and secretary i will now hand the call over to richard good morning everyone thanks for joining us today i will begin by touching on the financial and operating highlights of the third quarter before turning the call over to juan carlos

to provide further color into the markets, our operations, and our strategic initiatives. Also, for those of you that have joined the call by telephone, there is a presentation material that we have attached in the investor section of our website. But before turning to our results, I would like to remind you that we will be making forward-looking statements in this morning's conference call. According to the safe harbor provisions of the Private Securities Litigation Reform Act of 1995, I'd like to call your attention to the risks related to these statements, which are more fully described in our press release and in the company's filings with the Securities and Exchange Commission. This quarter, our EBITDA was $38 million. Compared to Q2's negative EBITDA of $69 million, this significant improvement over the prior quarter was due to lower fiber and other production costs. inventory impairment reversal, and fewer days of scheduled annual maintenance downtime, partially offset by lower pulp sales realizations. Our pulp segment contributed quarterly EBITDA of $49 million, and our solid wood segment EBITDA was negative $7 million. You can find additional segment disclosures in our Form 10-Q, which can be found on our website and that of the SEC. In Q3, our pulp segment had significantly lower fiber costs than Q2. As a reminder, Q2 results included a $51 million inventory impairment, primarily for hardwood inventory. At the end of Q3, only about $9 million of this impairment remains against our closing inventory. Our solid wood segment also had lower per unit fiber costs in Q3 when compared to Q2. due to the availability of lower cost beetle damaged wood in Germany. We currently expect beetle damaged wood to be available into 2024. In Q3, both our NBSK and NBHK sales realizations decreased compared to Q2, as modestly higher prices in China, driven by low customer inventory levels, were more than offset by lower prices in Europe and North America due to weak paper demand Late in the quarter, we started to see similar restocking efforts in both Europe and North America, which created modest upward pricing pressure. In China, the Q3 average MBSK net price was $680 per ton, up $12 relative to Q2. It is worth noting that pulp prices in China are up about $100 a ton compared to their low point this year. European MBSK list prices averaged $1,160 per ton in the current quarter, a decrease of $87 per ton from Q2. The market price gap between MBSK and MBHK in China narrowed to about $150 per ton in Q3 from $185 per ton in Q2. In China, the Q3 average MBHK net price was $530 per ton up $47 compared to the average of Q2. The North American average Q3 list price was $1,023 per ton, down $254, or about 20% from Q2. All our mills ran well this quarter, and we had less scheduled downtime in Q3 when compared to Q2. In Q3, we had a total of 39 days of downtime at our mills, which consisted of 13 days for planned maintenance and 26 days for logistics-related curtailment. While in Q2, we had 60 days of downtime at our mills, which consisted of 25 days for planned maintenance and 35 days for market curtailment. The lower scheduled maintenance downtime positively impacted EBITDA by about $10 million in Q3 when compared to Q2. After adjusting for planned shuts and curtailments, pulp production was down approximately 12,000 tons from the second quarter. Total pulp sales volumes in the third quarter were about 487,000 tons, down about 9% from the second quarter due to the timing of sales. For our solid wood segment, modest lumber pricing improvements in the US market were offset by lower pricing in the European market. Despite the price increases in the US, overall lumber demand remains weak due to high interest rates. The random length US benchmark for Western SPS No. 2 and better was $407 per thousand board feet at the end of Q3 compared to $380 at the end of Q2. Today the benchmark is around $377. We are not anticipating significant improvements to lumber pricing in the near term due to high interest rates and the seasonal slowdown in construction activity. Lumber production was about 94 million board feet in the quarter, down almost 23% from Q2 due to scheduled annual maintenance work completed in Q3. Lumber sales volumes were approximately 115 million board feet, down 14% from the prior quarter. Electricity sales totaled 254 gigawatt hours in the quarter, which is modestly up from Q2 due to fewer days of scheduled downtime in Q3. Pricing in Q3 increased to about $113 per megawatt hour from $106 in Q2 due to modestly higher prices in both Germany and Canada. Our mass timber business continues to ramp up operations resulting in revenue of $19 million in Q3 compared to $14 in Q2. This business also has a growing order book that we expect to fulfill over the coming months. All in all, we reported a consolidated net loss of $26 million for the third quarter, or $0.39 per share, compared to a net loss of $98 million, or $1.48 per share, in Q2. Cash generated in the quarter totaled $130 million compared to cash used of $87 million in Q2. In Q3, cash generated from the senior note offering and positive EBITDA was offset by a higher net working capital balance primarily due to the timing of tax and interest payments, despite a reduction in inventory levels. Looking ahead, we expect a modest working capital reduction in Q4 due to further reductions in finished goods and raw material inventories. In Q3, we invested about $37 million of capital in our mills, and looking ahead, we currently expect capital spending to be about $140 million in 2023. In September, we took important steps to enhance Mercer's liquidity position to ensure strong liquidity through the business cycle. These steps included completing a private offering for $200 million of senior notes due in 2028, as well as increasing the availability of our German revolving credit facility by about €70 million to €307 million. The new 2028 senior notes carry an interest rate of 12.875%. At the end of Q3, our liquidity position totaled $648 million, comprised of $344 million of cash and about $305 million of undrawn revolvers. And as you would have noted from our press release, our board has approved a quarterly dividend of 7.5 cents per share for shareholders of record on December 20th, for which payment will be made on December 28th. That ends my overview of the financial results. I'll now turn the call over to Juan Carlos.

Thank you, Rich. Good morning, everybody. Financially, Q3 was significantly better than our second quarter. Our production costs, including fiber, all trended down this quarter. Lower costs combined with modest price increases in some of our markets led to a significantly improved EBDA results. And although the markets where we operate are still at historically low levels of pricing and have relatively weaker demand than expected, we're seeing some selective, modest recovery, but varying by geography. As a result of uncertain market conditions, we have taken proactive actions throughout this year to reduce our planned CAPEX, as we had already signaled in the previous quarter, and now expect to land at around $140 million for the whole year. At the same time, we continue our focus on cost-saving measures and aggressively managing our inventories during this third quarter, and we will continue this financial discipline while our markets remain weak. I am pleased with our efforts to increase our liquidity this quarter. Our $200 million senior note private placement and the €70 million increase to our German revolving credit facility leave us well-positioned. to continue to execute our strategic plan through this business cycle. We recognize that these 2028 senior notes come with a high cost at 12.875%, but given the depth and uncertainty around this down cycle in our markets, we felt it prudent to ensure Mercer has strong liquidity through this cycle. It is also important to note that the investments we have made in our solid wood segment over the last year, namely the acquisition of Torgao and Structurelamp, were primarily done with our own cash. And in the fullness of time, these investments are expected to provide returns well in excess of the cost of these new notes. Overall, pulp markets remain weak, but all markets appear to have hit their floors with modest price increases implemented in either Q3 or early Q4. For NBSK, these increases appear to be the result of paper producer restocking, a reaction that is likely due to the realization that softwood pulp supply is down roughly a million tons on an annualized basis between mill closures, conversions, and curtailments. Most of these tons are permanently removed from the market, which will positively impact pulp markets when demand begins to improve. On the demand side, European paper producers continue to run at reduced capacity rates as the European economy remains weak, but it continues to deal with the effects stemming from the Ukraine war. Similarly, in China, the government is pursuing measured economic stimulus steps, but weak economic growth continues in light of significant risks faced by the real estate industry. Looking forward, we expect pulp prices to continue to slowly increase in Europe and North America in Q4, as reduced supply supports modest price improvements. As a result of the logistical issues created by the recent British Columbia port strike, we were forced to take a temporary 26-day curtailment at our Selgar mill during the month of August. This was not a decision we made lightly, but was necessary to manage the finished goods inventory at the mill. And we used this time to renegotiate our fiber supply contracts and are now seeing the benefits of it, as our wood costs have come down, and this is already visible in our results. Our mills run very well in the quarter, although the logistics-related procurement at Celgar, resulting from this port issue, negatively impacted pulp production relatively to the second quarter. Our scheduled maintenance was down from 25 days or roughly 25,000 tons in Q2 to only 13 days in Q3, all concentrated in a very well-executed shut at Rosenthal, reducing 30,000 tons of production as planned. Now for this fourth quarter, our annual maintenance schedule includes Stendhal taking a short three-day shut that will include all the final repairs to the Woodyard's conveyor system that was damaged by the fire in Q3 of last year, and Celgar taking a major 26-day maintenance in Q4, or roughly 41,000 tons of production total. Moving to our solid wood segment, our third quarter results reflected mixed markets, particularly in lumber, with the U.S. market being up slightly on average while the European market was down compared to Q2. High interest rates continue to weigh on housing starts, which are expected to keep lumber prices range bound through Q4. We continue to believe that low lumber channel inventories, the large number of sawmill curtailments, relatively low housing stock, wood shortages created by recent Canadian forest fires, and constructive homeowners demographics are still very strong fundamentals for the construction industry and this will put positive pressure on the supply-demand balance of this business in the midterm. We will continue to optimize our mix of lumber products and customers to current market conditions. As such, in Q3, slightly less than half of our lumber sales volumes were sold in the U.S., substituting volumes that otherwise would be destined for Europe and other markets. The integration of TORGAU continues to progress well, Although shipping pallet markets remain weak on the back of a weak European economy overall, while heating pallet prices were up roughly 20% due to seasonal demand relative to Q2. Once the European economy begins to show signs of recovery, we expect pallet prices to return to normal levels, allowing this asset to deliver significant shareholder value through the sale of pallets and increased lumber sales. In addition, the integration of the structural M-assets continues to progress as planned. We now have roughly 35% of North American mass timber production capacity, a broader range of product offerings, and a much larger geographic footprint, which gives us competitive access to the entire North American market. We continue to see strong customer interest in our mass timber products, which has made our order files stronger and including now several large marquee projects that we're very proud of. Moving on to costs of fiber overall, we experienced a decrease in pulp wood prices in Q3. In Germany, a steady supply of sawmill chips resulted in cost decreases, but work done at our Canadian mills, including the ramp-up of Peace River's wood room and the renegotiation of contracts in Selgar, pushed our fiber costs down in Q3. Looking ahead, we expect further modest declines in potwood costs at all of our mills in Q4. Our new lignin extraction pilot plant continues its ramp-up as planned. As a reminder, this new lignin plant is a large step towards Mercer being able to begin commercialization of lignin. We're excited about the future prospects of this product as a sustainable alternative to fossil fuel-based products. such as in adhesives and advanced battery elements, to only name a few. This aligns perfectly with our strategy, which involves expanding into green chemicals and products that are compatible with a circular carbon economy. As the world becomes more sensitive to reducing carbon emissions, we believe that products like lignin, mass timber, green energy, lumber, and pulp will play increasingly important roles in displacing carbon-intensive products. products like concrete and steel for construction or plastic for packaging. Furthermore, the potential demand for sustainable fossil fuel substitutes is very significant and has the potential to be transformative to the wood products industry. We are committed to our 2030 carbon reduction targets and believe our products form part of the climate change solution. In fact, we believe that in the fullness of time, demand for our low-carbon products will dramatically increase as the world looks for solutions to reduce its carbon emissions. We remain bullish on the long-term value of pulp and are committed to better balance our company through faster growth in our lumber and mass timber businesses. In closing, looking forward to Q4, we will remain focused on our cost reduction, capex, and working capital initiatives while we navigate this period of low pulp and lumber prices. We will continue to work on rebalancing our assets in line with the execution of our strategic plan, and we'll continue to manage our cash and liquidity prudently. Thanks for listening, and I will now turn the call back to the operator for questions. Thanks.