William McCarthy - VP, Financial Analysis & IR John O'Donnell - President and Chief Executive Officer Bonnie Lind - Senior Vice President Chief Financial Officer and Treasurer.

Jonathan Tanwanteng - CJS Securities, Inc. Steven Chercover - D.A. Davidson & Co. Daniel Jacome - Sidoti & Company, LLC Mark Weintraub - The Buckingham Research Group Inc.,.

Good morning, everyone, and welcome to the Neenah First Quarter 2018 Earnings Conference Call. All participants will be in listen-only mode. [Operator Instructions] After today's presentation there will be an opportunity to ask questions. [Operator Instructions] Please note, this event is being recorded.

I would now like to turn the conference over to Bill McCarthy. Please go ahead..

Good morning. On the call with me today are John O'Donnell, our Chief Executive Officer; and Bonnie Lind, our Chief Financial Officer. After our prepared remarks covering progress against key strategic initiatives and quarterly financial results, we'll open the call up for questions.

We released earnings yesterday afternoon, reporting record revenues of $267 million. This reflected continued strong organic growth in our Technical Products business augmented by the November 1 Coldenhove acquisition, increased selling prices and a higher value mix in both segments, and tailwinds from currency translation.

While operating income in the quarter also benefited from these items, this was offset by higher cost for pulp and distribution. GAAP earnings per share were $0.95 and adjusted earnings per share were $1.04, up from $1.03 last year.

Adjusted earnings in 2018 excluded $0.05 to true-up previously estimated taxes on foreign earnings following clarification of the new U.S. tax law and $0.04 per share for a SERP settlement charge.

We report adjusted earnings when it can improve understanding of results and comparability between periods and a reconciliation of these non-GAAP measures is included in our press release. Finally, our comments today may include forward-looking statements.

Actual results could differ from these statements due to the uncertainties and risks that we've outlined on our website and in our SEC filings. With that, I'll now turn things over to John..

Thank you, and good morning, everyone. Our quarterly results demonstrated the solid progress our teams are making as we execute our strategy to increase our growth rate while becoming a leading global specialty materials company.

Sales in our Technical Products segment grew by more than 20%, with similar increases in both filtration and performance materials. In Fine Paper & Packaging, sales of premium packaging increased by over 20%, yet the overall segment revenues fell 2%, with the majority of the decline in targeted, low-value commercial print grades.

As we begin our call this morning, I like to cover three of our key growth catalysts before turning things over to Bonnie to review first quarter financial results. Starting with Technical Products. The ramp-up of our transportation filtration capacity in North America remains on track with previously communicated plans.

This added capacity is allowing us to balance global production and increase overall throughput as we move volumes to the U.S. to support growth in Europe. Transportation filtration sales were up more than 10% on a constant currency basis, and we continue to qualify new grades of customers.

More than 70% of projected 2018 sales of $15 million to $20 million have now been qualified, up from 60% when we spoke in February. Even more exciting is that the Appleton facility is now a fully certified global production facility for our largest transportation filtration customer, and major U.S.

customers are now considering Neenah as a potential partner for their global needs in addition to their U.S. requirements. Our best-in-class capacity addition comes at a good time. Global market demand continues to grow and customers are seeking out suppliers who can invest in that growth with them.

And this investment provides us with a clear runway for continued high single-digit and profitable growth over the next four to five years. In performance material, the Coldenhove acquisition gave us a leading position in the global digital transfer media market, which is also growing in the high single digits.

The acquisition comes to - continues to significantly outperform expectations and our growth was well above market for the quarter. This provides another catalyst for future gains as we realize synergies with our existing digital heat-transfer business and look for additional opportunities to accelerate sales and profits.

Turning to Fine Paper & Packaging. A third growth catalyst is premium packaging. We've invested behind this business and have the necessary capabilities and capacity to provide the high-quality products customers need to grow.

As I mentioned a few minutes ago, we started the year extremely well, with strong increases across our entire packaging portfolio. Ultimately, we expect to increase the organic growth rate of Fine Paper & Packaging as premium packaging grows, while maintaining the attractive mid-teen EBIT margins the business has historically delivered.

So overall, I was very pleased with our strong topline results, which continue to demonstrate successful execution of our growth strategies. However, as communicated in February, we expected bottom line challenges in the first half of the year due to near-term headwinds from steep increases in both pulp and transportation costs.

Our teams are taking actions to address this. And we'll not be able to fully overcome these costs in the first quarter. I'm confident in their ability to do so as we move forward through the year.

I'll talk more about our initiatives, including the planned sale of our Vermont facility later in the call, but I will first turn things over to Bonnie to cover financial results for the quarter..

Thanks, John, and good morning. I'll start with Technical Products, where we had another great quarter. Sales were a record $149 million, up 22% versus the prior year, driven by both strong organic growth and acquired sales. The first quarter is seasonally the strongest of the year, and we got off to an impressive start. Filtration sales increased 24%.

About half of this gain resulted from the combined benefits of double-digit growth in transportation filtration as we ramp up Appleton capacity, benefits of a higher value mix due to strong demand for our more advanced grades, and increased sales of water filtration.

The remaining part of the increase resulted from currency gains with a stronger euro. Performance materials revenues also grew by more than 20%. While predominantly from the acquisition, sales of our specialty grades also performed well, growing 8%.

This was led by digital heat transfer and by security papers, where we are the global leader in passport covers. Growth in these areas helped offset lower sales in labels mostly due to timing. Technical Products operating income of $17.5 million was up an impressive $5 million from the prior year.

In addition to acquired profits, the increase resulted from higher volumes and net selling prices, currency benefits, and the absence of a plant down in Germany that occurred in 2017. Combined, these items were worth $7 million and offset more than $2 million of higher input and freight costs. Moving next to Fine Paper & Packaging.

Revenues of $112 million were below 2017 sales of $114 million. The largest contributor was a reduction in lower value non-branded business that we manage opportunistically when input costs are low. Partly offsetting this was our strong growth in premium packaging as well as increased selling prices and a higher price mix.

Operating income of $13 million fell from an all-time record of $20 million in the first quarter of 2017. Increased pulp and freight costs were up a combined $5 million with lower operating efficiencies in volumes accounting for the rest of the year-on-year change.

Selling price increases began to take effect early in the year and offset most of the input cost headwinds in the quarter. Additional price increases on select grades were implemented in April.

As we've shared previously, this year we expect to fully offset the higher pulp prices, but the planned changes to our freight structure will only partly mitigate increased distribution costs. John will cover this in more detail later in the call. Turning to corporate items.

Selling, general and administrative expense of $26.8 million compared to $24.6 million in 2017. The increase was mostly for SG&A acquired with Coldenhove. Spending was slightly higher than our prior guidance of approximately $26 million per quarter mostly due to timing.

As percent of sales, SG&A efficiency was around 10%, in line with our expectations and slightly better than prior year. On allocated corporate, SG&A of $6.2 million was up from $5.5 million in the prior year due to a SERP settlement charge. In 2018, we continue to expect these costs to average approximately $5 million per quarter.

Net interest expense was $3.3 million compared to $3.2 million last year. Higher debt levels in 2018 due to increased short-term borrowings following the acquisition were largely offset by lower average interest rates. Our effective tax rate for the quarter was 22%, down from 26% in the prior year period.

The decrease was, primarily due to the changes in U.S. tax laws, which brought U.S. statutory rates down from 35% to 21%. We still expect a book tax rate of around 23% going forward. Our cash tax position remains very favorable as a result of prior period R&D credits that we expect to consume over the next two to three years.

Our cash tax rate this year is projected to be around 10% and will start to converge with our book tax rate after these R&D credits are consumed. Cash from operations in the quarter was $8 million. The first quarter was seasonally low due to timing of sales and a corresponding build in receivables.

Compared to $22 million in 2017, cash flow declined as a result of a large benefit in 2017 after we renegotiated longer payment terms for certain vendors and the increased employee retirement plan contributions in 2018, as we accelerated timing of our pension contributions and made a onetime SERP payment.

Results in 2018 also reflected increase receivables related to higher sales. Post-employment benefit plans and pension funding remain in great shape. In 2018, we still expect cash outlays for these plans to be around $17 million, which is slightly below last year and $6 million higher than related expense.

As I mentioned, we accelerated the timing of our pension contributions in 2018, and we did this to take advantage of additional tax benefits. Capital spending of $8 million declined from $12 million in the first quarter of 2017. Full-year spending is projected to be within our stated range of 3% to 5% of sales.

Debt was $270 million at the end of the quarter compared to $255 million at the end of the year. Our balance sheet remains strong, with debt-to-EBITDA below two times and we continue to have plenty of available borrowing capacity and lots of flexibility. Our businesses generate sizable cash flows.

And without impacts from receivable seasonality and pension timing, we expect to see significant improvements as we go through the year. Capital spending has also returned to more typical levels now that the filtration investment is complete.

We are focused on finding organic investments and acquisition opportunities that can add value, while also providing an attractive direct return of cash to shareholders. Our cash flows combined with our strong balance sheet continue to allow us to deploy capital and act on attractive opportunities as they arise.

With that, I'll turn it back to you, John..

Thank you, Bonnie. I'll finish off with some comments on the external environment and key activities we have under way. With stronger global economies, market demand for our products has been solid this year, and our competitive positions remain very strong. Currency translation due to a stronger euro has also been a benefit.

And in the first quarter, the euro was about $0.17 ahead of where it was in 2017. While the dollar has strengthened recently, currency in the second quarter should still be favorable, albeit about half of the amount in the first quarter. As a reminder, each $0.05 different translates to about $2.5 million in sales and $0.5 million of EBIT per quarter.

As I'm sure you already heard from every other company, input and freight costs are up significantly this year. Fine Paper & Packaging is by far our hardest hit business as pulp is the single largest input cost and since the market include shipping cost and selling price for most customer orders.

In addition to rising rates, the financial impact from freight has been magnified by customer-friendly order quantities and policies that have contributed to our outstanding customer service and delivery times.

The combination of pulp and freight is expected to impact Fine Paper & Packaging most in the first half of the year, as evidenced in the first quarter, where else were up $5 million out of potential full-year estimated impact of over $16 million.

As you should expect, our Fine Paper & Packaging team has been taking aggressive actions to address these challenges. Price increases implemented during the first quarter and additional pricing activities in the second quarter are expected to deliver the revenue improvement required to offset anticipated higher pulp costs this year of $10 million.

Staying with cost pressures in Fine Paper & Packaging, freight is projected to be up $6 million, and we've announced changes to our process and shipping programs. Starting in the second quarter, we implemented modifications to stop-off charges and order minimums.

We're also reviewing how we can alter our routes and distribution footprints to generate additional savings, while maintaining our market-leading service levels. Given the structural nature of this regulatory change, it will take some time to fully overcome these costs and will likely require additional cost-reduction actions.

That's why I mentioned in our last call that given these escalating costs, we would take a hard look at our product portfolio and manufacturing footprint. An outcome of this effort was our announcement yesterday regarding the difficult decision to pursue the sale of our mill in Brattleboro, Vermont.

This mill, with sales of over $30 million, was acquired in August of 2015, when we purchased FiberMark, and has primarily manufactured office products like file folders. As costs escalated and the grade mix shifted, operational efficiencies declined and the mill returns fell below our profit expectations.

These products remained non-core to Fine Paper & Packaging, and we believe the mill can ultimately be most successful under a buyer that dedicates resources to focus on this category.

Based on preliminary estimates, a second quarter non-cash impairment charge for the mill and related office and research facilities could be in the range of $30 million to $40 million.

As part of our regular ongoing evaluations, we expect to further streamline our product portfolio and aggressively shed marginal products and business that will allow us to further improve efficiencies.

All in, following the sale of the mill and completion of our other actions, this should lead to an annualized improvement in operating income of around $5 million. Fine Paper & Packaging, while the smaller of our segments, is a key part of Neenah, with a strong cash flows and high return on capital.

Even though significant increases in pulp and freight costs are having a near-term impact, I'm very confident that with our improvement actions margins will quickly return to its historical mid-teen levels and I expect you'll see evidence of that each quarter as we go through 2018.

While the spotlight this quarter may have seemed extra bright on Fine Paper & Packaging, I'd be remiss if I didn't celebrate the continued progress of Technical Products, as this business is doing extremely well with input and freight pressures about half that of Fine Paper & Packaging, in Technical Products we've been able to successfully offset these while, at the same time, delivering very impressive topline performance.

As I mentioned earlier, each of our segments have catalysts for long-term growth. In transportation filtration, our new asset allows us to gain share geographically.

We recently assumed the global leadership position in the fast-growing digital-transfer market and our investments in premium packaging capabilities further support the continuation of our double-digit growth track record. Finally, our acquisition efforts remain very active.

And our balance sheet affords us the financial flexibility to continue our pursuit of attractive growth opportunities in specialty material categories. As you can see, our teams are very focused on executing our strategies to become a faster growing and more profitable specialty materials company. Thank you for your time and interest this morning.

And I'll now open up the call for questions..

Thank you, sir. [Operator Instructions] And our first question comes from Jon Tanwanteng with CJS Securities..

Good morning, guys. Thank you for taking my questions and a really nice job on the Technical Products business..

Thank you..

And just regarding the strength there, how sustainable do you think that momentum is on a sequential basis as you head into Q2 and as you're head into seasonally weaker quarters in Q3 and Q4?.

Yes. Thanks for reminding everyone too on the seasonality of that business. When we look at - overall, we look at filtration at 2x global GDP and we look at our performance materials segment, really more of global GDP plus. There is no question that we had significant improvement in the first quarter.

Helped a bit by exchange rates as well, but good organic growth rate. So again, you're right, Jon. First quarter is going to be the best as we work through the year. We won't lap that Coldenhove acquisition until November. So we'll continue to see benefits from that acquisition last year, all year.

And again, as we continue to make progress with our Appleton facility, we should see improvement there as well. So I don't think I'm going to hold them to the 20% a quarter..

Okay.

And just to be clear, do you think this is going to be the best quarter of the year for that business?.

Typically the first quarter usually is the best quarter of the year. I would love for the groups to prove me wrong in that regards. But yes - just because what we do know, and you see that in our cash. A large portion of the use of working capital is receivables as customers replenish their inventories after pulling those down at the end of the year.

So that is typical for these businesses..

Okay.

Great and then, Bonnie, is it possible to break out how much Coldenhove contributed in the quarter and how much you exceeded your expectations by?.

Yes. So we had originally indicated for Coldenhove that we expected annual sales of about $45 million. And then EBIT about six - or EBITDA rather, of about $6 million. And we also said that we had expected synergies to be realized of about $1 million over the first two years.

And so we're happy to say that we're seeing revenue at about 10% higher than what we expected. And we feel that we can comfortably say that we will achieve those synergies in year one rather than waiting till year two..

Great. That's helpful and good for you guys.

Finally, between your efforts to improve price and efficiencies, when do you actually see Fine Paper margins returning to the mid-teen operating margins? Is it possible in Q2 or is that more of a second half story?.

The first half is - we're going to continue to feel that pressure of input cost and that's why I've been communicating first two quarters we're really hit. You will see improvement, I think in - as we move through the year; I imagine the second quarter will be better than the first.

But getting back to what we say 14% margins when input costs are high and 16% margin when inputs cost are low, they've got good plans, so they should be able to achieve that by the end of the year. If they can get there earlier than that, that would be great..

And one more, if I could any sense of timing on the sale of the mill and the ballpark cash proceeds you might see?.

Yes. We've just started that process and what little toe in the water that we have, we're very encouraged that we'll able to successfully transact there. In regards to the selling price, I think the range of $30 million to $40 million impairment is - there will be no surprises for you from that standpoint. We will be in that realm..

Okay.

What's the book value of the mill then?.

Bonnie, what's the....

The book value of the mill is most of that $30 million to $40 million range. And the largest part of the book value, of course, is fixed asset. When we acquired FiberMark, the most asset-intensive part of the acquisition was Brattleboro. And you know, Jon, in purchase accounting U.S. GAAP ascribed value to all of the different assets.

And so that one was pretty asset-intensive and so we ascribed a lot of value to it. Overall, when we look at the FiberMark acquisition, it's returning well above our cost of capital and we're happy with it. So the coating capabilities are better than we expected, and then Brattleboro is not as good as what we expected.

But in total, the whole thing still works, and we just kind of ascribe too much value to Brattleboro, and that's why we have the write-off..

Gotcha. Understood. Thank you very much for the color..

You bet. Thanks Jon..

Our next question comes from Steve Chercover with D.A. Davidson. Please go ahead..

Thanks. Good morning, everyone..

Good morning, Steve..

Bonnie kind of anticipated what I was going to say..

She does that..

Yes, she is uncanny. The $30 million to $40 million is basically a third of what you paid for FiberMark, if I'm not mistaken. So, you've also given us a couple other little nuggets here.

So if - I think you said it's going to be accretive by about $5 million, is that correct?.

After we sell it and it no longer is part of Neenah? Yes. That - well, Steven that is part of some of the other activities that we're doing here....

That's the majority of it..

Yes..

That is the majority of it..

Okay.

But - so it's fair to say that it is not generating the mid-teens margins on $30 million worth of sales that your other assets are? But is it EBITDA positive?.

Well, yes. But it is - in the first quarter, it was - we had a loss in EBIT and, of course, it's below our return on invested capital target. So anytime we get a business that's below our return on invested capital, we have to take a hard look at it..

But we don't typically manage our P&Ls by facility. What we - we do look at the strategic market categories. Office products hasn't been a category. Just to remind you, when we acquired FiberMark and the value really, it was activating our Fine Paper & Packaging premium packaging strategy.

And really it's the coating that we acquired in that company for. And that's doing really well. As Bonnie said, we're getting the returns, but we didn't - our purchase accounting didn't ascribe the book value....

In the right place..

In the right places. So, net-net, at the end of the day, that's why that write-off look so big..

Yes. So I'll give you an example, Steve. I mean, in purchase accounting, you look at kind of cash flows, we took the book value of the Brattleboro assets and stepped them up three times. And then a lot of the other assets we put below their historical book value. So it's just like - this was just something that happened in purchase accounting.

If we had it do it over, we'd put more value on all the other assets..

Sure. Now, office folders, I understand why that wouldn't be part of the mix going forward.

Are there other products that are manufactured there that you want to retain a presence in the market and then you've got capacity elsewhere that you can maintain your exposure?.

There might be some minor products that are there. The predominance is office products. So we'd be misleading if we didn't suggest the facility was predominantly focused on that category. But there are - we've worked over the last two to three years trying to take advantage of what the facility's capabilities are and supporting the other businesses.

So we worked through that integration activity. But, unfortunately, this is going to be a non-cash impairment, and we can't run from it..

Understood. Okay. And then infiltration, I believe, 30% was the threshold where the new machine in Wisconsin starts to become profitable.

Will we hit that operating rate this year?.

Yes. I will tell you that I did say 30%, it was probably a year ago. I love your memory. On the last call, I had a mea culpa moment and said that it's really going to be closer to 50%. And we will achieve that as we roll into 2019. So that's - when I say we're on our plans, that's what I'm saying.

We'll come into 2019 at a breakeven status and we're on track to do just that..

It wasn't that our end of curve expectations changed. It's that we had costs that were incurred sooner, that caused the breakeven to shift from 30% to 50%..

Right also staffing up of the labor..

Exactly..

It's a shade of it..

Yes, but overall, it's a very good project for you and no regrets, right?.

No regrets. It's the gift that'll keep on giving for years to come. Just a reminder, it will support 7% to 8% growth rate in our transportation filtration for four to five years. And I think that's really key, because that's been our growth engine, so we're very pleased with that..

Okay. I'll get back in the queue. Thank you..

Thanks Steve..

Our next question comes from Dan Jacome with Sidoti & Company. Please go ahead..

Good morning.

How are you?.

Hey, Dan..

Hi, Dan..

Couple of quick questions. So just to go back to the Vermont mill, sorry to beat a dead horse here. But what - so it was EBITDA positive.

But I'm assuming it was EBIT negative and it was all just DNA flowing through, given that you're saying is going to improve EBIT by $5 million once sold?.

Yes. It was a EBIT negative in the quarter..

Yes, it has to be, just the way the math works. Okay. A little surprised..

Thanks for making us do that..

A little surprising, but understandable. Okay. And then I wanted to ask you, I think you said in the commentary on Appleton that some of your conversations with U.S. customers that might be kind of new customers might be picking up some momentum.

Did I - did you say that?.

Yes, that's the flavor I was giving. So as a reminder, we had strong global relationships with a number of customers, especially in Europe, given our European facilities. And as we build our facility in the U.S., we - it gave us the opportunity for us to begin relationships with U.S.

builder manufacturers who are then considering our capabilities as they look at their global footprints now that we're a - have a facility in Europe and one in the U.S. So that's very encouraging. We - our initial perspective was supplying them in the U.S. But we're encouraged by their broader discussions for long-term planning..

Okay. All right. So that's good. But I mean, but I think in the past you have said that once up and running you'd be - incremental revenue would be, I think you said, $90 million? Sorry if I missed it..

I said $80 million..

$80 million? Sorry, okay $80 million. So you did that. When you put out that $80 million, not to trip you up here, but when you put out that $80 million, did it include some of these benefits or maybe better conversations you're seeing now with customers? Or was the assumption internally just we're going to serve....

Yes, Dan, it's the capacity of the asset. So regardless of who I sell it, if I sell it to old customers or new customers, I won't be able to do more than $80 million with that.

We'll have that - right? If it does anything, if I'm broadening my reach and importance in the transportation filtration category, it might suggest that the opportunity for further additions would make sense.

But today, I would say we built a facility, it's got $80 million worth of revenue over four years to five years and we're broadening the number of people who could participate in that sales growth..

No, that's good. All right. And then on water filtration I think you said something positive about water filtration. I haven't heard that term used too much recently.

So any color there?.

Just so - I mean, our reverse osmosis category was - did very, very well. It made - over the past year, it made some real step change in the quality of the product itself, which has opened up our options with some Chinese companies and others.

So it was a - I think they're up 40% in the quarter, which is - it's not a huge category, as we've talked about before, and it's typically driven by investments. But they got a shout-out, you are right, they got a shout-out of this quarter..

Yes, a shout-out. Because I know that area has not been very strong, not just across the industry because the replacement cycle people have been waiting for and has been taking a little bit longer, but then it appears then and one of your peers, I think, like last week said that finally it looks like that is picking up.

So maybe you guys are seeing that or will see that..

And I'm sure that's - they're also a component of the filter. So we're one part of the seven layers of the filter. They are probably as well seeing similar things as we are..

Okay. Thanks a lot..

Thanks Dan..

[Operator Instructions] And our next question comes from Mike Weinsaw with Buckingham Research. Please go ahead..

Hi, Mark..

Hi, good mooring.

On Brattleboro, just, I assume that now it's going to be accounted as a discontinued operation, is that correct?.

Not quite, Mark. It will be held-for-sale. So we will have it in two lines, assets held-for-sale and liabilities held-for-sale. It doesn't meet the criteria for disc ops..

Okay.

So it will be part of your ongoing results until it is sold?.

Yes..

Okay.

And then that $5 million of improvement accretion, is - about half of that would be just reduce DD&A and the balance would be improved cash performance, is that a reasonable way to look at it?.

Yes..

I'd say, yes. I guess I would have thought maybe a little more improved cash performance. But it's $5 million of improved EBIT. Because it's just not - right, it's not just Brattleboro....

I guess, I just said - first, just trying to understand how much was the annual DD&A on Brattleboro?.

Yes, I can't tell you right now what that would be..

Okay. And then so....

Probably $1 million or $2 million..

Yes..

Okay. And then so you're just - you're saying, I believe the question had come up before. I think - I thought the reference was that the majority of the $5 million was related to Brattleboro. Is that right because - or you're just suggesting there are other drivers too? Okay. Very good, thank so much..

Thanks Mark..

I'm showing no further questions. This concludes our question-and-answer session. I'd like to turn the conference back over to Bill McCarthy for closing remarks..

Okay. I would just like to thank everyone for your time and interest today. Please feel free to reach out to me if you have further questions. Thank you..

The conference has now concluded. Ladies and gentlemen, thank you for attending today's presentation. You may now disconnect..