Rock-Tenn Company (RKT)

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Rock Tenn Co. (RKT)

Investor Conference

February 22, 2013 9:00 am ET

Executives

Steven C. Voorhees - President and Chief Operating Officer

Michael E. Kiepura - President of Consumer Packaging & Recycling

Craig A. Gunckel - Executive Vice President and General Manager of Merchandising Displays

James B. Porter - President of Corrugated Packaging

Thomas M. Stigers - Senior Vice President and General Manager of Containerboard Mills

Jeff Chalovich

John L. O'Neal - Senior Vice President of Supply Chain & Specialty Products

Erik J. Deadwyler - Senior Vice President and General Manager of Recycling

James A. Rubright - Chairman of the Board, Chief Executive Officer and Member of Executive Committee

John D. Stakel - Senior Vice President and Treasurer

Analysts

Joshua L. Zaret - Longbow Research LLC

Chip A. Dillon - Vertical Research Partners, LLC

George L. Staphos - BofA Merrill Lynch, Research Division

Presentation

Unknown Executive

Once again, good morning and thank you, all very much for joining us today. You honor us by your presence, and our goal today is to update you on RockTenn's development and our businesses and also to introduce to you the people who are really driving the results at RockTenn and who have done that consistently for a long period of time. Our lawyer insists that I remind you as you've heard many times and in the course of these presentations, we may make forward-looking statements and actual results may turn out to be different than we assume and believe and understand in these forward-looking statements, and you can see all of the risks associated with them that we could think of in our 10-K filed with the SEC. And we also refer to non-GAAP measures and we have reconciliations in the back of our presentation in our filings to the most nearly comparable GAAP measures.

RockTenn is a company that has leading market positions in what we believe to be very attractive paper-based packaging businesses. They're very attractive because they have enabled us for a long period of time to develop really very strong free cash flows that have translated into very strong shareholder returns and have provided us the opportunity to grow through acquisitions that have continued to better position our business.

Today, we're somewhat unique in the industry in we're relatively balanced in virgin and recycled fiber mix. As you know, it's about 55% virgin, 45% recycled. Certainly, I'm of the view more strongly today than when we acquired both the Demopolis mill and the Smurfit virgin mill systems that these virgin assets are essentially irreplaceable. They're irreplaceable from a cost standpoint and they are strategic. The demand for U.S. virgin containerboard domestically and in export markets has continued to grow and notwithstanding economic turmoil, across Europe and many regions in the globe. They've continued to have strong demand for our products and over the last year, you've seen recovering pricing today to a very healthy export price environment for the virgin containerboard that we export.

In the near term, we have a treadmill of cost. We tried to quantify that for you in our last call, but we believe the synergies and performance improvements off of the acquisition will outrun the treadmill, and indeed we're going to identify opportunities to continue to invest and improve our business that we believe can continue to do so.

And lastly, the point of this today is to introduce, as I mentioned, the people who are driving those results and give them an opportunity to describe for you the things that they do that have produced these results. But I want to reflect on what this team has done. These are our 10-year returns. Obviously, the first few years, we were taking cost out, working very hard. But beginning with the opportunity with Gulf States for the first few years after the acquisition, we had a 16% compound return to shareholders, then we became convinced the containerboard business is a really good business. We went shopping. We're unbelievably lucky to have the opportunity to acquire Southern Container of all the businesses we could have acquired, accelerated the return to shareholders, 36% until the acquisition of Smurfit. And then since the acquisition of Smurfit, closed in May of 2011, we've had a 20.7% CAGR to our shareholders.

How do you produce those returns? In our business, you produce it with free cash flow. This is the 10 years of free cash flow returns. Now, the way we measure this and actually the way we're compensated, if you review our proxy statements, you'll see that our long-term incentive compensation is measured by a 3-year free cash flow return on beginning market equity. So all of these returns take whatever the equity market capitalization of RockTenn is at the beginning of the year. That's the denominator and the numerator is the free cash flow, which is generally what we've used to pay dividends, buy back stock, reduce debt or make pension contributions in excess of expense, ex since we acquired Smurfit where we have an unfunded liability for essentially frozen plans.

Now if you look at those numbers, 12%, 21%, 16%, 20.5%, 20.2%, remember, our equity has grown, 15.1%, 21.1%, 14.2%, 12.9% and 15.1%. The low number on that chart, that 12.9%, remember that is the year we acquired Smurfit. We have not deducted or normalized any of the expenses associated with integrating the acquisition, major disruptions in our business and the cash flow that's going out to integrate that acquisition. So in that circumstance, we were still able to generate almost the 13% free cash flow return on beginning market equity and then in 2012, return to a more historic 15% free cash flow return on beginning market equity.

As we'll explain today, we think that, that trend can continue. We have a view that we'll generate strong free cash flow this year. We're well into the year. We've given you guidance with respect to free cash flow for the following year, as well as capital expenditure guidance and we'll talk about what those plans are. But since we acquired Smurfit in May of 2011 through December 31, that's a 19-month period, we generated about $13 a share in free cash flow in that period of time.

Now today, we're going to go through our businesses, starting with an overview that Steve Voorhees will give you. Steve, as you know, recently became President of RockTenn, a great decision by our Board. One that I'm very personally pleased with. You may know, Steve joined RockTenn a year after I did. It took me a year to talk him into joining. He had worked together at Sonat with me where I thought he was as talented as any person I'd ever worked with. But he joined RockTenn as CFO, and he'd never been a CFO, he'd never been a controller, didn't have an accounting background and never had a finance job.

At Sonat, his beginning experience was in business development and after that, he was head of origination in energy, marketing and trading business, then founded an electric power trading business, now all of which, by the way, in our case, made money and were sold for a lot of money. The year between Sonat and RockTenn, he developed a 680-megawatt power plant that exists in the state of Georgia today by threading the needle of the power grid and natural gas grid and winning an RFP from Southern Company. But my view of Steve as a CFO was I wanted somebody who came to work every day saying, how am I going to make money for RockTenn today? Right? The page is blank. I'm going to fill it in with some way to make money. And that is the mentality that you'll see of everybody in this team and it's one that every position in our company needs to be filled with a person who comes to work with exactly that idea.

First, it turned out that business development wasn't the way for the first 5 years. Steve almost exclusively devoted himself to taking cost out, not cutting cost, taking cost out by essentially centralizing everything that should be centralized and then reiterating improvements on everything you do from purchasing, transportation, logistics, IT. And it was only really after about 5 years that business development became an important component of what we did.

After that, you'll hear from Mike Kiepura. Mike became Head of the Folding Carton business in 2005. It was an interesting experience. We had to work hard to convince our Board to let us buy Gulf States. It was 125% of our equity market capitalization for starters and upon closing, I went to him and I said, well, thanks for letting us do this acquisition, but we're going to change out the entire leadership team and Mike Kiepura is going to lead the folding carton business. It was a good decision. I think more -- he'll go over some numbers, he's more than tripled the profitability of what had been a relatively, I'd say, unprofitable folding carton business. Today it has industry-leading returns, a very stable platform, a terrific business and Mike has responsibility also for essentially all of our consumer-facing businesses.

Craig Gunckel is here. Craig leads our Display business. Craig was a Regional Vice President of Sales in the folding carton business and his next job went up about 3 levels. Not a lot of people -- there's some unhappy people as he went to -- the leader of the Display business. But the reason was on that Craig went -- we had a problem with a pretty big customer and he was so big that the sales was there, Craig was there, then head of folding sales are there, the head of folding carton business was there, I was there, so this was not a happy situation. And we all just sit down and sat down and Craig fixed the problem. So I hadn't met him before, so I kind of said, who was that guy? He's really good. And so Craig has the ability with customers to absolutely convince them that there's only one person they should do business with and it's RockTenn. So we put him in a position where he could leverage that to a much higher degree.

Then you'll hear from our corrugated team, Jim Porter, Tom Stigers and Jeff Chalovich and they have been together for a long time. They were fortunate enough to team up with Steven Grossman and Jim early in the '90s, and that team essentially built the most profitable corrugated packaging business in North America has ever seen. At the time we acquired them, they had EBITDA margins of 26% and packaging of course were 19%, and the rest of the industry was significantly below that. That team is together leading a much larger platform, applying the same commercial skills and market approach and capital discipline, driving terrific returns on a much larger business as they'll explain.

John O'Neal joined the team this year. John was the Chief Commercial Officer at Mirant, so he was essentially responsible for the gross margin side of a 15,000-megawatt merchant power business. John came to us and said, I'd like to come and work with you. We've had a lot of different ways that John could contribute value, and we thought the corrugated supply chain was the most important one and that he was willing to take that job. He will explain to you what he's doing. Supply chain for us is not purchasing or procurement. Supply chain is optimizing the production of containerboard and the delivery of the containerboard through our box system, which is actually quite complex operation and one that has a lot of opportunity.

Erik Deadwyler will talk about our recycling business, which he now leads. He also took the job in July. Erik joined us in the early '90s as a Commodity -- Head of Commodity Risk Management. Our view was we needed a more sophisticated approach and daily approach to Commodity Risk Management. We had large commodity exposures. But in addition, Erik has a trading background and we were of the view that we could trade around our long positions and our short positions successfully and incrementally gain profits. We did that, very liquid markets, as you know, for fiber and containerboard. So we're never able to make a lot of money but a million here, a million there, just simply trading around the position is -- adds up over time. And as a result of success in that we put Erik over in the recycled fiber business, and he did 2 things. One was create a very low-cost trading platform, shrink a business that was not well organized or thought out, get the plants that we kept operating at a very low cost, focused on optimizing our [indiscernible] fiber out and fiber into mills and really created a very high returning but small, efficient recycled fiber business within RockTenn. In July, he went over to a much larger business, which is the Smurfit platform and he'll tell you about what he's doing today to apply that business model to the Smurfit business.

Steve will wrap up with some information, summing up our financial position, and then we'll be available for questions. So I'm going to turn it over to Steve at this time. Steve?

Steven C. Voorhees

Thanks, Jim. That's my picture. I'm Steve Voorhees. I did join RockTenn in 2000 as Chief Financial Officer. I've had at a great time as Chief Financial Officer. I'm having an even better time in my role in operations. As Jim told you, my background was more operationally oriented. And I'm just very excited and very enthused about having the opportunity to work with Mike Kiepura and Jim Porter and the rest of the team at RockTenn, going around to the facilities. We're a $9 billion company. We employ 26,000 people. We operate 213 facilities. That's a lot of facilities. Hard for me to communicate the breadth and depth of our footprint. I thought a way to start would be to take you on a short tour of 3 of our facilities. So we start by going south to Virginia, near Williamsburg. We have a mill in West Point Virginia, which is the premier white top linerboard mill in North America. The total capacity of the mill is 891,000 tons. The capacity to produce white top is a little over 700,000 tons. There's 500 employees there. The annual revenue of this facility is $550 million.

Everybody here is in finance and business, $550 million is a large business into its own. This was part of the Smurfit acquisition. It was a great asset. Smurfit didn't have the greatest reputation for the asset quality. This is a high-quality asset. We operate 9 paper mills with annual revenue in excess of $300 million, 7 of those we acquired through the Smurfit acquisition. We have 2 others, one is Solvay, near Syracuse, New York, which we acquired as part of Southern Container in 2008. We also own, I think, the best bleached paperboard mill in North America in Demopolis, Alabama, we acquired as part of the Gulf States acquisition.

Let's go to Chicago. New Lenox, Illinois is part of a 5-plant business unit in the Chicago area. The total revenue of the business unit is $300 million. Smurfit invested hundreds of million dollars in the box plant system in the second half of the last decade. One of their investments was in New Lenox. It's a great plant. It's highly conveyorized, highly automated. There's pictures of the plant in the middle 2 columns. It's a great, low-cost facility. There's 160 employees there. They produce $130 million worth of boxes. They convert 148,000 tons of containerboard per year.

Let's go to North Carolina. Marion, North Carolina, we have what we think is the most sophisticated folding carton plant in North America, serving the health and beauty aid market. We built this during 2011. The first full year of operation was 2012. It is a great facility. There's a picture there of the new 3 -- the 3-sheet fed offset process that we installed as part of the building of this new plant that we consolidated with another plant that we have in Marion. Mike will talk more about that when he's up.

New Lenox and Marion are 2 of the 77 facilities that we have that we operate that have annual sales of between $50 million and $300 million. We operate a host of other facilities. They are smaller in revenue. They are well designed to serve the markets and the customers that they serve. Examples of this would be the pre-front facilities in corrugated. We operate fulfillment locations from facilities in our Display business and recycling facilities, as well as other non-folding carton and box plants. We've got a great footprint and so that's an overview of our 213 facilities.

Each one of them provides a service or a, really, manufactures a product. You think about what you do in a corporation with 213 facilities, how do you get everybody aligned to do what you need to do? And manufacturing business there is very little, if any, room for error. If you don't make it right the first time, you make it again. You don't make it right the second time, you make it again until you get it right. And it is so competitive, if you don't get it right the first time, you've got an ongoing problem. So we started with core business principles. 12, 13 years ago, when Jim and I started with the company, and that starts with the notion of respect. So you have the objective there. We want to be the most respected company in our business. They do not give out a reward for that every year, so you don't -- we don't know, however, we know ourselves how we're doing. And what we found is if you're an employee just looking for a paycheck, you really don't want to be working at RockTenn company. We want people working to do their job as well as they can. Each one of us has jobs and you figure out how do you know whether you're doing your job well or not. The people who know it best are the people you work with every day. And we find people who want to do a good job, work for the respect of the people that they work with day in and day out. So I work very hard to achieve Jim's -- to earn Jim's respect, work very hard to earn Jim Porter, Mike Kiepura's, Steve Meadow's [ph], all the people I work with. And I find it more effective if I look at myself as, I've got to do a great job and I've got to earn the respect of the people I work with. That is very empowering throughout our company. We have a culture, which is based on disciplined execution and high performance and this is the beginning point from which we build a culture of disciplined execution and high performance.

Now you don't make boxes with respect. You make boxes because you have equipment, you operate it well and you serve customers. And when we turn to the task at hand, we need to provide superior packaging solutions to customers at very low cost. How do we do that? We invest. We look at our manufacturing processes, we look at our administrative processes to come up with the best combination that we can to be the preferred supplier at any price point. We have customers who want very low cost because they need very low cost because they're in a high-volume business and they're buying the box to protect their product, we need to be able to be the preferred supplier for that particular product. We have other customers that are looking at, at Display, help them increase sales. We need to do that. So we need to be the preferred supplier at any of our price point. We've done that very effectively over the years through our investment and our assets and our investment in our people. We have over 400 employees who have been trained in Six Sigma techniques to be able to take cost out. That's a fundamental aspect of our culture to go through and see what we can do to take tens of millions of cost out each year. And we need to do that because our costs are going up and we need to increase our productivity in order to outrun our cost increases.

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