Bill McCarthy - VP, Financial Analysis and IR John O'Donnell - President and CEO Bonnie Lind - SVP, CFO and Treasurer.

Dan Jacome - Sidoti & Co..

Good morning. My name is Leah and I will be your conference operator today. At this time, I would like to welcome everyone to the Neenah Paper Third Quarter 2015 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' prepared remarks there will be a question-and-answer session.

[Operator instructions]. As a reminder, ladies and gentlemen, this conference is being recorded today, November 5, 2015. Thank you. I will now turn the call over to Mr. Bill McCarthy, Vice President, Financial Analysis and Investor Relations. Please go ahead, Mr. McCarthy..

Okay, thank you, and good morning, everyone. We announced our third quarter earnings in a press release yesterday afternoon, and in our call today John O'Donnell, our Chief Executive Officer and Bonnie Lind, our Chief Financial Officer, will discuss recent activities and results in detail.

It has been quite a busy quarter so I'll start off with a few reminders before turning things over to John and Bonnie. First, we acquired FiberMark on August 1. One of the exciting things about this acquisition was that it touches each of our segments.

Reported figures for both technical products and fine paper and packaging, therefore, each include two months' results from FiberMark, and this also changed the composition of our other segment. The second major change was the sale of our non-woven wallcover mill in Lahnstein, Germany on October 31.

Results for Lahnstein for both 2014 and 2015 have been reclassified as discontinued operations and removed from consolidated results in our income statement. In the third quarter, we booked an estimated loss in discontinued operations of $7 million on the sale, and reported Lahnstein's assets under assets held for sale on the balance sheet.

So while there's been a number of strategic activities, our heritage businesses continue to perform well. Adjusted operating income of $29 million grew 21%, and adjusted earnings-per-share increased 10% to $0.89.

Adjusted earnings excluded costs related to acquisitions and restructuring that totaled $2.9 million or $0.11 per share this year, and $900,000 or $0.03 per share a year ago. Adjusted figures are non-GAAP measures used to aid in comparability between periods. These are reconciled to corresponding GAAP numbers in our press release.

GAAP earnings per share were $0.78 in both periods as improvements in our business offset $2 million of higher pretax acquisition and restructuring costs. Finally, I'll remind everyone that our conference today will include forward-looking statements.

Risks and uncertainties that could cause actual results to differ from these statements are outlined in our SEC filings and in the Safe Harbor disclaimer on our website. With that, I'd like to turn things over to John..

Thank you. Good morning. In the third quarter, our teams once again delivered record results, while at the same time successfully acting on numerous strategic activities that are helping to reshape Neenah. I know there's always a risk of these earnings calls getting a bit repetitive, but I never get tired of saying that.

I'll begin with some color on progress supporting our strategies before turning things over to Bonnie to cover quarterly financial results. I'll then wrap up with an update on our latest acquisition. Let me start in technical products with our growing filtration business, which is anchored by transportation filtration.

Sales of transportation filtration in Euros grew 7%, in line with our 10-year trend as we maintain a leadership position in our important base in Europe, while growing our presence in other geographies.

With this strong growth trend we will have consumed all of our capacity in Germany by the end of 2016, and are on track with a capital efficient investment to add both base paper and solvent saturation capacity in the US, specifically Wisconsin.

These assets will start up as planned in early 2017 and will ensure we meet growing global demand for our products at key customers. To-date we've been very pleased with the support and commitment we received from customers regarding this significant growth investment. Sales of other filtration products were up 13%.

These products support growing end markets such as water, industrial catalytic conversion, and beverage.

As just one illustration of our commitment to the continued growth of our filtration niche businesses, we recently made a small but high return investment to increase the capacity of one of our machines in the United States to support the double-digit global growth of a major glass fiber customer.

Another strategic priority is to offset the growth challenges of fine paper by investing in the capabilities that will enable us to win in higher growth areas like premium packaging. In premium fine papers, we're clear market leaders with well-known brands, high-quality papers and market expertise.

Our team is continuing to find ways to outperform market with new products, distribution channels and other revenue streams. Two key areas of focus have been to expand our market reach through the retail channel and to continue to drive growth in premium packaging.

Sales through the retail channel represent about 20% of fine paper and packaging, and as a result of new distribution and strong retail activity, are up 16% in the quarter.

The vast majority of these products are branded and our consumer team has done a great job increasing our importance at major retailers like Walmart and Staples, while also expanding our presence in sales direct to consumers through Amazon.

Our heritage packaging business, focused predominantly on the labels, continues to perform very well, up almost 20% in the quarter. With the acquisition we have introduced future growth opportunities by dramatically expanding our capabilities and presence in premium packaging.

We've added coating and finishing capabilities that allow us to produce a wider variety of weights, textures and colors, while at the same time broadening our offerings in areas like box wrap and folding cartons.

Sales in premium packaging are approaching 15% of total fine paper and packaging, and represent just under 15% share of a fragmented $450 million addressable market. This gives us a nice runway for growth, enabling packaging to become an even larger portion of our business in the future.

As a Company, we recognize that if you actively manage the entire portfolio acquisitions, like the purchases of FiberMark and Crane Filtration the last two years, can add a tremendous amount of value and growth opportunity.

However, we also recognize that another way to drive value can be through divestitures when a business no longer can meet strategic or financial return criteria. This was the case with our business at Lahnstein.

Lahnstein faced a challenging non-woven wallcover market, and wasn't positioned well enough to defend and grow their share in the long-term against larger and lower-cost competitors. While the Company had annual sales of $50 million, its operating income and return on capital were close to zero.

With no synergies or significant linkage to other Neenah operations, divesting allows us to focus our resources and attention in areas that can deliver desired returns. The sale represented an economic value of over $25 million, based on cash received at $9 million and a transfer of $20 million of pension liabilities.

Divesting a business can be as difficult as acquiring one. While pleased with the outcome, if not for the obvious benefit of higher margins and improved returns, it would be hard to find a reduction in sales and gratifying use of resources.

Amidst all these changes, as we reshape the Company, what has guided our actions and produced our good results has not changed. Our strategy is focused on growing in premium niche markets. We deploy capital based on optimizing return on capital. We value the financial strength and flexibility of a strong balance sheet.

And we remain committed to return cash to shareholders through an attractive dividend. When an organization demonstrates it can balance these priorities, good things happen.

I am proud of how our teams have demonstrated the ability and the capacity to successfully execute on a variety of fronts, while embodying our culture of personal accountability, a high-level of support for each other, and an unrelenting desire to deliver winning results.

With that, I'll turn things over to Bonnie to talk through financial results for the third quarter..

Thank you, John. Third quarter financial results were impressive, as our teams have improved net selling prices, grown in higher value areas and managed costs, to deliver strong bottom-line improvement, along with significant free cash flow. In technical products, sales of $109 million were up 3%.

Adjusting for offsetting impacts of $10 million from currency translation and acquired revenues, organic sales and a constant currency grew 2%. The increase reflected volume-based growth in filtration and performance labels and improved selling prices, partly offset by weaker results in backings.

Backings compete in global markets, and economic slowdowns and a strong US dollar have resulted in short-term challenges. FiberMark broadened our backings product base and expanding our capabilities, and we remain confident about the opportunities this brings to grow share and expand into adjacent markets.

Operating income after excluding acquisitions and restructuring costs of around $1 million in both years was $12.1 million, up 13%. Benefits from higher selling prices, lower input costs and the acquisition offset the negative effects of currency translation and added cost due to the timing of our annual filtration shutdown in Germany.

This down occurred in fourth quarter last year, so costs this year were approximately $1 million higher in 2015 for added maintenance and downtime. Turning to fine paper and packaging, sales were $117 million, up 7% from last year.

The increase was due to acquired sales of approximately $8 million with organic sales essentially flat as double-digit increases in sales of packaging and retail were offset by a decline in commercial printing grade, particularly lower margin non-branded orders that are driven more by price.

Excluding acquisition costs of $900,000 adjusted operating income was $18.1 million, an all-time record. This resulted from higher selling prices and a more profitable mix, as well as benefits from an improved manufacturing cost position, including lower input prices for pulp and energy.

Consolidated selling general and administrative expense was $21.2 million, compared with $18.7 million last year. In 2014, we averaged $21 million per quarter. Going forward, quarterly SG&A is expected be closer to $24 million. While dollar spending is higher, we expect our SG&A efficiency to improve as we grow and leverage existing infrastructure.

Unallocated corporate costs in our other segment were $3.6 million, up from $3.2 million last year, mostly due to restructuring costs. Also included in our other segment now are certain nonstrategic grades that came with the acquisition. These include date and diary papers, covers for presentation items like photo and year books, and other grades.

Sales were $5.8 million in the quarter, with adjusted operating income of $100,000. About one-third of the sales were products made at the Fitchburg, Massachusetts mill, which we plan to close by year end.

Net interest expense of $2.9 million increased slightly from last year as we borrowed $43 million on our existing revolving credit line to help finance the acquisition. This resulted in incremental annual interest expense of $1 million. As of September 30, total debt was $246 million and we're back to the more normal $5 million of cash on hand.

Our debt to EBITDA ratio is still below two times, and we have more than $125 million of available borrowing capacity on our existing credit facility. Our effective tax rate was 37% in the most recent quarter, and 29% in the third quarter of last year.

The increase was primarily due to adjustments related to research and development credits in both years. Our year-to-date and expected full-year rate in 2015 is 35%. There is an opportunity to earn additional credits, but this is dependent upon Congress renewing the tax law.

Our tax rate will likely be closer to 37% in 2016 since following the acquisition more of our income will be generated in the US with its high tax rate. Our cash tax rate remains below 25% due to benefits of prior year R&D credits that we expect to consume over the next 2 to 3 years.

With the sale of Lahnstein and the addition of FiberMark, our pension liabilities declined by a net $10 million. The FiberMark defined benefit plan had been fully frozen in 2009 so, like our heritage US plan, neither plan requires any substantial cash contribution.

Cash from operations was $35 million in the quarter, up significantly from $21 million last year, due to reductions in working capital, higher cash earnings, and reduced pension contributions. Year-to-date, cash from ops of $80 million is up $7 million versus last year.

Capital spending was $13 million compared with $6 million last year with higher spending due to the North American Transportation Filtration project. Spending is expected to double in the fourth quarter as we accelerate work on this project. For 2015, consolidated capital spending is expected to be approximately $15 million or 5% of annualized sales.

I will wrap up with a few outlook items. We have mentioned the fourth quarters are typically our lowest due to seasonality with yearend inventory destocking at customers and corresponding reduced operating schedules. We expect this year to follow normal seasonal patterns.

At recent levels of around 110, the euro was 12% below last year's fourth quarter rate of 125. As a reminder, every $0.10 change impacts our topline by $25 million per year.

Based on today's rates, fourth quarter sales would be $10 million lower than prior year due to the currency translation, with a corresponding bottom-line impact of $1 million to $2 million. Forecasts are for further weakening of the euro in 2016. Lower input costs have offset currency impacts so far this year.

Our reduced benefits are declining as input costs for many non-pulp items have been rising while adjusters, which decrease our selling prices, have started to kick in. Before I finish, I thought it might be helpful to summarize the impact of the recent reporting changes that we've made.

When we acquired FiberMark, we said it had annual EBITDA of $18 million with EBIT up $8 million, about a 5% operating margin.

Recognizing that we would add substantial value from synergies and accelerated growth in areas like premium packaging, we also indicated sales and margins would be impacted by seasonality with the lower levels in the second half of the year due to downtime and other items.

Therefore, FiberMark's contribution to the bottom line this year will be, as expected, relatively minor. In the third quarter, FiberMark added $24 million of sales. Looking at 2015 as a starting point, we reported just over $900 million in sales.

Adjusting for acquisitions, a weaker euro and the sale of Lahnstein, sales would have been around $975 million, split among technical products at $470 million, fine paper and packaging, $485 million, and other at $20 million.

Going forward, we will have much less ability to segregate FiberMark results as it gets integrated, and it will not be reported separately. With these changes, we're a larger company with an increased presence in targeted categories and well positioned to compete effectively in our markets.

With our strong balance sheet we have the flexibility to act on opportunities that drive value. And we'll continue to return cash to shareholders through an attractive dividend. With that, I'll turn things back to you, John..

Thanks, Bonnie. I will start with some observations on the recent acquisition and integration efforts. As we have said, FiberMark brought a wide array of downstream coating and finishing capabilities that, combined with Neenah's market expertise and customer access, provide exciting growth opportunities and meaningful synergies.

Nothing we've seen in the first 90 days has changed our outlook. We've been very pleased with the well-maintained assets, operational know-how and breadth of capabilities in the facilities. Excluding Fitchburg, we've gained six plants, four of which have coating and finishing operations, and two which manufacture base papers.

We're sharing best practices and looking at ways to optimize our combined footprint and cost structure. We announced plans to close the Fitchburg mill, small operation with 40 employees, that represented a high-cost, excess capacity for products largely not core to our business.

We expect sales to decline around $10 million due to this, but profits will be improved with a consolidated footprint. All costs and benefits related to the closure were included in the original integration plans.

From a market perspective, as might be expected with a company held for sale for a long time, there have been limited marketing investments and a heightened customer uncertainty.

We're in the process of meeting with our customers, and our sales and marketing teams have worked expeditiously together to go to market with new marketing material showing off our expanded reach and cross-selling opportunities. We previously communicated expected acquisition-related costs of $5 million this year.

Through September, we've spent $2 million and expect to incur most of the remaining amount in the fourth quarter, including costs related to Fitchburg, with minimal remaining in 2016. We also communicated targeted annual synergies of $6 million, with $2 million to $3 million to be realized in 2016.

Our first priority in delivering these synergies was to get teams working together and aligned activities, so we moved quickly in the first 30 to 60 days to implement changes in the organization that utilized the most talented people from both companies.

This began to unlock some SG&A synergies and we are starting to capture additional benefits from purchasing, and the internalization of products previously outsourced. With complexity comes opportunity.

We continue to creatively examine all areas of both businesses and are optimistic that there may be upside to our synergy estimate, and confident that we are on track to deliver the returns that we promised. Let me wrap up. One characteristic of a strong organization is the ability to remain focused while executing on multiple fronts.

I think you've seen our teams do that, delivering record results while successfully implementing strategic initiatives like our North American Filtration Expansion Project, the acquisition of FiberMark, and the sale of Lahnstein.

While there have been a number of strategic activities underway, our focus remains on creating shareholder value, and we're committed to pursuing avenues that make us successful. There remains an exciting and busy time at Neenah as we grow as a global specialty materials company.

We are leaders in our markets, in strong financial shape, and a velvet team that has a proven ability to act on opportunities the create value for shareholders. Thank you for your interest this morning. At this point, I would happy to open up the call to any questions..

[Operating Instructions] Your first question comes from the line of Dan Jacome..

Good morning.

How are you?.

Hi Dan..

Hi Dan..

Thanks for taking the time, and I applaud you on exiting the wallcover business.

I'm just curious if there are any other opportunities as you continue to review the global portfolio, any other opportunities to prune and are there areas that might not be hitting their cost of capital, or do you think this is a one-off?.

Well I think this, we were in a situation with Lahnstein that it was appropriate to act in that regards. Much like 2012 when we filled up our assets with Wausau, and then here with Lahnstein where we divested an asset, we are in a perpetual mode of continually examining our footprint.

I would imagine as we move forward, again, my bias is fill up the assets with products that can help us change the growth trajectory of the business, but as we move forward if, in fact, we find ourselves in a position where we need to shutter another facility or to sell off another business, we will definitely communicate it.

I did say in the prepared marks we are closing the Fitchburg. That was part of our initial plans when we acquired FiberMark. We will continually examine our footprint and do what provides the greatest return for our capital..

Okay, that's hopeful.

And then, staying on the paper segment, some of that volume chopping as you saw earlier in the year with one of your major distributors that was undergoing an acquisition or integration with another company, have we fully cycled that, do you think?.

I think we're a quarter or so away from the cycling of it. I don't know that -- there are challenges in their integration, just because we cycle, have totally gone away.

I think what I've said in the past calls is that consumption doesn't change, so if that distributor does have incremental challenge, that the fact that we are with some of the strongest regional players, they will likely pick up that demand, and hopefully the impact to us won't be too significant.

Where we have called out changes in volume is when we've had some lumpy, low-value of non-branded business that is easy, interchangeable. And as a reminder, Dan, our businesses is about 80% branded, so it is a small portion of our business that probably had been impacted there..

Great..

They're still going through their integration efforts..

Yes. Okay. That's great. And then I was intrigued by your comment on the FiberMark backings business. I'm curious how much overlap you have within your customer sets.

Are you looking to grow the pot here or sell more into an existing base?.

Yes on both of those answers. I think the good opportunities -- that they actually were acquiring, like, tape base, which was a great opportunity for us to in-source a tape base. We were outsourcing a coating but bringing that in. So those are the real obvious opportunities for us from a synergy standpoint.

With the Brattleboro facility, which gives us a whole new step change into heavier-weight products, predominantly supporting packaging but also even supporting categories like abrasives, I think we have opportunity to do a little pie expansion with existing key customers who already utilize those product categories, but we had been unable to participate with our asset base..

Okay. Great.

Then last one, just curious since you mentioned it, would you say Amazon is a bigger part of your business now versus 12 months ago?.

Is there any company who wouldn't say that? Absolutely..

Okay. Great. Thanks a lot..

You bet Dan. Good to talk to you..

Your next question comes from the line of [Kurt Inger] [ph]..

Hi Kurt..

Good morning. It is [Steve Shafer] [ph], actually..

Hi Steve..

Exactly so, first question was Lahnstein and I guess it wasn't sufficiently large that you had to announce it prior to earnings, but how long did you own that? I was also wondering, where are the end markets? Are they primarily Eastern Europe?.

Yes. We acquired the Lahnstein facility in 2006 with the FiberMark acquisition the same time we acquired our filtration business in Bavaria. The facility itself is predominantly wallcovering that is the majority of that facility. While we worked hard to try to bridge off of wallcovering in that facility, it is predominantly a wallcovering capability.

Wallcover, nonwoven wallcover is Eastern Europe, Germany and Asia, so it's a very regional business. It has had historical growth rate of 10%, but that's as paper converted to nonwoven, and a lot of players added capacity to that market, which has made it much, much more challenging from that standpoint. It has been on our radar screen.

We've looked hard at that to try and figure, can we reinvent that facility's capabilities? And we felt it was best at this point to divest it..

Great.

I came on a bit late, so what's the status of your expansion, North American Filtration, will that be online in 2016?.

Yes, actually, it will be online in 2017, as we originally planned. The bulk of our capability -- So we will bring up midyear saturation capability, and at the end of 2016 we will convert the fine paper machine, to a transportation filtration machine, combine the two and then begin working with customers on qualification across those assets.

As a reminder, this is, of all of our businesses, this is probably the longest qualification category we have, which is absolutely wonderful when competitors try to take your business. But it's a little harder when you're bringing up new capacity.

Our expectation is that we will be qualifying products in the end of 2016 beginning of 2017, and, hopefully, be getting the growth through that time period. We expect that it's going to provide us with 3 to 5 years of global growth capacity..

The reason the tax rate increases in 2016 is due to FiberMark, it's got nothing to do filtration?.

Right, it's mainly because we have a higher percentage of income in the US with FiberMark and the U.S. tax rate is so much higher..

Okay.

And as you can see I am taking the call remotely so I don't have my model in front of me, you said the financial position is good, so when have you sufficiently digested FiberMark to get back into the acquisition game?.

Yes I wouldn't link the two necessarily, except for just the resources. Acquisitions come when opportunities arise. Our expectation, as we said, $6 million in synergies is the run rate we believe with FiberMark. We believe that two to three next year, we'll be at the six million, the run rate after that.

We are always looking for acquisition opportunities, both from where our balance sheet is today and our commitment to continue to change the growth trajectory of this business, and become more of specialty materials..

Okay, so you've got the drive patterns to pull something off now?.

Yes, absolutely..

Very good. Okay. Thank you very much..

You're welcome..

Bill McCarthy, at this time there are no further questions..

Okay, thank you. On behalf of John, Bonnie and the team here at Neenah, thanks for your time today and we'll look forward to updating you again on our next call in February..

This concludes today's conference call. You may now disconnect..