Resolute Forest Products Inc.

At this time, I would like to welcome everyone to Resolute Forest Products' fourth quarter 2021 earnings release call. At this time, all participants are in a listen-only mode. After the speaker's remarks, there will be a question and answer session. I would now like to turn the call over to Marianne Limoges, Treasurer and Vice President of Investor Relations. Please go ahead.

Thank you, Julienne. Good morning and welcome to Resolute's fourth quarter earnings call. Today we'll hear from Rémi Lalonde, President and Chief Executive Officer, and Sylvain Gérard, Senior Vice President and Chief Financial Officer. You can follow along with the slides for today's presentation by logging on to the webcast using the link in the presentation and webcast page under the Investor Relations section of our website, and you can download the slides. Today's presentation will include non-U.S. GAAP financial information. Our press release and the appendix to the slides include a reconciliation of non-GAAP information to U.S. GAAP financial measures. We will also make forward-looking statements. Forward-looking information is based on our current assumptions, beliefs, and expectations, all of which involve a number of business risks and uncertainties and can change as conditions do. Please review the cautionary statements in our press release and on slide two of today's presentation. I will turn the call over to Rémy.

Thank you, Marianne. Good morning and thank you for joining us. We just finished an exceptional year in which we generated $921 million of adjusted EBITDA, allowing us to reduce debt, invest in our business, and return cash to shareholders. At $583 million better than 2020, the improvement reflects record market prices in wood products and higher prices in pulp and paper, offset by higher manufacturing costs, including fiber, and the impact of the stronger Canadian dollar. Rising interest rates helped to reduce our net pension and other post-retirement benefit deficit by over $400 million this year, further strengthening our balance sheet and credit profile. For the quarter, we reported $111 million of adjusted EBITDA compared to $144 in the third quarter. Our fourth quarter results reflect higher realized prices in most of our segments, especially wood products, but also cost pressures across the business. By segment, we reported adjusted EBITDA of $92 million for wood products, up by 17 million, 25 million in market pulp, down by 27, and negative $1 million for tissue, up by three, and $12 million for paper, down by 19. As the Omicron wave passes, the weather softens, and knots in the logistics system loosen, we should see a recalibration toward a more normal business environment. It could, however, take several months, especially for the transportation network, and it is unclear how much of the input cost inflation will remain. In the case of pulp and paper in particular, we anticipate that pricing improvements will mitigate some of these effects. Let's review quarterly performance by segment, beginning with wood products. Fourth quarter US housing starts averaged 1.6 million on a seasonally adjusted annual basis, up by 5% compared to the previous quarter, and 4% against the same period last year. After coming off the 2021 peak and troughing at above trend levels early in the fourth quarter, benchmark prices increased toward the end of the year, driven by strong demand from the repair and remodeling sector and supportive market fundamentals. As a result, our average transaction price rose by $39 per thousand board feet compared to the third quarter to $612. Shipments rose by 28 million board feet during the quarter, mostly reflecting better productivity. In the year, We improved shipments by 74 million board feet, including the additional volume of operations at the restarted Eldorado and Ignace sawmills. Although we're seeing supply chain delays and tight contractor availability, we continue to make good progress with the $50 million of organic growth projects we announced last summer. The projects were designed to generate additional value from the wood products segment across market cycles by improving efficiency and productivity and adding about 60 million board feet of run rate capacity at completion. We expect to complete most of the work by the end of 2022. With benchmark lumber prices starting the year strong, we expect that the combination of encouraging underlying fundamentals, higher cost structures, and higher softwood lumber duty rates will contribute to above trend prices for some time. Global demand for chemical market pulp in 2021 fell by 3% through November compared to 2020, with demand for hardwood and softwood falling around 4% each. This mostly reflects a drop in demand in China, down by 9% through November, partly as a result of destocking and energy-related end-user downtime, as well as global logistics issues. Our average transaction price in the quarter slipped by $20 per metric ton. Shipments fell by 29,000 metric tons as a result of limited rail and truck availability and lower productivity, mostly at the Calhoun mill. Finished goods inventory was 59,000 metric tons at year end, up by 7,000 metric tons due to logistics challenges. EBITDA in the pulp segment was $25 million for the quarter, including a loss of $4 million at Calhoun. Looking forward, we expect realized transaction prices to improve in the first quarter, largely due to limited availability of supply. Through November, U.S. at-home tissue demand fell by 8% compared to 2020 as a result of consumer inventory rebalancing. Demand in the away-from-home market improved by 5%, but it is still well below pre-pandemic levels. We faced headwinds in 2021, including $6 million for accumulated market downtime due to lower demand and pandemic-related logistics and labor challenges, $6 million associated with the ramp-up of our Hagerstown converting facility, and $5 million for a process improvement program. In the fourth quarter, our realized transaction price improved by $160 per short ton, or 9%, due to better product mix. Our shipments also rose by 1,000 short tons on better market conditions. We expect the retail market to continue its recovery and the away from home market to remain sluggish for some time. Following the indefinite idling of pulp and paper operations at Calhoun, And as markets continue to stabilize in tissue, we are reviewing strategic options for the business. The secular demand decline for North American newsprint continued in 2021, down by 7%, but uncoated mechanical demand increased by 5%. Due to industry capacity adjustments, the shipment to capacity ratio for North American newsprint increased to 93% compared to 84% last year, An uncoated mechanical paper increased to 87 from 74 in 2021. The average transaction price rose by $29 per metric ton, or 4%, compared to Q4, with increases in all grades. But shipment slipped by 10,000 metric tons and inventory rose as a result of limited rail and truck availability. EBITDA in the paper segment was $12 million for the quarter, including a loss of $11 million at Calhoun. The higher operating rates and the price recovery in printing and writing paper markets, which should continue, support our cash generation strategy for the segment. I will now ask Sylvain to please review our financial performance.

Thank you, Rémi. We reported net income of $37 million in the fourth quarter, or 48 cents per share, excluding special items. This compares to net income excluding special items of $67 million or $0.84 per share in the previous quarter and a net income excluding special items of $45 million or $0.55 per share in the same period last year. Special items in the fourth quarter are almost all related to the $158 million of non-cash charges with the indefinite idling of the Calhoun mill. including $124 million for impairment and $34 million in inventory write-down and other asset write-offs, as well as $13 million in accruals for cash closure costs. In 2022, we anticipate disbursements of approximately $45 million related to the Calhoun-Paulton paper cash closure costs, including the $13 million accrued in Q4. Special items also include $7 million of equity income mostly from our iJoyce partnership in the fourth quarter. Total sales in Q4 were $834 million, up by $17 million compared to the third quarter, reflecting higher realized prices for wood products, paper, and tissue, along with higher shipments of wood products. Manufacturing costs rose by $44 million due to higher energy prices, lower internal power generation, and higher other input costs. We also recorded higher freight costs and higher SG&A due to share-based compensation provision. Compared to the previous quarter, the all-in delivered costs for the wood product segment rose by $14 per thousand board feet, or 3%, mainly due to higher maintenance as well as staffing and labor expenses. EBITDA in this segment improved by $17 million to $92 million. The delivered cost for market pulp rose by $67 per metric ton, or 10%, reflecting higher fiber and energy costs, as well as lower internal power generation as a result of a turbine failure at the Saint-Félicien mill. EBITDA in this segment was $25 million. We do not expect the turbine to come back online until the end of Q2, excluding any potential insurance recovery This represents approximately $13 million of lost contribution and additional cost in the first half of 2022. The delivered cost in tissue increased by $37 per short ton, or 2%, partly due to higher freight costs. EBITDA for this segment improved by $3 million to negative $1 million. Papers delivered cost increased by $78 per metric ton, or 12%. due to higher energy prices and unfavorable maintenance and fiber costs, as well as lower internal power generation due to the low water levels at Hydro-Segne. EBITDA for the segment was $12 million. In 2021, KALU negatively impacted our segment EBITDA by $36 million in paper and $17 million in pulp. We anticipate an improvement in overall run rate EBITDA of approximately $25 to $30 million as a result of the indefinite idling of pulp and paper operations at Calhoun, once fully completed. This reflects approximately $15 million in loss integration benefit in the tissue segment and approximately $5 million for ongoing costs associated with closed site maintenance. We generated $68 million of cash from operating activities in the fourth quarter, and $648 million for the year. Our cash position closed at $112 million at year end with liquidity at $953 million and net debt at $190 million. We repurchased 1.3 million shares of our common stock in the quarter. For the year, we spent $48 million to repurchase 4.6 million shares or 6% of the total outstanding. After repurchasing 15% of our outstanding shares and exhausting the program we launched in March of 2020, we announced a new program to repurchase up to $100 million or 10 million of our common shares, whichever comes first. In Q4, we announced the refinancing of our ABL credit facility, extending the maturity through December 2026 and improving key terms and conditions. The facility includes an ESG module, with targets to be agreed upon, which will affect pricing. We're among the first companies in our industry to have an ESG component in our financing agreements. We made $112 million in net capital expenditures in the year. For 2022, we expect net capital investments of approximately $130 million, including the lumber projects mentioned earlier by Rémy. We made deposits of $26 million for softwood lumber duties in the quarter, bringing our total deposits to $397 million. This is recorded in other assets on the balance sheet. During the fourth quarter, we contributed $22 million to pension plans and made OPEB payments of $3 million. We made $104 million of pension contributions in all of 2021 and $11 million of OPEB payments. Our balance sheet net pension and OPEB liability fell by $411 million from 2020 year-end to below $1.2 billion due to an increase in the applicable U.S. GAAP discount rate and strong investment returns, partly offset by a stronger Canadian dollar. For the same reasons, our gross funding deficit now stands at $464 million at year-end, an improvement of $193 million compared to last year. Accordingly, we expect pension contribution to fall by roughly $9 million in 2022 to approximately $95 million plus 11 million of OPEB. I'll now pass it back to Rémi.

Thank you, Sylvain. Looking back on 2021, I'm particularly proud of our employees for raising the bar and setting a new standard for safety performance with an annual OSHA incident rate of 0.47. Our long-term ambition is to continue to improve until we reach zero injury, but this is an impressive success along the way, despite the pandemic and other challenges, and I wholeheartedly applaud our employees for our collective achievement. In addition to receiving a score of A- from CDP for our forest disclosures, the highest granted in this category for North American-based forest products companies, I'm pleased to report that we recently made a commitment to build on our existing GHG reduction target by setting one in line with the Science-Based Targets initiative.

This concludes our formal presentation. Operator, we'll now open the call for questions.

Thank you. If you would like to ask a question, please press star followed by the number 1 on your telephone keypad. Your first question will come from Hamir Patel from CIBC Capital Markets. Please go ahead. Your line is open.

Hi. Good morning. Remy, you mentioned you're reviewing strategic options for the tissue segment. Could you just give us a sense as to how far along you are in that process and when you'd expect it to conclude?

Yeah, good morning, Kamir. Thanks for the question. So, I mean, at the end of the day, we've received a number of inquiries after our decision to indefinitely idle pulp and paper operations at Calhoun. So what we thought was it would be important to share our perspective with investors a little bit. You know, my own view is that the private label market in North America needs some consolidation. I think the business rationale for Resolute and Tissue to downstream integrate still makes some sense. But we have struggled with execution. So where we sit now is we're kind of at a crossroads with the business, having now idled pulp and paper operations at Calhoun. And the question is exactly what role we can play in the future with the tissue business. So I don't know what the answer is, Hamir, but I know we have to ask ourselves the question.

Sure enough. And, Remy, just looking at pricing across the business, I know there's been a lot of paper and pulp increases announced in recent months. Can you help us gauge versus what was already reflected in Q4 and just given the lag in realizations in the wood products business, based on pricing that has been announced to date, how much pricing upside across the business would you see going into Q1 versus Q4?

As far as the wood products business goes, Hamir, and you're right, I mean, it is a bit of a volatile environment with the COVID wave, logistics constraints, and the cold weather. You know, we think there's an uptick in Q1 just based on the order book that is, you know, interesting. As far as the other businesses go, as I mentioned, there is some momentum, especially in paper, and also a bit of an uptick in pulp that we're expecting, too.

Okay, great. Thanks, Remy. That's all I had. I'll turn it over.

Again, if you'd like to ask a question, please press star followed by the number one on your telephone keypad. Your next question comes from Sean Stewart from TD Securities. Please go ahead. Your line is open.

Thank you. Good morning, everyone. Good morning. I want to just make sure I heard the numbers correctly with respect to the Calhoun drag on earnings this quarter. I think you said it was an $11 million headwind for paper. If you mentioned it for pulp, I missed it. Do you have that number for the pulp segment as well?

Yeah, that's right, Sean. So it's $11 million for paper. and $4 million for bulk for a total of $50 million in the quarter and $53 million in the year. Got it.

Thanks for that. And then can you give us a sense of losing the integration for tissue? What's the counter for that segment in terms of an earnings impact?

Well, we expect that for the whole business, the step up in EBITDA will be about $25 to $30 million. So there is a $15 million loss as a result of the integration benefit that we won't have anymore. Essentially, the conclusion is that we were not able to improve operations of pulp and paper enough. to continue to sustain the losses in pulp and paper in order to deliver that integration benefit. So we're going to lose the integration benefit, but we're eliminating the risk of continued losses in pulp and paper, which, as we said, for 2021 was $53 million. So when you add all that up, that's how we get to the plus 25 to 30 million. Okay.

Thanks for that. Question on cost inflation. I think the wording you used was you expect pulp and paper price increases and presumably higher average lumber prices to mitigate the cost pressure you're seeing early in the year. Can you give us a sense of how some of those specific cost items are trending early in the year versus what you might have seen in the fourth quarter? Any acceleration, deceleration, depending on the bucket, any context you can give there?

Yeah, no, fair enough. Maybe what I'll do, Sean, just to set the context, I mean, the cost inflation in the quarter was a big number. It was $62 million. When you peel it back, there was $12 million of that that is the mark-to-market of variable compensation, so that's strictly a function of the higher stock price. So that's $12 million for that. There's $11 million for lower internal power generation, which is you know, the unfortunate incident with the turbine in Saint-Petit-Saint and low water levels at Hydro Saguenay. And then there was market-wide inflation for, you know, energy prices. It's $12 million. And then also freight, fiber, labor, and maintenance. So it's kind of across the board. What we see heading into the first quarter is The price of natural gas, which is what drives most of our higher costs around energy, has been trending lower, and so that's favorable for us. As far as everything else, freight, I think we're kind of in the peak of the freight challenges right now, and we're hoping, as I mentioned, that that will start to loosen up in the next couple weeks. But that's kind of hard to gauge. So I'm expecting lower energy prices in the first quarter, but we're going to pay more for freight. And then labor is just an ongoing challenge. Obviously, there's a shortage of workers. The pandemic is also taking its toll in terms of labor availability. So I think quarter over quarter, our costs should come down. and prices should come up, but the order of magnitude is a bit hard to gauge. You probably have a better crystal ball than I do as far as the prices of natural gas. I don't know about that, but I appreciate the context.

That's all I have. Thanks, everyone. Thanks, Sean.

Your next question comes from Paul Quinn from RBC Capital Markets. Please go ahead. Your line is open.

Yeah, thanks a lot. Good morning. Good morning, Paul. Good morning. Jumping around a bit with other calls, but just trying to understand this San Feliciano turbine issue. When did the turbine go down? What's your insurance on that? I think you said you expected to come up at the end of Q2 with a $13 million headwind in the first half of the year. Is that right?

Yes. Just on the operational, it went down. Late in the third quarter, as we were preparing for our annual outage, there was an issue with the logic as we were spooling it down into the outage, and it ran itself into reverse. And by doing that, it damaged some of the rotor blades. And the rotor blades, as you might imagine, are highly tuned, machined, high-grade steel. and so we're in the process of working with the manufacturer to forge new blades. But maybe I'll let Sylvain speak to the insurance component.

Yeah, so basically we have, there's different deductibles and caps that apply to this. There's obviously cost reimbursement, which should be fine, but as far as the business interruption, we won't recover the entire amounts. But when we have lost revenues, so to speak, So we're working with the insurers at the moment. When you look at 2022, we should recover a decent amount of what's happening in 2022 because we've already lost some in 2021 that will cover part of the deductibles we have. So that's where we're heading. It's too early to give a number on that, how much we'll be able to offset the $13 million, but we should get some recoveries for sure.

Okay, and then just over on wood products, I mean, you guys are currently paying the highest duties of any Canadian company, almost at 30%, and AR3 came out and it comes down at 20%. Any way that you guys can reduce that further in subsequent reviews?

Well, I guess it's worthy of comment, Paul. The reason that we're higher than everybody else is because the Department of Commerce is delaying the implementation of a favorable ruling that Canada received at the WTO in August of 2020, in which the WTO ruled that the Department of Commerce's interpretation of its rules as far as Quebec's market-based system goes was inconsistent with its international obligations. So we're bearing the burden effectively of that particular decision. What we can do about it is, you know, either ship less to the U.S., more in Canada, which is a smaller market. So that's, you know, a business decision that we follow on a day-to-day basis. Otherwise, it's about working with the industry and with government on the litigation angle. As you know, there's a set of panels coming up in a couple months under the new NAFTA. And then just otherwise trying to participate in discussions and trying to generate some political will so that we can see this issue put behind us.

Okay, thanks for that. And just over on pulp, you know, through the fall we saw prices decreasing and then obviously some issues on weather and supply concerns, you know, sort of led to reversal. Just wondering how you look at pulp markets right now and how sustainable is this recent rally in pulp prices?

Yeah, no, so you're right. And what we were saying, Paul, in the third and fourth quarter was You know, end user downtime in China and destocking was putting downward pressure on prices. And then that has, as you point out, shifted a little bit. So what we're seeing looking ahead of us, Paul, is that prices should come up in Q1, largely as a result of supply availability. We know of a couple of producers who've reported supply disruptions on operational issues. We know there's a global logistics challenge. There's been some local issues, including BC floods that has slowed some things back. We've heard of also delayed capacity additions out of Latin America, and then other companies who were just unfortunately shutting down as a result of labor discussions. All that is essentially limiting the availability of supply, and demand remains, I think, encouraging. So at the end of the day, it's going to depend at what pace these factors come together, so it's hard to see. What we see in the short term, though, is an uptick here in the first quarter. But it's important to point out that for the long term, We're very confident with the pulp assets that we have, especially around Canadian softwood, and we're very confident that there's always going to be a need for high-quality softwood pulp.

All right. That's all I had. Best of luck. Thanks. Thanks, Paul. Thank you.

We have no further questions in queue. Marianne Limoges, I turn the call back over to you.

Yes, thank you. Thank you, everyone, for joining us today, and we look forward to talking to you in the next quarter. Have a great day.

Ladies and gentlemen, this concludes today's conference call. You may now disconnect.