International Paper Company (IP) Earnings Call Transcript & Summary

Super. Talk about how the game plan to win back business. What are you doing to provide value for your customers, how that progress is coming along?

Yes. So first of all, there is -- one of the great assets that I got to inherit when I joined International Paper in the U.S. was far and away the best footprint in the industry. So if you actually just take the footprint, if you were to take kind of chart out geography, so think of any major metro area and you are thinking about profitability and growth, and you were to take those and put kind of bubble charts, bubbles representing the size of a market. And you were to look at us versus the rest of the U.S. marketplace, we, far and away, have an advantaged footprint. And I would argue we probably have an advantaged mill asset base once we're out of the low-quality assets. So as I look at that and I say, okay, how does that allow us to win over time? We have a terrific advantage. However, our business -- what a lot of people don't understand is, our business is actually hyperlocal, right? It is -- people kind of think of a fiber-based company and you think of a world global commodity, whatever. Our business is done within 250 miles of any metropolitan area. And so that's where competition happens, right? That's where I experienced competition. And so I have to win in that local marketplace, which means I have got to have the cost position, the service and the competitive market share position to win in that local market. And so what our focus is on is let's drive the basics of service in those local markets. So quality, on-time delivery, speed of response, we have customers -- I mean, our major customers, we're responding to them same day, right? That's the level of responsiveness to our major customers. And that is, in my view, that's the price of entry is that level of intensity around service and support. And the reason for that is that if you think about how packaging moves through our customers' facilities, the cost of that packaging relative to what they're doing is miniscule. The cost of failure is extreme. And they know it, and we know it. And so as we drive those service levels up, they actually are now taking their people out of their distribution centers or manufacturing plants, and they're reallocating people to other jobs or they're eliminating them all together. And so as we embed inside our customers and we make their lives easier, right? They actually -- they gain and we gain. And part of big piece of what we gain is stickiness. And that stickiness is really important. And don't get me wrong. I don't -- I'm not going to overexaggerate the stickiness. But there is probably somewhere in the 10% plus range that customers, that's the cost of switching. If you just kind of look at what -- as we look at our customers, when they're looking at a new contract or whatnot, the last thing they're going to do is switch for 1% or 2%. They are not going to go through that kind of disruption. You're talking customers that we're doing changeovers with now, this is a 6-month process because they need to prove. They're about to move all of their business from a competitor to you and it's our -- it's 40 of our plants doing business with 60 of their plants, right? That is not an easy switch. That's complex and they can't afford the failure. And so we kind of think of this as -- well, I'll trade for a few pennies at price. Well, you'll do that if your service stinks or if your quality is bad. And if your service is really good and your quality is really good, it's not that, that becomes a definitive barrier for all time. But what that does is it definitely raises the switching costs. There's no doubt about it. And it gives you entry into innovation. And that to me is where it gets exciting. Because now if I'm partnering with that customer, and we're working together on the entire value chain, we can take total cost out of the system, right, with us making money and them making money, right? We can both do that. And so that's where the service game really comes into play.

Super. It sounds like you had the foundation in place and the game plan in place for the U.S. market. Help us think through Europe. I think initially, at least part of the thesis in terms of synergies was DS Smith was short on paper. You could kind of backwards integrate yourself to the paper you export. You've obviously taken a lot of capacity out, right? So how has that equation changed? And what do you need to do to kind of get DS Smith right in terms of that transformation? The playbook -- just kind of expand on playbook.

Yes. So first, let me touch on the thesis here around one of the benefits. And when we looked at that, we thought there might be up to a $100 million benefit in DS Smith procuring paper from International Paper. And what that's proven as we dug into that, everything I talked about a moment ago, there's actually more economic value in choosing to not do that. And actually restructuring the U.S. market, there's more economic value to capture than in shipping paper over the ocean. That's -- and a big piece of that is the amount of supply of paper in Europe, right? So the availability of high-quality paper in Europe is a different scenario than in the U.S., right? There are more independent assets in Europe than there are in the U.S. And so just looking at kind of which one do I want to choose? Well, I'd rather choose A because it's going to drive more economic value. But I do give up B, there's no doubt about it. That being said, one of the best pieces of synergy that we have is our Madrid mill. So the Madrid mill, that IP bought and then refurbed over the last half decade or so. It's interesting because you hear some of the stories around that Madrid mill that are actually kind of funny about. We overspent on it. But when you actually look at it, I'd love to do 10 more of them just like that because it's the lowest cost, highest quality mill probably in Europe. It's certainly in the top decile of mills. And so we've gotten a lot of benefit from that in the Iberian Peninsula because we can now feed 100% internally. So that's played out well. The reality is that the European market, what I talked about before in that softness, that's just a big headwind, right? So in Europe alone, that you're talking about almost $350 million of headwind in volume and price from a profit standpoint, from our expectation of where -- just on those 2 alone, it's actually $375 million, if I remember right. And so we're battling that headwind. But the key to it is to not let go of that crisis and to allow that to drive the restructuring, right? So how do we actually move as fast as we can to restructure the business. In many ways, probably 80% of the game plan is very similar to the U.S., right, which is structurally move to the right profit pools, the right assets aligned, the right people aligned to that. So we're moving down that path very aggressively. The difference is in the U.S., right, we're basically an integrated company for the most part. In Europe, we're only about 50% integrated. So we're going to continue to move towards more integration there. But to be clear, I'm not going to go out and buy a bunch of assets at this stage, right? There's enough high-quality paper available that we don't need to go and put a bunch of money in the ground and buy assets. We need to optimize from here. So we need to exit those things that are nonstrategic and unattractive, frankly, structurally. And we have announced the start of that. You're going to continue to see more of that. The kind of drumbeat that you've seen in the U.S. expect to see that in Europe. And we have to move aggressively to do that. The total bogey of just cost out structurally is $500 million to $600 million of just cost out that we're going to take in Europe. So that's moving along. It's going to take longer than the U.S. by the nature of the consultation process. So in the U.S., we basically say we announce it, and we do it, right? In Europe, you have to announce a consultation process. You have to go through that in good faith, and that's very important, right? It's not a paperwork exercise. You have to go through the processes in good faith and you have to look at alternatives because alternatives do present themselves, and so you've got to go through that process. And so we're doing that now. We're moving very quickly. We have announced a whole series of actions relative to consultation in the U.K. You've now heard me talk about Croatia. We've also talked about the country structure that were ongoing. And so that's just going to roll through the system here over the next couple of years.

Within that $500 million to $600 million bucket, would you be able to unpack what are some of the big cost out? Is it on the mill side, box side? Do they have a bloated corporate cost structure like the IP U.S. kind of things.

It's -- so let me do -- I want to take the last one first, and then I'll walk the other ones. So there was not a large central structure in London, like we had in Memphis up until last year. There was not that. But what you found was in Europe, what was happening was they were -- instead of managing the complexity at a corporate center, they were managing it at regional centers. And so you had a very small group of people in London. You only had 100 -- a couple of hundred people in London in total. But what you had were these very large country structures and have these very large, very complex country structures. And so what we're doing is we're simplifying that, right? So that we're going -- I think it was from 13 structures down to 7 and taking out a whole bunch of the kind of middle stuff that's in there in terms of management. That really is about managing complexity, Phil, right? It's not a value-added piece, but it's just kind of managing the complexity. So you have to attack that. On the converting side, the game plan around major geographic centers. So the game plan in Barcelona is the same as the game plan in Atlanta, right? So you have multiple converting plants in and around that area and you're looking at matching market segmentation with volume and mix, right? So the ability to match that. So you can specialize in certain areas around volume and mix, drive productivity, drive service levels up dramatically. A bigger difference in Europe that you don't have is you have a lot more singular converting plants that are in a market, right? So in the U.S., we mostly have multiplant markets, not completely, but mostly multiplant markets. In Europe, you have -- you absolutely have multiplant markets, but you also have a lot of these one-off things. And so in that case, in the multiplant market, same game plan as the U.S., right? We'll restructure that and we'll optimize around those major geographies. And then the singular plant markets, they have to stand on their own, right? They have to stand on their own, just like if any of us own them as an entrepreneur, they have to stand on their own and they have to win on their own. And if they can't stand alone, they can't win on their own, they don't have a history, right? They don't have a future, and that's just the reality of that. So we're going to go through that same process that we went in the U.S. The paper side is very different in Europe than in the U.S. We are -- yes, we are a short paper, but if you actually look at the tons that we sell that move through converting and the tons that we manufacture, that we produce through paper, it's -- you go, well, you're not short paper. You go, what is it? Well, it's because half of what we make goes into other markets. It goes -- it does not go through our converting process into packaging and, ultimately, end up on shelves or at your door. And just like I talked through a moment ago with export in the U.S., we're doing that same analysis around all of the assets in Europe and asking a simple question, which is, do they drive an attractive return or not? Do they have a strategic advantage or not. If they do, we want to keep those assets, and we want to focus on packaging. If they don't, they have a different future and probably not with us, if you can't drive the economic value. So we're going through that, those analytics. As I mentioned before, in an ideal world, you do exactly what you did in the U.S., and you'd own high-quality paper assets feeding the packaging system. That doesn't make sense right now in Europe, right, to go and to build something or to buy at a premium, some kind of assets that damage the market in some way, makes absolutely no sense when you have availability, you don't have to put the capital in the ground, so we'll -- that's a little bit different. We'll play that as it makes economic sense over time.

Super. In the U.S., you've under-invested for many years. And how's that situation in Europe? Is there a capital investment element? And then from a commercial element, were you guys -- are you -- do you have the right type of customer mix you want? I mean it sounds like it's a lot of cost, it's a lot of complexity, but just kind of tackle those 2 things?

Yes. So Europe, what I would say, a couple of things that Europe has done different than the U.S. that are good because I've talked about the things that are a struggle. So the commercial organization in Europe has been historically a better commercial organization than we had in the U.S. It was more service-focused, much higher touch, touching more people in our customers' value chain. If IP -- legacy IP had 1 or 2 relationships within a customer kind of thinking of their value chain, DS Smith has historically had 6 or 8 touches in that chain. And that matters. And the reason that matters is if your relationship is with procurement, right, that is a structural disadvantage. If your relationship is with design, engineering, manufacturing engineering, that's a structural advantage. And that's really where you want that advantage to go. And the reason being is that you're working early on in that relationship to drive value for both players versus it being a price discussion, right? And so as you think about what we've done in Europe, we've built a lot of service intensity and a lot of sales intensity, but we spread it really, really wide across the customer base. And so the customer base is more fragmented anyway. And so we have a lot of resources that are being spread across markets that, frankly, the customer doesn't pay for. And so we need to focus that on a smaller subset of customers that really value and will pay for that level of service intensity. And so that's a difference that -- so that's something that's changing ultimately in that marketplace. And then it's also a more innovative market. And the reason it's a more innovative market is there's a lot more CPG content. And there's a lot more CPG content by the nature of the markets themselves, right? There's a lot more packaging that happens on shelves in Europe. And for those of you who spent much time in grocery in Europe, you'll notice that because of demographics, because of the cost of labor, et cetera, et cetera. But also, you don't have the same industrial packaging infrastructure requirements that you have in the U.S. Just the distances to move things in Europe versus the U.S. is a different marketplace than the U.S. So you have -- there's more innovation. There's a higher service component content, and DS Smith has done that well. We need to focus those resources around that.

Okay. And just lastly, on the U.S. market, we're in a pretty good spot, right? I mean demand has been pretty muted, and it sounds like you're pretty the medium, longer term, but a lot of capacity has come out. What's your view on the cycle in the next few years? I mean I know your longer-term targets were predicated on mid-cycle pricing. But I mean, it's a pretty conducive environment with operates in the mid- to high 90s right now. So just kind of help us think through the cycle.

Yes. I think -- so number one, I would say that as I think of this -- the demand, where we are relative to demand, to me, it appears as though we are a lot closer to the negative -- we're in the range of outcomes. We're much closer to a bottom or a more difficult moment now than I can imagine in the future. I have a hard time imagining anywhere from 2 to 5 years from now, we're not in a very different place in terms of demand. It's hard to imagine that. As I talked about housing, I talked about some of the other structural issues out there. It feels to me as though we're poised for that market to improve. And from our own perspective, and I'll only talk about us, it's been all about that design of getting high-quality assets, right, to get to the high-quality side of the asset curve and to not have a bunch of latent capacity that you -- that doesn't make money through a cycle. One of the long-term excuses for not dealing with inferior assets was, well, I need that capacity when the market comes back. Great. Market comes back. But when you actually map it over a cycle, it doesn't ever make money with those crappy assets, right, and less attractive business. And so as we have structurally taken that out, our belief is that we would rather run tight than run loose through a cycle. It's a much better economic proposition to run tight than to run loose through the cycle. And so if we face a much better economy, great, and we have to make choices, you're going to make choices around the right sets of customers and the right sets of assets to capture that economic value. So I would say the U.S. is in a good position. I can't pick timing, right? It's -- your economist gave a talk, I guess, yesterday, right? And he's going to be a lot more right than I am because I'm not an economist, although I'm not sure economists are ever right. So look, it's hard to predict the when of it, but I think structurally, the what of it and the value that gets created over time because of the restructuring of that market and what we have done, I think, is very attractive.

Okay. Well, Andy, thanks for all the great insight. Thank you so much.

Thank you, guys. Take care.