Packaging Corporation of America

Good day, everyone. Thank you for joining Packaging Corporation of America's fourth quarter and full year 2022 earnings results conference call. Your host will be Mark Kalazan, Chairman and Chief Executive Officer of PCA. Upon conclusion of his narrative, there will be a question and answer session. Please also note today's conference call is being recorded. At this time, I'd like to turn the call over to Mr. Kalazan. Please proceed when you are ready.

Thank you, Jamie. Good morning, and thank you all for participating in Packaging Corporation of America's fourth quarter and full year 2022 earnings release conference call. Again, I'm Mark Colzan, Chairman and CEO of PCA, and with me on the call today is Tom Hasfurther, Executive Vice President who runs our packaging business, and Bob Mundy, our Chief Financial Officer. I'll begin the call with an overview of our fourth quarter and full year results, and then I'm going to be turning the call over to Tom and Bob provide further details and then i'll wrap things up and we'd be glad to take questions yesterday we reported fourth quarter 2022 net income of 212 million dollars or 2.31 for share excluding special items fourth quarter 2022 net income was 215 million dollars or $2.35 per share compared to the fourth quarter of 2021 net income of $262 million or $2.76 per share. Fourth quarter net sales were $1.98 billion in 2022 and $2.04 billion in 2021. Total company EBITDA for the fourth quarter excluding special items was $409 million in 2022 and $463 million in 2021. Excluding special items, we also reported full-year 2022 earnings of $1.04 billion or $11.14 per share compared to 2021 earnings of $894 million or $9.39 per share. Net sales were $8.5 billion in 2022 and $7.7 billion in 2021. Excluding special items, total company EBITDA in 2022 was $1.9 billion compared to $1.7 billion in 2021. Fourth quarter and full year, 2022 net income included special items primarily for certain costs at the Jackson, Alabama mill for paper to container board conversion related activities. Details of all the special items for the years 2022 and 2021 were included in the schedules that accompanied the earnings press release. Excluding special items, the 41 cents per share decrease in fourth quarter 2022 earnings compared to the fourth quarter of 2021 was driven primarily by lower volumes in our packaging segment, $1.14, and paper segment, two cents. We also had higher operating costs of 48 cents, primarily from inflation on energy, chemicals, labor and benefits, supplies, repair materials and services, and other indirect and fixed costs. Freight and logistics expenses were unfavorable, 13 cents, along with higher depreciation expense, nine cents, higher converting costs, six cents, and higher scheduled maintenance outage expenses of one cent. These items were partially offset by higher prices in MIX in the packaging segment of $1.18 and paper segment of 21 cents. A lower share count resulting from share repurchases, eight cents, lower interest expense, four cents, and a lower tax rate, one cent. Results were 13 cents above the fourth quarter guidance of $2.22 per share, primarily due to higher prices and mix in the packaging segment, lower freight and logistics expenses, a lower share count resulting from share repurchases, and a lower tax rate. Looking at our packaging business, EBITDA excluding special items in the fourth quarter of 2022 of $392 million with sales of $1.8 billion resulted in a margin of 21.7% versus last year's EBITDA of $461 million and sales of $1.9 billion or a 24.5% margin. For the full year 2022, packaging segment EBITDA excluding these special items was $1.8 billion with sales of 7.8%. billion or a 23.8 percent margin compared to full year 2021 EBITDA of 1.7 billion with sales of 7.1 billion dollars or a 23.9 percent margin. Demand in the packaging segment was below expectations for the quarter causing us to run our container board system to these lower demand levels. Our employees did a very good job with their cost management and process optimization efforts at these lower production rates to offset the negative volume impact. Total economic-related downtime for the fourth quarter was approximately 231,000 tons. The scheduled maintenance outage and conversion work at our Jackson, Alabama mill was completed successfully during the fourth quarter, and we restarted the mill earlier this month after being down as a result of the lower demand. The number three machine achieved its first phase design capacity and is producing a very high-quality virgin liner board. However, based on current container board demand levels, we've decided to move the second phase of the conversion work from this spring to next year in 2024. I'll now turn it over to Tom, who will provide further details on container board sales and the corrugated business.

Thank you, Mark. Domestic container board and corrugated products prices and mixed together were $1.19 per share above the fourth quarter of 2021 and flat compared to the third quarter of 2022. Export container board prices and mix were down a penny per share compared to the fourth quarter of 2021 and down two cents per share compared to the third quarter of 2022. Corrugated product shipments were down 8.7% per workday and down 10.2% in total with one less workday compared to last year's fourth quarter. Outside sales volume of container board was 131,000 tons below last year's fourth quarter and 38,000 tons below the third quarter of 2022. The lower demand in our packaging segment was driven by several items. The inventory correction in both boxes and our customers' product has been more prolonged than what we originally anticipated at the start. Inflationary pressures on the consumers have also added to the problem by reducing the consumer's discretionary spending capabilities. In addition, consumer behavior changed very quickly as we exited the extreme COVID period, resulting in more of a preference towards travel, entertainment, and experience versus that of tangible goods. Container board and box demand continues to be negatively impacted from the deterioration in US and global economic conditions, rising interest rates, and a cooler housing market. As we move from the fourth quarter into the first quarter, we estimate the rate of shipments per day to be fairly similar as we expect many of these conditions to continue. However, there are four additional shipping days in the first quarter, so total actual shipments will be higher when compared to the fourth quarter of 2022. In spite of the numerous issues currently impacting demand, we continue to perform at levels above pre-COVID, and anticipate our first quarter shipments to exceed first quarter of 2019 shipments by approximately 6% on a per day basis. Now I'll turn it back to Mark.

Thanks, Tom. Looking at our paper segment, EBITDA excluding special items in the fourth quarter was $39 million with sales of $154 million, or a 25.7% margin. compared to the fourth quarter of 2021 EBITDA of $26 million on sales of $143 million or an 18.4% margin. For the full year 2022, paper segment EBITDA excluding special items was $132 million with sales of $622 million or a 21.3% margin compared to the full year 2021 EBITDA of $72 million with sales of $600 million or a 12% margin. Prices and mix were up 21% from last year's fourth quarter and moved 3% higher from the third quarter of 2022 as we continue to implement our previously announced price increases. Sales volume was about 11% below last year's fourth quarter, primarily due to paper sales from the Jackson Mills number one machine which we included in last year's results, as well as having re-optimized our product and customer mix since that time as we transitioned away from paper volume at Jackson Mill. As expected, volume was down approximately 11% versus the seasonally stronger third quarter of 2022. That also included the remaining inventory from the Jackson Mill. The management team and all of the employees of the paper business have done a tremendous job over the last several quarters to optimize our inventory, product mix, and cost structure in order to deliver outstanding results for 2022, and I'm confident that we can maintain this momentum through 2023. I'll now turn it over to Bob.

Thanks, Mark. Cash provided by operations during the quarter totaled $420 million. with capital expenditures of $247 million and free cash flow of $173 million. Other cash payments during the fourth quarter included dividend payments of $116 million, cash tax payments of $56 million, and net interest payments of $31 million. We also spent $380 million during the quarter to repurchase just over 3 million shares of our common stock at an average price of $126.70 per share. That brings our total repurchases over the last five quarters to almost 5.5 million shares at an average price of $130.62 per share. Repurchases of our outstanding stock and dividend payments made during the past year represent 63% of cash from operations or 91% of net income that was returned to shareholders in 2022. For the full year 2022, cash from operations was $1.5 billion. Capital spending was $824 million with free cash flow of $671 million. Our final recurring effective tax rate in 2022 was 24.5%. and our final reported cash tax rate was 20%. Regarding full-year estimates of certain key items for the upcoming year, we expect total capital expenditures to be approximately $475 million, and DD&A is expected to be approximately $485 million. We estimate dividend payments of $450 million and cash pension and post-retirement benefit plan contributions of $53 million. Our full-year interest expense in 2023 is expected to be approximately $72 million, and net cash interest payments should be about $74 million. The estimate for our 2023 book effective tax rate is 25%. Currently, planned annual maintenance outages at our mills in 2023, including lost volume direct costs and amortized repair costs, It's expected to be in total 67 cents per share versus 99 cents per share in 2022. The current estimated impact by quarter in 2023 is 11 cents per share in the first quarter, 14 cents in the second, 22 cents in the third, and 20 cents per share in the fourth quarter. I'll now turn it back over to Mark.

Thank you, Bob. The hard work of our employees along with strong relationships between us and our customers and suppliers delivered outstanding results for PCA in 2022. New annual company records were achieved for revenue, cash from operations, net income, and earnings per share. And as Bob just mentioned, 91% of our net income was returned to our shareholders from dividend payments and stock repurchases. We successfully completed or substantially completed significant cost reduction and process improvement projects at our mills, including a 30 megawatt steam turbine and first phase of the number three machine conversion to container board at the Jackson Mill. This effort included fiber flexibility projects at the Wallula and Jackson Mills and many other key initiatives. We also completed numerous high return and high efficiency improvement projects in our corrugated products plants That will allow us to better optimize our entire packaging business for the future and deliver profitable growth and mix enhancement opportunities for our customers and shareholders. The significant capital investments we've made during the year had complete involvement of PCA personnel, from project conception, preliminary and detailed engineering, all the way through to project implementation and startups. These projects and initiatives achieve numerous tactical and strategic benefits while improving our industry-leading return on invested capital to just under 20%. As we've discussed on these calls many times before, by the end of 2022, we would be winding down several years of significant strategic capital investments that position us very well to meet the future needs of our many customers in a very cost-effective manner. We also finalized the optimization of our paper business while delivering excellent financial results that we expect to sustain us well into the future. As economies around the world continue to deal with numerous issues and uncertainties, virtually every individual and industry is being negatively impacted in some manner. At PCA, we will continue to maintain a strong balance sheet which provides the financial flexibility to react quickly to most situations or opportunities in the future. We will also continue our commitment of a balanced approach towards capital allocation in order to maximize our profitability and returns to our shareholders. Looking ahead as we move from the fourth and into the first quarter in our packaging segment, as Tom mentioned, we expect box demand on a per-day basis to be similar to the fourth quarter levels, although we expect higher total volume with corrugated products plans having four additional shipping days. Prices will move lower as a result of recent decreases in the published domestic container board prices, and we are assuming lower export prices as well. Paper prices should move slightly higher with sales volume fairly flat. Labor costs and certain indirect costs will increase as some container board mill operations were temporarily idled during the fourth quarter. In addition, we anticipate higher labor and benefits costs and other timing-related expenses that occur at the beginning of a new year, as well as higher prices for many chemicals, particularly starch and caustic soda. However, we expect lower wood and recycled fiber prices, lower energy prices, and lower scheduled maintenance outage expenses. Lastly, we expect higher interest and non-operating pension expenses and a higher tax rate. but we will see some benefit from our recent share repurchases. Considering these items, we expect first quarter earnings of $2.23 per share. With that, I would be happy to entertain any questions, but I must remind you that some of the statements we've made on the call constituted forward-looking statements. The statements were based on current estimates, expectations, and projections of the company and involve inherent risks and uncertainties, including the direction of the economy and and those identified as risk factors in our annual report on Form 10-K and in subsequent quarterly reports on Form 10-Q filed with the SEC. Actual results could differ materially from those expressed in the forward-looking statements. And with that, Jamie, I'd like to open the call for questions, please.

Ladies and gentlemen, at this time, we will begin the question and answer session. To ask a question, you may press star and then 1. To withdraw your questions, you may press star and 2. If you are using a speakerphone, we do ask that you please pick up the handset prior to pressing the numbers to ensure the best sound quality. Once again, that is star and then 1 to ask a question. Our first question today comes from George Staffos from Bank of America Securities. Please go ahead with your question. And one moment while we open George's lines.

Hi. Good morning, everybody. Thanks for the details. Congratulations on, you know, very good performance in a very, very challenging quarter, at least from our estimation. Mark, my first question, to the extent that you can comment, you took a significant amount of downtime. Production was down sharply. From our own rough calculations, it would seem like your inventories now are fairly well balanced relative to your needs, but If you had to qualitatively talk to them, would you say your inventories are normal, below normal, above average? How would you have us think about that?

Well, again, it depends on what time period you're looking at. Sure. We're living in a dynamic world right now. If you went back to 2020, let's go back and take a look at what happened there. As the pandemic settled in and we got into the fall of 2020 and demand picked up dramatically in that period of time. We found ourselves at, quite frankly, an unsustainably low level of inventory per our demand. And it took us the better part of 2021 to drive that inventory to a much more comfortable level. Now, obviously, part of that was the transportation dilemma that was taking place throughout North America between truck drivers' availability and rolling stock availability. with the pandemic going on and then just the demand pressures that were in place. But through the end of 2021 into the early part of 2022, we did achieve what we felt were comfortable levels of inventory to supply our system. As the year 2022 rolled on, we also anticipated certain end-of-year activities with annual outages through the year and then different marketplace conditions into the third and fourth quarter. What we saw happen, obviously, in the fourth quarter was the fall off in demand, and so we were able to readjust what we then believed should be our new inventory targets, understanding that demand was falling off faster than we had anticipated, but also we had the capacity now with our system improvements and with the Jackson Mill being completed that we had a much higher comfort level that we could supply outside sales and our own box plant needs by running to a lower level, which again was a prudent financial decision for us.

I understand.

Okay. Anything else, George?

A couple more. I'll make them quick. The mix... given our calculations, was quite strong. Is there one thing you would point out or a couple things you'd point out in terms of what allowed you to put up some fairly strong realizations per ton, realizing quarter to quarter things can move around? And the same thing on operations and cost. If there was one or two things you had to point out that allowed you to put up a quarter that you did, what would the two highlights be? And I'll turn it over there. Thank you.

I'll let Tom talk about the mix question, then I can talk about operations.

Yeah, well, you know, our mix was, you know, was solid again, George. You know, of course, you know, we don't, with 18,000-plus customers spread across a lot of different industries, you know, it was a relatively strong mix, and we were pleased with that. You know, and I would just, yeah, go ahead.

So is that more execution then, Tom, as opposed to, you know, any one driver? Is that what you're kind of getting at there?

Yes, yes, I think so. And, you know, Mark will talk a little bit more about, you know, the cost side, but I think we're also seeing some big benefits from all the investments that we've made, especially in our box plants over the past number of years. And, you know, from a cost basis, we were incredibly good and performed very well. You know, to that point, George...

In 2021, with the new organization that we put in place in 2019, and we've been doing all of these capital projects in the mills and box plants, but 2021, we worked on probably 53 of our box plants with various sized capital projects going on from big projects to small projects, but retooling, recapitalizing, converting lines, corrugating operations, significantly improving the the unit labor productivity in these facilities. Same thing in the mills. We've worked for decades, and we continue to do that every day on improving the efficiencies throughout the operations. And so that was another thing. I think if you look at the cumulative benefit, what Tom just said with the projects that we put in place in the box plants, the ongoing efforts that we continue to perform in our mills, we were able to pivot during the latter part of the year and even though we took machines down and idled the Jackson Mill, we were able to really wring out some efficiencies because of how we operate day-to-day and how we understand where these opportunities are. Again, it reflects on the organization and how we look at our business 24 hours a day, seven days a week.

Thanks very much. I'll turn it over.

Okay. Thanks, George. Next question, please.

And our next question comes from Mike Roxland from Truist Securities. Mr. Roxland, please go ahead with your question.

Thanks, Mark, Bob, and Tom for taking my questions. Just on Jackson, how do you plan to operate that mill going forward? Obviously, the first phase is behind you. You've postponed now the second phase to 2024. Given that demand remains challenging, as you've noted, do you operate that convert line? Do you have the flexibility, if demand remains challenging, to operate white paper on it, given still strong white paper markets?

No. The Jackson Mill now is a container board operation. That mill, for all intents and purposes, will not make any white paper ever again. It's truly the work we just completed... in terms of the scope of work that we set out, has achieved everything that the first phase was supposed to. We are now running very efficiently, very effectively. We started up just the week before last, and we ran last week, and we've been producing grade A paper, converting it in our box plants. But we'll be able to take advantage now of the project's cost savings benefit opportunities. The work that was done, and we talked about this last year, would help us on the input cost side of the equation with energy usage, labor-type impacts, fiber yield. And so we will see those benefits. Now, it depends also on how much production we see on the big machine. We're also ramping up the machine as we speak. The machine for the last year and a half from when we converted it in 2021 and ran through 2022, we were producing probably 1,275 tons a day average in that range. Right now, currently, we're somewhere in that 1,300 ton a day range and just getting comfortable with all of the new equipment. Essentially, we have a new paper machine on our hands here, and then the pulp mill has been significantly rebuilt and new OCC plants, so there's a lot of new infrastructure in the mill that we're getting used to running. But we're also going to look at what the opportunity is. The second phase of work that we can choose to do when the timing is right involves 23 new additional high-pressure dryer cans, a new four-set reel at the dry end of the paper machine, and then a new shoe press in the press section to enhance pressing and improve the drying. That will take place when we need the tons. So that's to be determined, but we have the luxury of deciding that when we need to decide that. But the first phase of the work has been done extremely well. We're very pleased with what we see. So now we'll take advantage of what we have in place. And as we've done for many years, we'll ring out these benefits and these efficiencies from day to day here. So I'm pretty optimistic on what we have at Jackson. The number one machine, the smaller machine, is down. It's idle temporarily. It would be available if demand determines that we should run that. And so, again, I think the current times, we will continue to run to demand the entire system. We also have the annual outages coming up starting next month. with our de Ritter and Counts mills. So we have to think about where we need to be with inventory levels and what we have to do to supply our box plant needs. So in that regard, I think Jackson's in a good place, but a lot of opportunity there.

Just quickly, as Jackson started and running, obviously, meeting or exceeding expectations, Have you adjusted your operating posture elsewhere just to account for the demand environment? And then just my last question is, with inputs coming off, as you noted, have you seen any change in behavior from any of your competitors with respect to downtime or production discipline?

You know, I'm not going to talk about our competitors. We're running to demand. We'll continue to run to demand. The Jackson machine is an opportunity for us to provide low-cost, high-quality container board into that southeastern region. But it also means, as you could well assume, the rest of the system will run as we need to run it. But keeping in mind what I just said, that we have our big annual outages coming at our two biggest mills being DeRidder and Counts, Tennessee. So our plans were to run a little bit extra inventory build over the next couple of months to ensure that as we go through these big outages, we will supply our our needs appropriately.

I'll turn it over. Good luck in the balance of the year.

Thanks, Mike. Next question, please.

And our next question comes from Mark Weintraub from Seaport Research Partners. Please go ahead with your question.

Thank you. Following up on George's question to some extent, you had talked about how the capital projects really helped on the cost side. and capital, particularly in the converting operations. You've also talked about how your price mix was really strong in the fourth quarter. And frankly, it's been really good for the last two years. You've just been doing extraordinarily well price mix. Have the capital projects helped you improve the mix in terms of more higher value-added packaging that you're providing your customers, or has your extraordinary performance been kind of just execution also, your focus on smaller, more local accounts?

Hey, Mark, this is Tom. I'll handle that. I mean, keep in mind that we've always said that our customers drive what we do, and especially in the box plants, they drive our capital investments. So we grow with them, and we adapt to whatever they need and what they're looking at, and we try to align ourselves with customers that are going to grow going forward, whether they're small or large. So I think that all of that kind of comes together, and our objectives are not only from a cost standpoint but to satisfy those customers and puts us in a good position to I think, to take advantage of whatever the market opportunities present.

And so sort of getting to the nexus, would you say that the product that you're producing and selling to the customer has changed much, or it's really so that the mix has sweetened that way over the last couple of years, or it's just that you've been very, very successful in getting higher pricing?

Well, I'll give you an example. Our customers are continually having to change to be successful in the marketplace. And if you look at the retail market as an example, it's very different today than what it was even five years ago. And during COVID, a lot of things occurred, especially inside the big box stores, as an example. How do we get the customer back in there? What are they buying? What are they looking for? How do I promote my products and things like that? So there's been a lot of changes, and we assist a lot of our customers in helping make those changes and keeping track of what those trends are.

Okay, great. And then lastly, obviously demand kind of, to me at least, has been astoundingly weak in the last couple of quarters. And you've pointed out the various drivers. Do you have any sense as to how impactful, in particular, say the inventory correction has been in terms of the magnitude of decreases? Are you getting any clarity from customers where we might be in that process? Because it sounds like we're going to continue to see weakness in the first quarter at a minimum. And then, tough question, but Are you getting any indications from your customers as to what to expect for the full year, or is it just not enough visibility?

Okay, let me tackle a couple of these at a time. I think, first of all, let's see if we can help get ourselves calibrated here properly. You know, we're coming out of COVID now, which had a tremendous amount of government stimulus pumped into a market which created, in my opinion, you know, quite a bubble in terms of demand. If you look back historically and you look at box demand historically, it was always pretty, you know, pretty level at that 1% to 2% range per year. And all of a sudden, you know, we're jumping up into now double digits and some other things during the COVID years. So that's why I drew the correlation with what happened in, you know, how we compare now to 2019 and being 6% or maybe slightly above 6%. compared to 2019 being up, clearly some of the errors come out of that bubble, but not all by any means. So it's still a quite healthy demand, in my opinion, when you compare it to pre-COVID. And relative to the inventory correction, yeah, there was a huge inventory correction, and that's still continuing to some extent as a combination of two things. Still, the supply chain is a big issue for our customers, And as you know, China just recently reopened. So there is still an enormous backlog of products waiting to be shipped and just waiting for parts, whether it's in the auto sector or any other consumer product sector. There's quite a big backlog. So we're still waiting for that to correct. I thought it would have been corrected a little bit sooner than what it appears. And that's why we're taking a relatively conservative approach to our forecast for the first quarter, because we really can't predict when that's going to catch up to some extent. But I would say overall, our customers feel pretty good about where they are and about the full year. If we may have a mild recession, we hopefully have a soft landing, those sorts of things. And hopefully the Fed backs off a little bit on the interest rate increases. Those are all, I think, important to our success in 23. And we'll just have to wait and see what happens. But overall, I think when you really compare it to pre-COVID, we're still in a pretty healthy position.

Okay.

Thank you. Next question, please.

And our next question comes from Adam Josephson from KeyBank Capital Markets. Please go ahead with your questions.

Thanks. Good morning, everyone. Hope you're well. Mark, one more on the conversion delay. When did you arrive at that decision and why? You mentioned you're postponing the second phase by a year. Why a year as opposed to, I don't know, six months, nine months, 15 months or just indefinitely and whenever demand gets better, we'll do it as opposed to we're planning to do it a year from now?

You know, Adam, if demand picked up next month and all of a sudden we needed the tons, we could pull the plug on that project and we could do it in the springtime if we wanted to. That's the luxury that we have. We have all the equipment in our hands sitting in the warehouse at the mill. We have all the engineering done. So when we need the tons, we will do that project. And that's the benefit that we have there. So There's no secret formula. There's no magic in terms of what's driving this decision except the marketplace and our customers. And as Tom mentioned a few minutes ago, we grow with our customers' demands, and we're in a good place to do that. But also being mindful of our uses of cash and our capital spending, there's no need to spend the remaining portion of that capital on a project that's not earning any return currently. as opposed to perhaps another use of that cash this year. Sure.

Adam, this is Tom. Let me just add something here real quick, because I think this is really important, and we've been very, very consistent about this. You know, we're not a company that builds it and hopes they will come. You know, hope is not our strategy, has never been our strategy. Our strategies are built around our customers and what they see and what they need. So, you know, that's never going to change. And we see the reality of the marketplace out there. And as we've said many times, there's not a huge open market. The export markets are under some duress right now around the world. There's not an immediate place to go to with these tons. And so we're going to be flexible and adapt to whatever the market conditions are. And our customers appreciate the fact that We will always be there for them, and we'll be prepared, and we're ahead of the curve.

You know, Adam, what Tom just said, and this plays into what we've always done, our competitors typically would have done one big project, gotten the entire project done at one time, and had all of this capacity and had all of this complexity to deal with. We determined two years ago we would do this project in phases, And if you go back decades, go back 20 years, we've always done our projects in multi-phases. Now, there's reasons for that. Besides capital effectiveness and uses of cash and prudent management of our cash, there's also risk mitigation and then growing with our customers' needs. And so it all plays into our historical behavior on how we go about projects and how we grow our business.

Yeah, that makes perfect sense, Mark. Thank you. Tom, just back to the box demand issue. So you said you're running about 6% above 2019, 1Q19 levels on a per day basis. So it sounds like demand is not at particularly depressed levels for you. So when you talk about per day shipments, expecting those to be flattish sequentially, is there a lot of destocking in there that you can see? Or do you think that that's a a reasonably, quote, normalized level of demand for you, if you get my drift?

That's the million-dollar question right there, let me tell you. I'd like to be able to predict it perfectly. Obviously, I can't. As I said, we're taking a pretty conservative approach in the first quarter to our projections. because we really don't know when this destocking is going to end. I think we're clearly past the midpoint in that. I know that for a fact, and I can feel that. But to what extent it goes further, I really can't tell you. But I think even with this conservative approach, my point about comparing to 2019 was it's still pretty solid compared to 2019. just to get us all calibrated as to where we are.

Right. And just to be clear, when you talk to your customers, you don't have a firm sense of whether they've done 90% of whatever destocking they're going to do or 70%. It's just not clear.

Well, I think some of, you know, when we talk to specific customers, I mean, we get kind of a mixed bag is what we get. Some have completely, you know, still have significant inventories and significant issues. And even on their side, they've got a lot of product of their own sitting there in warehouses that was prepared for a COVID environment, and now we're post-COVID, and it's a different environment. So they're making their adjustments as well. And I did mention the supply chain issues that a lot of them are still dealing with.

Yeah, I appreciate that. Just one last one for me on the wood cost issue. Can you Help me with what magnitude of declines you're seeing sequentially and what costs. I appreciate that it's regional, so it varies by mill. But overall, what you're seeing, how much is transport related? How much is weather related? Just any percentage decline you're experiencing. If you can flesh that out, because it's not the most transparent of issues for us.

Hey, Adam, this is Bob. You know, what we said in our release and in our prepared remarks is we were talking about wood prices, not necessarily wood costs. You know, wood costs sequentially is fairly flat because you typically, as you go into the much colder months, your wood yields and so forth aren't as good, so you see some usage going the other way. But, you know, the pricing improvement that we're seeing is, you know, it is – It was a bit drier than normal. The weather cooperated, at least as far as wood supply goes, over the last few months. So we're in a good place with our inventories and the price of that wood. And demand, quite frankly. There has been downtime in the industry, as everyone knows, so demand, and that helps you with price. So wood typically does not jump around a lot, but I do think overall for the year, We think it should be down slightly on a price basis and maybe cost fairly flat for the full year. Got it.

Thanks so much, Bob.

Next question, please. And our next question comes from Gabe Hyde from Wells Fargo. Please go ahead with your question.

Tom, Bob, good morning. I just had one on capital allocation, and I know that you reserve the right to spend as warranted in terms of returns and things like that. But you made the comment that you've come out of a couple years of elevated spend. This year's CapEx is $475. Is it appropriate for us to sort of think about, I don't know, $450 to $500 million in CapEx as normalized? And then on the capital allocation side, Mark, you also said, hey, we want to take a balanced approach. But I can't help but look at history when you guys have been aggressive buyers of your shares. It seemed to be opportune and give you a nice return. So can you just talk a little bit about how you internally think about returns on capital as it relates to projects versus Sherry purchases?

You know, first of all, starting off, for the last five or six years, we've had historically high capital spending to retool primarily our box plant system and then take care of the mill big conversion projects and some of these big efficiency opportunities. But in my prepared statements, I commented that we've made clear to the investment community that this year in particular would be a reset down to more normalized levels of capital coming off those big highs. And so as we look at this year, you know, we're coming down probably $350 million off of last year's $824 million capital spend. And so as we get into the $400 million area, I think for the next couple of years that's going to be the – the range we're into. We've got some work to finish up in the box plants. We've got some big opportunities we're finishing this year as an example. And then when we finish up Jackson, that will be one piece. It's not an extraordinarily large amount of capital, but it will finish up. But I think we're in a very comfortable period of time going forward now that we will be able to maintain our assets in very good condition. We'll be able to continue to take care of customer growth opportunities with capital installations on converting pieces of equipment. We have, obviously, the capacity in our mill system to supply that growth in a very, very cost-effective manner. So I think, again, the new capital trend going forward is significantly lower than it has been, which bodes well, again, for or what we do with the cash and how we deploy cash to provide return to our shareholders. And then in terms of how we look at returns on investment, we've always had probably the highest hurdle rate in the industry in terms of what we set internally as our target of acceptable returns for projects. Now, some of these projects, obviously, uh, you know, you're growing with customers, but you're growing with valuable, you know, high profitable added box business. Uh, but again, I'm not going to give you the, uh, the, you know, the, the, the return targets we set, but you know, you can, you can assume, and we've always said this, that we, we set some very high hurdle rates on our expectations on, uh, on a dollar spent and what we expect for that return. And that reflects itself in the, uh, return on invested capital number. It's not only the highest in the industry, but in manufacturing, industrial sector alone, it ranks amongst the highest.

Does that help you? Okay. It does. It absolutely does. And then maybe the low-hanging fruit, just to make sure we kind of have math calibrated right, if I extrapolate out the comment that you guys made it seems to imply maybe 16 billion square feet for the first quarter or down 4% to 5% or so on a year-over-year basis. I'm assuming that, you know, whatever your experience has been thus far in January went into that calculation, and it's the best estimate in terms of backlogs and what you have, you know, a line to fight to.

Yeah, that's a fair assumption, Gabe.

Thank you.

Good luck. Okay. Thank you. Next question, please.

Our next question comes from Cleve Rueckert from UBS. Please go ahead with your question.

Hey, good morning. Thanks for taking my question. Just a couple of follow-ups. I wanted to just ask more specifically on the work that you're doing at Jackson. I'm wondering, does that change PCA's capability and product offering at all? In other words, are there new market opportunities from that project, or is it more just about optimizing your existing book of business?

Yeah, let Tom take care of that.

Cleve, what it does is it enhances some of our proprietary capabilities. That's how I would put it, and we need that, quite frankly. So that's the big short-term objective, and then obviously we talked about the longer-term objective in Phase 2 being that ability to grow with our customers.

Okay, that makes sense. And then just, you know, a couple of quick follow-ups. Inventories, we talked about them a couple of times. I just explicitly, like, where are inventories relative to where you would like them versus your plan in container board?

Well, we never give absolute numbers. Again, we drop down 60-some-odd thousand tons from the third quarter to the end of the fourth quarter. We're going to build, again – you know, some extra inventory in January, February period to get ready for the outages at the DeRitter Louisiana Mill and the Counts Tennessee Mill. It's not an extraordinary amount of inventory. It's just a little bit of insurance cushion here for making sure that we take care of the box plants. But I think I will say it this way. What we ended the year 2022 with, we're in a good, comfortable range of where we need to be now going forward with what we're seeing in the marketplace demand and in our capabilities now. So this lower inventory certainly meets the current requirements, but with just a little bit extra build to get us through these big outages. You know, annual outages are always an uncertainty. You never know what could happen. Obviously, we're very good at what we do, but... we always plan, try to mitigate some risks, and the risk mitigation comes in a little bit of an insurance policy with some extra inventory on hand to make sure the box plans are well taken care of and are outside customers.

Right. I think that makes a lot of sense, and that's very clear. And then, you know, I know you said the number one machine is down at Jackson and is idled temporarily. I mean, are you expecting to take any other economic downtime in Q1? or is it really more about maintenance in the first quarter?

I'll let you know in April what we did. Okay.

Good luck, guys. Thanks very much.

All right. Next question. Thanks.

Our next question comes from Anthony Petinari from Citi. Please go ahead with your question.

Good morning. Good morning, Anthony. Good morning. Just a couple of follow-ups, Mark or Tom, you know, the second phase of the Jackson conversion that you're postponing from spring, maybe till next year or beyond. Sorry if I missed this. Is there a capacity number that you would, you know, kind of associate with that second phase or any kind of finer point you can put on that?

Well, you know, I'll go by historically what we've said in the last two years, but the ultimate project at Jackson would be, on paper, get us a 2,000-ton-a-day container board machine. It would be one of the largest machines in the Western Hemisphere in terms of productivity. And if you could understand and appreciate our efficiencies, it will not only be one of the largest, most productive virgin craft lander board machines in the Western Hemisphere, but it will be one of the lowest-cost machines. I said we started up last week. We're in that 1,300 ton a day rate right now. Obviously, we will probably push the machine and see what we, you know, it's like having a new toy. We're going to see what it will do for us over the next month or two, what are the limitations, and making sure we haven't missed anything from a process point of view. And if we missed anything, then we have ample time to correct it over the course of the months ahead of us. But ultimately, the final phase will give us the extra drying and the speed on the paper machine to take us from, let's just say we could run 1,500 tons a day right now with the machine we have. The last phase of work gets us that extra 500 tons a day, just to help you with some math.

Okay, that's very helpful. And then just another quick question. You talked about the fiber flexibility projects, and with those done, where does that, put your fiber mix or your ability to maybe flex from Virgin to OCC? And then just maybe a related question. I mean, I think, you know, historically, you've talked about, you know, the customer preference and the benefits of Craftliner. It seems like the price spread between Craftliner and Recycled has kind of moved up a bit or moved out a bit. Are your customers, do you see any specific trend in terms of you know, increased demand for recycled or vice versa, or just kind of how is that dynamic playing out, and what do your capabilities look like now to move between the two?

I'll answer part of that, and I'll let Tom answer part of that. You know, we talked about some of these fiber flexibility projects. The biggest ones at the Wallula Mill, you know, over a two-and-a-half-year period, we added a big OCC plant out there and then did, you know, completely rebuilt the woodyard. and improved our chip handling and chip screening and fiber yield capability in the wood yard. But now Wallula has the ultimate flexibility to push OCC at very high rates if the pricing and availability is there. And then we just finished up the big OCC project at Jackson in conjunction with the rest of the work at the mill. And so Jackson, Counts, DeRidder, Wallula in terms of our liner board mills, primarily liner board, even though Derrida and Jackson and Wallula can make medium, but they have incredible opportunity to flex the amount of OCC, DLK that goes into the furnish depending on pricing and opportunities to take advantage of various fiber sources. And so I think if you did the math, and I don't have this right now, Bob might have this, but we're probably still around 20% in total of our total, you know, makeup of what would be OCC, DLK, and virgin fiber. But we have now improved significantly by mil what we can use at any given time.

I'll just add, Anthony, from a customer point of view, what do our customers want? They want the same thing we want, and that is performance. And one of our advantages, being primarily Virgin, is that we have a lot more opportunity to hit the performance numbers at particular basis weights. that I think give us a distinct advantage so that we can take advantage of all this fiber flexibility that we have, and we can also minimize some chemical use and some other things in that process. So, you know, that's really how we view our, you know, what our output from our mills is performance-based, and I mentioned some proprietary products that we have, and those are all based around performance. Okay, that's very helpful. I'll turn it over.

Thank you. Next question.

And our next question comes from John Dunnigan from Jefferies. Please go ahead with your question.

Hey, guys. It's actually Phil. I guess a quick question. Good morning. Great results and a tough backdrop. I guess my first question is normal cadence of prices moving higher on the container reward side, we kind of have a good feel for how that kind of flows through your P&L. Does that dynamic from a timing perspective accelerate when prices fall? And in this current environment, have you seen more business actually put up for a bid lately?

The answer to that is no. That does not accelerate when prices fall. In fact, it probably is the other way around. And, you know, our feedback from our customers is that, you know, they're not – they haven't been anticipating it, and, you know, they're not – They're interested in being aligned long-term. This is not a short-term play or anything like that, so we haven't seen any uptick in bids or anything like that either.

That's really encouraging. And it's great to see you guys take such a disciplined approach in terms of running your mills. Tom, I think you were talking about the macro. There's a lot unknown right now. Let's assume it's more of a soft landing backdrop. There's a decent amount of capacity coming on the next 12 months. How do you kind of see that playing out for the industry? And then more importantly, how do you kind of see PCA positioned and navigating through that backdrop?

Well, number one is the capacity ads that are coming on really have very little impact for us. And I think you have to look back historically and see what happened in the past when there's been ads of capacity that have come on. I think about the Verso mill up in J. Maine when they converted a machine to Virgin Craft. That did not succeed. That mill is not even open anymore. Midwest Paper was another one. As we've said a long, long time, the open market is very small in the U.S., and so those that add, they're going to have to look outside the United States for the most part. This is a, you know, a very, very integrated market. The open market that does exist is under long-term contracts typically or certain relationships like we have with our, you know, with our outside market buyers. So it's, that has very little impact in my opinion. So when you hear us say, you know, we're running to demand and Demand is what it is, and just to produce additional board for the sake of producing it is basically like a death wish, and it doesn't do you any good. So I hope that gives you a little flavor for where we're coming from.

Yeah, that's great, Collar. Really appreciate it.

Okay, next question, please.

Our next question comes from Kyle White from Deutsche Bank. Please go ahead with your question.

Hey, good morning. Thanks for taking the question. I just wanted to go back to box shipment demand and just wondering if you can give us a little bit more details on what you're seeing by in-market in that business. Any in-markets that are really still working through the de-stocking and a bit weaker that we should really monitor here versus other in-markets that have gotten through this impact already?

Well, the only thing I could say about some of these in-markets, obviously, anybody in durables got a big, big jump during, during those COVID years. And, uh, and they've come down dramatically, you know, uh, consumers only need so much of, you know, some durable goods. And, uh, so that therefore that's, that's come down quite significantly. The other thing that, uh, you know, has impacted us is in the ag business. Uh, Florida is an example with the two hurricanes. I mean, I've wiped out some, some seasonal crops. Uh, the Pacific Northwest has had a lot of difficulty, uh, You've got droughts in some other places. So the ag business took a pretty big hit this year, but that will definitely bounce back, and that should bounce back in pretty good shape. Other than that, across all of our segments and sectors, there's all sorts of puts and takes, and some are in better shape than others, and that's kind of the normal seasonal activity that takes place anyway.

Got it. And then you're fairly active in sharing purchases this past quarter. Can you just talk about your thought process there, and should we expect you to continue to be active throughout 2023, given your healthy balance sheet, and maybe just how you weigh those decisions versus any potential acquisitions?

Again, we'll be opportunistic, as we've always been, looking at these opportunities, whether it's a great acquisition came along and it made sense to us. We have the ability and the flexibility to take advantage of that type of use of cash. Same thing with share repurchase and dividends will continue to be something we keep in front of us and look at, you know, how do we provide the best return for our shareholders and also at the same time be in a position to take care of our customer needs. So again, as I said in my prepared comments, as we go forward, we're in a great position to maintain the flexibility with our uses of cash and maintain a very strong balance sheet. And so none of that's changed. It's just part of our norm every day.

Sounds good. I'll turn it over.

Okay. I think we might have time for one more question, please.

And our final question today will come from Mark Weintraub. from Seaport Research Partners. Please go ahead with your question.

When he asked about the cadence of how price adjustments flow through the P&L, I think you suggested that it was not faster on the way down than it is on the way up. So I guess that kind of begs the question. So of the $50 that has already been reflected by PPW, is a significant share of that anticipated to already be showing up in the box prices in the first quarter, or is a meaningful portion of that yet to come in the second quarter if we were just to assume prices were in PPW flat from here?

Well, Mark, as you can well imagine, I mean, the $50 has come in increments. Those increments, you know, I mean, may or may not hit a rate at which the price would change. based on the contracts. All these contracts are very different and have very different timing mechanisms. So, you know, that's why I said it's, there's no, you can't say that it's going to go down faster than it went up or vice versa. I mean, it's just, it is what it is. And as these things cycle in, they'll cycle in, you know, uniquely, we've got, we've got some customers who have, who have even asked us just to hold off at the moment because, you know, they're not, they're not confident of what may be taking place in reality. So we'll just have to, you know, I mean, as I said, you know, it just factors in and meters in a little differently than I'd say on the way up just because of the small incremental moves that take place.

And is there any color you can help us with in terms of the proportion of based on, you know, what you're seeing now, you would think would show up in the first quarter versus what might slide into the second, recognizing situations can change?

Well, I'll let Bob handle that one. Hey, Mark, Bob. So, you know, I would use sort of a, you know, as Tom was indicating, based on how these things, you know, flow through, and there's obviously different timing mechanisms and so forth. But, however, I'd say, you know, roughly a third or so you would see in the first, and then... you know, two-thirds of what's happened so far showing up in the second quarter. Okay.

Thanks very much. Thanks, Mark. Jamie, I think that concludes our questions.

Sir, that does conclude today's Q&A session. Do you have any closing comments?

I'd like to thank everybody for taking the time and look forward to talking with you, with Tom and Bob and I in the April call. Take care. Have a good day. Bye-bye.

Ladies and gentlemen, with that, we'll conclude today's conference call and presentation. We do thank you for joining. You may now disconnect your lines.