International Paper Q3 2023 Earnings Call Transcript

Presentation

[Operator]

Good morning, and thank you for standing by. Welcome to today's International Paper's Third Quarter 2023 Earnings Conference Call. [Operator Instructions] I'd now like to turn today's conference over to Mark Nellessen, Vice President, Investor Relations.

[Mark P. Nellessen, Vice President, Investor Relations at International Paper]

Thank you, Greg. Good morning, and thank you for joining International Paper's Third Quarter 2023 Earnings Call. Our speakers this morning are Mark Sutton, Chairman and Chief Executive Officer; and Tim Nicholls, Senior Vice President and Chief Financial Officer. There's important information at the beginning of our presentation on Slide two, including certain legal disclaimers. For example, during this call, we will make forward-looking statements that are subject to risks and uncertainties. We will also present certain non-U.S. GAAP financial information. A reconciliation of those figures to U.S. GAAP financial measures is available on our website. Our website also contains copies of the third quarter earnings press release and today's presentation slides. I will now turn the call over to Mark Sutton.

[Mark S. Sutton, Chairman and Chief Executive Officer, International Paper at International Paper]

Thank you, Mark, and good morning, everyone. We will begin our discussion on Slide three where I will highlight our results. In the third quarter, our teams across International Paper executed well with intense focus on optimizing our cost structure while taking care of our customers. Looking at our performance, we delivered on the earnings outlook we provided last quarter, and we continue our efforts to drive out the highest marginal cost across our system. [Indecipherable] International Paper delivered $75 million of year-over-year incremental earnings benefits from our Building a Better IP initiatives. Year-to-date, this program has contributed $195 million in benefits, exceeding our full year target for the second year in a row.

Our performance was driven by commercial and process improvement initiatives, which I will highlight later during the call. We're also encouraged to see that the demand environment continue to recover across our portfolio in the third quarter, and we expect this trend to continue going forward. Despite these improvements, I'm not satisfied with our absolute level of earnings. Therefore, we are taking additional actions to further strengthen our businesses and improve profitability. I will share more details regarding these initiatives later in the presentation.

However, before we move off this topic, I'd like to share my perspective on the series of strategic actions we announced last week to optimize our mill system and reduce fixed costs. These actions include the permanent closure of our containerboard mill in Orange, Texas and two pulp machines, including one at our Riegelwood North Carolina mill and the other at our Pensacola Florida mill. While these actions will help us achieve our objectives, they are incredibly difficult decisions to make because of the impact in our team members, their families and the surrounding communities.

We are truly grateful to our team members at Orange, Riegelwood and Pensacola for their contributions to IP over the years, and we are committed to supporting them through this transition while continuing to serve our customers. I'd also like to update you on another strategic action completed in the quarter. We completed our sale -- the sale of our ownership interest in the Ilim joint venture in Russia. Proceeds from the sale totaled $508 million as expected. With the completion of this sale, International Paper no longer has any investment in Russia. I will now turn it over to Tim, who will provide more details about our third quarter performance and our outlook. Tim?

[Tim S. Nicholls, Senior Vice President and Chief Financial Officer at International Paper]

Thank you, Mark. Turning to our third quarter key financials on Slide four. Our earnings per share increased sequentially and came in better than the outlook we provided last quarter. We continue to optimize our system through commercial and operational initiatives, and we also benefited from lower employee benefit cost and a lower effective tax rate. Operating margins continue to be under pressure from macroeconomic headwinds, impacting sales price and volumes. However, margins improved quarter-over-quarter, driven by more favorable operating costs and lower outage expenses. Moving to the third quarter sequential earnings bridge on Slide five.

Third quarter operating earnings per share was $0.64 as compared to $0.59 in the second quarter. Price and mix was lower by $0.35 per share, primarily due to index movements across our portfolio and lower export sales prices. Volume was relatively stable overall as higher volumes across our containerboard export panel and global sales fibers business offset one less shipping day in our North American packaging business. Operations and costs improved earnings by $139 million or $0.30 per share. During the quarter, our mill system ran very well, and our teams across the businesses continued their focus on reducing marginal cost and spending.

We're accomplishing this by optimizing mix and usage of fiber and energy, reducing labor costs and over time, shifting to lower cost suppliers and driving lower distribution costs. During the third quarter, we also had lower employee benefit costs totaling about $80 million or $0.18 per share, which was in our outlook provided last quarter and will not repeat in the fourth quarter. The balance is primarily due to lower unabsorbed fixed costs related to last economic downtime across our portfolio as demand improved. Maintenance outages were lower by $36 million or $0.08 per share in the third quarter. Input costs were modestly higher as increased cost for energy and OCC were partially offset by lower cost for chemicals and wood, and corporate items benefited from a lower effective tax rate in the third quarter.

Turning to the segments and starting with Industrial Packaging on Slide six. Price and mix was lower due to index movements, lower export prices and higher export mix as demand improved. This was partially offset by benefits from commercial initiatives focused on margin improvement. Volume was stable overall despite one less shipping day in box. Containerboard shipments were higher across our export channels due to improved demand. And our daily U.S. box shipments were stable to slightly higher sequentially.

Demand for packaging was also impacted by customer inventory destocking. However, based on customer feedback, we believe this is generally completed at the end of the third quarter. Operations and costs improved earnings by $103 million. This includes the benefit of $68 million from the nonrepeat items I mentioned earlier. In addition, ops and costs also benefited from lower economic downtime in the quarter as demand improved. Our mill system continued to run very reliably and our teams across the businesses remain focused on reducing the highest marginal cost and spending while further optimizing our entire supply chain to align with the customer demand environment.

For example, by optimizing fiber, energy mix and raw materials, we have reduced the cost of economic downtime by approximately $20 million on an annualized basis. We also have significant efforts underway to improve distribution costs, including initiatives to minimize high-cost freight carriers, improve contract rates and load efficiencies and shed warehouse and demerge expenses. These efforts have lowered our supply chain costs by approximately $40 million on an annualized basis. And there's more opportunities in this area as we go forward.

Planned maintenance outages were lower by $34 million sequentially due to a seasonally lower outage schedule and our efforts to further reduce outage spending in the current demand environment. Input costs were moderately higher, primarily due to the higher costs for energy and OCC, partly offset by lower costs for chemicals. Turning to Global Cellulose Fibers on Slide seven. And looking at our third quarter performance, price and mix was lower due to price index moves, partially offset by the benefits from higher fluff mix. Volume was higher in the third quarter as demand for fluff improved.

This was partially offset by lower sales of commodity grades as we continue to focus on strategically aligning our business with the most attractive customers and segments. The destocking trend continued in the third quarter as improvement across supply chains allow customers to manage more lean inventory levels. Based on feedback from our customers and from order bookings, we believe destocking was largely completed in the third quarter. We also believe fluff demand will continue to grow over time because of the essential role that absorbent personal care products play in meeting consumer needs.

Operations and costs improved earnings by $36 million. This includes a benefit of $12 million from the nonrepeat items I mentioned earlier. Ops and costs also benefited from strong operational performance, lower supply chain costs, lower spending and higher energy sales as our teams remain focused on optimizing the entire value chain. Planned maintenance outages were relatively flat sequentially and input costs were lower by $5 million, primarily due to lower wood and chemical costs. Turning to Slide eight and our fourth quarter outlook. I'll start with Industrial Packaging. We expect price and mix to decrease earnings by $60 million as a result of prior index movement in North America and lower average export prices based on declines to date.

Volume is expected to increase earnings by $20 million due to sequentially higher box volumes despite one less shipping day and an increase in containerboard export shipments. Operations and costs are expected to decrease earnings by $10 million. This is due to the nonrepeat of favorable employee benefit costs I mentioned earlier, partially offset by lower unabsorbed fixed related to higher volumes and benefits from our ongoing cost management initiatives. Lower maintenance outage expense is expected to increase earnings by $21 million. And lastly, rising input costs are expected to decrease earnings by $10 million driven by higher OCC costs, partially offset by lower cost for energy, wood and other raw materials. Turning to Global Cellulose Fibers.

We expect price and mix to decrease earnings by $25 million as a result of prior index movements. Overall, volume is expected to increase earnings by $5 million. We expect higher fluff volumes due to improving demand, offset by lower -- of commodity grades as we execute our mix optimization strategy. Operations and costs are expected to decrease earnings by $35 million relative to the third quarter. Approximately half of this is due to the nonrepeat of favorable employee benefit costs I discussed earlier. The remainder due to higher planned maintenance outage costs in the fourth quarter. Higher maintenance outage expense is expected to decrease earnings by $28 million. Lastly, lower input costs are expected to increase earnings by $5 million. And with that, I'll turn it back over to Mark.

[Mark S. Sutton, Chairman and Chief Executive Officer, International Paper at International Paper]

Thank you, Tim, and I'll start on Slide nine. As I mentioned at the beginning of the call, we are making solid progress with our Building a Better IP program. which has delivered a total benefit of $195 million year-to-date, exceeding our original target for the second year in a row. This year, most of the benefits are coming from our strategy acceleration initiatives.. Our business teams are focused on creating value for our customers while improving the profitability of our product and service offerings by getting paid for what value we provide to our customers and by also growing in the most attractive segments with the most attractive customers and the most attractive geographic regions. We've also seen meaningful benefits from our process optimization initiatives.

By leveraging advanced technologies and big data across our large system, our teams are identifying new ways to improve productivity and lower costs. I'm excited about our progress. And in the next couple of slides, I'll share some examples of the actions our business teams are taking to drive profitable growth. Now turning to Slide 10. I'll start with Industrial Packaging. Beginning with commercial excellence, International Paper has a broad range of capabilities and segment tailored packaging solutions to serve our customers.

Our commercial teams are leveraging these advantages to improve mix by strategically aligning with the most attractive regions, segments and customers. Our teams are also using more advanced data analytics to manage product pricing across our sales territories. This allows them to capture more value for customer tailored product and service offerings. Under operational excellence, we're leveraging advanced technology and data analytics to improve efficiencies and lower cost across our large system of mills and box plants. We are seeing benefits in areas such as maintenance and reliability, raw material consumption, distribution and logistics and sourcing. And as I mentioned earlier, we're also taking actions to optimize our mill system and reduce fixed costs. The mill closures will improve -- the mill closure will improve annual EBITDA for Industrial Packaging by about $140 million. Turning to Slide 11.

I'll highlight some of the things we're doing in the area of investment excellence. Due to the attractive long-term fundamentals of our Industrial Packaging business, we believe we have investment opportunities to drive profitable growth and create significant value. Strategic capital investments in our mill system have targeted productivity improvements and product capability enhancements that align with customer needs and market trends. Added capabilities for lightweight and ultra-lightweight liners and high-quality virgin white-top products are examples of these investments. More recently, our strategic investments are focused on our box business.

These investments allow us to grow with customers and increase profitability by strengthening our capabilities, improving productivity and levering automation. We believe we can create the most value through organic investments across our large network of box plants. Examples of this include adding converting lines in existing plants and upgrading old equipment with newer and more advanced technology. For some context, the investments we have made over the past two years in existing plants is the equivalent of adding almost three average sized box plants to our system.

We will supplement this strategy with additional investments in greenfield box plants and occasionally with bolt-on M&A where we can create additional value by addressing regional needs and enhancing our business. I'd also like to recognize that in September, we celebrated the grand opening of our new greenfield box plant in Adlan, Pennsylvania, which has a great team and world-class capabilities. Our investment will allow us to optimize our network of plants in the Northeast, while providing additional capacity for future growth. In summary, we have significant opportunities to leverage these new investments as well as our market expertise to grow with customers, improve our mix and capture additional value.

Turning to Slide 12. I'll share some key opportunities in our Global Cellulose Fibers business. Over the past year, we have captured meaningful benefits from commercial actions, which contributed to our Building a Better IP results. Our commercial teams renegotiated large contracts to ensure we get paid for value that we provide. In addition, we have earned a higher premium for fluff grades relative to commodity pulps by capturing more value and aligning with those customer segments and regions who value our differentiated product and service offerings. However, the benefits of our commercial strategy are currently being masked by a very challenging and unprecedented business cycle as well as our exposure to commodity grades.

On a positive note, the market environment began recovering in the third quarter as demand for fluff pulp improved and we expect this trend to continue in the fourth quarter. Going forward, we believe there are more strategic levers to pull to increase the earnings potential of this business. Through our go-to-market strategy, we have an opportunity to improve our mix by reducing our exposure to commodity grades by serving the most attractive fluff customers and markets that allow us to maximize the value of this business. Aligned with this strategy, we are taking actions to rightsize our footprint and reduce fixed costs across the system.

As I mentioned at the beginning of the call, we announced the closure of two pulp machines which will improve EBITDA for the Global Cellulose Fibers business by approximately $90 million. I believe there's a good business within this business and that we can continue to grow earnings and cash flows over the cycle. We have talented teams with significant market expertise and a mill system with a broad set of capabilities. This allows us to create value for our customers by delivering innovation and products that meet their stringent performance and product safety standards. Now I'll turn to Slide 13.

We continue to see demand recovery across the markets we serve, and we strongly believe in the attractive long-term fundamentals of our businesses. On International Paper, we are taking actions to improve earnings and drive profitable growth. Given our strategic customer relationships, talented teams, world-class assets, market expertise and strong financial foundation, I'm confident in our value-creating opportunities and IP's continued success. And with that, we're happy to take questions. And similar to last quarter, our senior business leaders are joining Tim and I to provide their perspectives as well. So operator, we're ready to move to the Q&A section of the call.

Questions and Answers

[Operator]

[Operator Instructions] Your first question comes from the line of Gabe Hajde from Wells Fargo. Please go ahead.

[Gabe Hajde, Analyst at Wells Fargo & Company]

Hi, Good morning. Thank you for all the detail. Wanted to ask a little bit about the Orange closure and I guess as you look into 2024. I guess the first one would be, as the market, I guess, begins to recover, would you expect then, even with this closure to kind of grow with the market and again, taking into account a lot of your own commercial initiatives? Or is that something that might be a little bit of a delayed time table?

[Mark S. Sutton, Chairman and Chief Executive Officer, International Paper at International Paper]

Gabe, I'll ask Jay Royalty to comment. But at a high level, looking at all the variables around demand and our recent capacity investments that I think I mentioned in my prepared remarks, we feel good about being able to make the change and continue to grow with the market. I mean, essentially, with this level of downturn, there's been somewhat of a reset, and I think the market demand signal will engage again. And we have options for future containerboard investments. So Jay, I don't know if you want to add any commentary on how we're thinking about the near-term ability to grow.

[James P. Royalty Jr., Senior Vice President, Containerboard and Recycling at International Paper]

Sure. Good morning Gabe. Thanks, Mark. First of all, our long-term view of demand has not changed. So this was more about kind of how we see the near term and options we have. If you think about where we are, we've been matching our supply to our customers' demand and running the system as effectively as we can for quite a while now. And all along that way, we've been evaluating our options and trying to develop an informed point of view on a couple of things. One is demand and the shape of the recovery. And secondly would be where do we think the market is headed and what capabilities do we need for the future. And both of those factors influenced our decision to reset the mill system, as Mark said. We have a large, low-cost fleet with tremendous flexibility and capability. And so when you think about that, we're able to close Orange without compromising our ability to serve customers. And we have what we need for the short term and midterm. When you think about the amount of EDT, we were taking and even with this closure, we still have room to grow. And then when we think about the future, we do have options to grow in the right product ranges at the right time. And as you heard, this move in the near term allows us to run the system in a more optimized way and all-in lowers our cost structure by about $140 million.

[Gabe Hajde, Analyst at Wells Fargo & Company]

Okay. And then maybe one on the capital side. I'm assuming as you guys went through this exercise, it was just as much about maybe variable production costs as perhaps investments. But again, kind of peeking around the corner to '24, this year, you're projecting to spend a little bit above D&A. Is that something that you envision over the next at least maybe, again, '24 or '25 if you're willing to comment, given maybe throttling back a little bit during the pandemic?

[Tim S. Nicholls, Senior Vice President and Chief Financial Officer at International Paper]

It's Tim. So as you said, right around D&A and on a normalized basis, I think that's where we are for the foreseeable future, some years higher, some years lower. Haven't finished our planning work for next year yet to have a specific thought about what the level will be there. So we'll complete that over the next month or so. And then in January when release, we'll have more to say about 2024 and how we're thinking about capital at that point.

[Gabe Hajde, Analyst at Wells Fargo & Company]

Thank you.

[Operator]

Your next question comes from the line of Anthony Pettinari from Citi. Please go ahea

[Anthony Pettinari, Analyst at Smith Barney Citigroup]

Good morning, I was just wondering if you had a sort of updated view on the full year adjusted EBITDA, capex and free cash flow guide? You provided that, I think, in previous slides, if there's an updated view for '23.

[Tim S. Nicholls, Senior Vice President and Chief Financial Officer at International Paper]

Yes. We showed it at the second quarter and then third quarter actuals that we've given the fourth quarter outlook. But the short answer is there's no material change in any of the categories that we had provided a full year outlook for, and we're still solidly in the EBITDA range right in line with capital and cash flow the same way.

[Anthony Pettinari, Analyst at Smith Barney Citigroup]

Okay. That's helpful. And then in terms of box shipments, can you talk about the cadence of North American box volumes maybe during the quarter and then touch on the trends in October? And then I think seasonally, there's usually like a little bit of an uptick in September. Did you see demand that you think was stronger than normal seasonality? Or how would you sort of describe that dynamic?

[Thomas Hamic, Senior Vice President, North American Container and Chief Commercial Officer at International Paper]

This is Tom Hamic. Just in terms of demand, we troughed or had a trough in Q1, late Q4. We've seen continued improvement from the time, and that lasted through Q3. So we feel very good about the improvement through Q3. A lot of segments seem to stabilize in Q3, and we think they're going to improve in Q4. So think about beverage and processed food, really strong stabilization in Q3, improvement in Q4. In e-commerce, stabilization in Q3, improvement in Q4. So we feel good about the trend.. I think you asked about October, we're very close -- if you look at the order book, which is the best way of kind of looking forward, especially when you've got a month like October that could be a little bit misleading, I would put the order book growth at about 3% to 4%. And so we think that's going to improve as we go through the quarter. That's a sequential number. So I think 4% to 5% for the quarter sequentially. So we see these -- the segments and the market continuing to improve.

[Anthony Pettinari, Analyst at Smith Barney Citigroup]

Ok, That's very helpful. I'll turn it over.

[Operator]

Your next question comes from the line of George Staphos from Bank of America. Please go ahead.

[George Staphos, Analyst at Bank of America]

Thanks, Hi everyone. Good morning. Thanks for the details. Given the announcements earlier in the quarter as well, I just want to wish everyone the best during the management transition and Mark, especially to you for your leadership over this period. I wanted to maybe go back to the old heat map slide, the outlook slide, and just make sure that we've got this correctly. So given our very quick tally of what you meant, Tim, are we -- are you suggesting EBITDA, and I haven't done sort of the rough and ready for Cellulose Fibers, is perhaps below breakeven and overall that we might be somewhere in the 400 relative to where we were in the third quarter? And then the second question that I had in terms of businesses and profitability. Europe is not your largest business. You've been there for a while. It generated about a 10% EBITDA margin. It's still relatively small. Strategically, how do you see that business, Mark, over time? Are you happy with the profitability? And what's its real role within the IP portfolio? And I had one or two other follow-ups.

[Tim S. Nicholls, Senior Vice President and Chief Financial Officer at International Paper]

George, it's Tim. So yes, I think, generally speaking, you're in the ZIP code of how we're thinking about the fourth quarter. Of course, the IR team will talk you through all of the essentials and everything, but I think -- it sounds like you're close.

[George Staphos, Analyst at Bank of America]

And with Europe?

[Mark S. Sutton, Chairman and Chief Executive Officer, International Paper at International Paper]

Yes. On the EMEA question, we like the business. We don't like the absolute performance, but we have -- the earnings from '22 to '23 after they were hit so hard with high natural gas costs. And we've made some very successful single plant acquisitions over the last couple of years that's really built the density around the Madrid containerboard mill. So we view our Europe business as a regional strategy. It's mostly Southern Europe. We think there's growth opportunity, but it's largely going to continue to come in that region. We think it has a long-term growth potential. It's a very attractive market. EBITDA margins to get good returns in Europe, George, remember, can be a bit lower than we used to seeing in the U.S. because of the mill structure being mostly recycled, you have a lot less capital employed to generate the revenue line. So if you like 20% EBITDA margins here, low to mid-teens gets you the same return on invested capital. So it's a different capital structure. And we have a $1.5 billion business from a revenue basis there. So in the regions that we're in, we have pretty significant positions like the Iberian Peninsula, Morocco, we're a leader. We're significant in Italy and France. So I think long term, it fits IP and it gives us some growth vectors in the packaging business that obviously is most of our company now.

[George Staphos, Analyst at Bank of America]

Understood. My follow-on question, just for the fluff pulp business, the machine closures that you announced, how quickly will that benefit the results within GCF? And in your longer-term outlook and your view that it's still got opportunities to create value what effect, if any? How have you thought about perhaps some of the -- I mean, it's come up in the past in calls, the potential from eucalyptus-based fluff, which there seems to be a bit more interesting again. How much does that take from the market if the market grow sufficient so that you can keep growing and take advantage of all the commercial opportunities you have? Thank you gentlemen.

[Clay R. Ellis, Senior Vice President, Global Cellulose Fibers at International Paper]

George, this is Clay Ellis. I'll be happy to try to take a stab at your questions. Good morning.Yes. I think the machine closures will occur in the fourth quarter. We'll have some residual personnel costs that extend into the first quarter of next year as we train and move folks around in that. But overall, that will mostly be completed in the first quarter. And so I think that we'll see the benefits immediately, and the benefits will ramp as you go through '24. And we still have -- at Riegelwood, we will have a little bit of optimization work to do. Very minimal cost that will have a big payback in getting our cost per ton to optimize there. That will all happen early in '24. You're going to -- your comment on short fiber or eucalyptus is fluff. So Eucafluff has been out, I think, most of this decade, seven, eight years. It's been in the market and been a pretty relatively small amount of the market hasn't had significant growth. To your point, there's interest and concern and I think there always has been. I think as prices create -- when prices got high and supply chains were constrained last year, there were probably more interest in it at that point about how do we look at a short fiber differently or more seriously. Again, we have that baked in. We think that the long-term view of fluff pulp and the growth, it is consistent in the future as it has been in the past. Long fiber has -- is the reason why it's 90-plus percent of the market and we think it will relatively stay in that range. And so it does interiorly change our view or outlook of the future.

[George Staphos, Analyst at Bank of America]

Thank you Clay, Thank you Jay..

[Operator]

Your next question comes from the line of Mike Weintraub from Seaport Research Partners. Please go ahead.

[Mike Weintraub, Analyst at Seaport Research Partners]

Good morning. A few follow-ons, if I could -- just clarifications really and hopefully, I'm not splitting hairs here. But first of all, on that question on the bridge for EBITDA for the fourth quarter, you gave us very specific numbers. And if I just take the $590 million you had in the third quarter, and I think there's basically $117 million difference from what you -- the numbers you provided for 4Q guidance, that puts me in the upper $400 million as opposed to just more generically in the $400 million. Is that fair?

[Tim S. Nicholls, Senior Vice President and Chief Financial Officer at International Paper]

Yes, that's fair, Mark.

[Mike Weintraub, Analyst at Seaport Research Partners]

Okay. And then second, on Orange, so the $140 million, does that primarily show up in 2024 as well? Or does it start to show up in the fourth quarter? And just related to that, is Orange down now? Or when does that get closed?.

[James P. Royalty Jr., Senior Vice President, Containerboard and Recycling at International Paper]

This is Jay. So we're working through the early stages of the transition. And obviously, there's a wind down that is underway as we speak. It's not down at this point. We do have to transition business and transition customers and work through all of the dynamics, but it did -- all of that will be complete in the fourth quarter. So we would expect to see that type of EBITDA impact fully recognized in 2024.

[Mike Weintraub, Analyst at Seaport Research Partners]

Okay. Super. And then maybe just a little bit of color. You talked about the export -- containerboard export business getting better. And to a certain extent, that sort of led us down. And we've had much more price erosion there than in the domestic business. Maybe if you can just provide a little bit more color on what you're seeing there? And are we -- I mean, again, Pulp and Paper Week posted prices lower in their review of what was going on with export pricing. Can you give us your protective on what's happening kind of real time in those markets?

[James P. Royalty Jr., Senior Vice President, Containerboard and Recycling at International Paper]

Sure, Mark. This is Jay again. If you go back to the last call, we spoke about starting to see some improvement in the export markets, and that definitely continued in the third quarter. So when you think about the major markets we serve, Latin America, Europe, Asia, we've seen inventories normalize in all of those markets at this point, and we see demand continue to improve. Latin America continues to be very solid as we saw in the second quarter, and that's being driven by bananas and pineapples, melons, these types of products, so very resilient. Europe, we saw a shift in a positive direction in the third quarter, rebounding, and that's been for an vet-driven as well, really in anticipation of a much better agricultural season beginning in early '24 -- late '23, early '24 versus last year. Asia is a market that continues to lag a bit, but we're seeing recovery there as well. And so when you look at all of that and look through the fourth quarter, we see strong order books all the way through the end of the year. So we believe we've seen demand bottom and the outlook is certainly more encouraging.

[Mike Weintraub, Analyst at Seaport Research Partners]

Okay. Great. And I recognize you guys aren't going to forecast prices here, but it doesn't seem that this demand improvement has translated yet into better pricing. Is that a function of more supply out there chasing this business? Or any color you could help us with in that regard..

[James P. Royalty Jr., Senior Vice President, Containerboard and Recycling at International Paper]

Yes. I mean, you have to see demand improvement to see the market turn. We're seeing that. There still is a supply-demand imbalance, but that's shifting both because of actions that are being taken on the supply side as you know about and also this demand improvement. So at this point, we're -- as I said, we think we've seen demand bottom. The outlook's more encouraging. We'll see where it goes from here.

[Mike Weintraub, Analyst at Seaport Research Partners]

Ok, Much appreciate it.

[Operator]

Your next question comes from the line of Mike Roxland from Truist Securities. Please go ahead.

[Mike Roxland, Analyst at Truist Securities]

Thank you Mark and Tim. Thank you for taking my question. Just have one quick follow-up on the Orange Texas closure. I do appreciate Jay's comments around that mill. But I do believe you mentioned a few quarters ago that a permanent capacity adjustment was not on the horizon. So I'm wondering what's transpired or what's happened in the last few quarters that have changed your approach? And then to think about your portfolio more broadly, to the extent you can comment, and realizing that may be difficult on this type of forum, but on your additional similar opportunities to further rationalize your portfolio?

[Mark S. Sutton, Chairman and Chief Executive Officer, International Paper at International Paper]

Mike, I'll take the first part and -- because I'm the one who said we didn't have any permanent closures on the horizon. I think what I said was we look at permanent closures around secular declines, and we don't believe we have that. I think what's changed is the depth and duration of this downturn. It's not like anything we've seen since we built the Industrial Packaging business starting in the mid-2000s. And we also -- and Jay mentioned this, we also have a long-term plan for that business and the kinds of containerboard we need to make for the future in some cases, is different than the containerboard we make today. We invested in high-quality white top at our Riverdale mill. That's a future-looking product that makes bleached pulp containerboard, not using recycled. So high quality. We've got basis weight and high-performance lightweight needs that our system can address today for the future. So I think part of what allowed us to make this decision is the depth of this downturn, the duration and the fact that we need over time to change our product offering that we make boxes out of. So we're taking this opportunity to do a reset and then we have to get the timing of any future investment right. But that's what's changed. We still believe in the long-term fundamentals, as Jay said, about growth. two quarters ago, I would not have thought we were still in this type of demand environment taking this type of economic downtime.

[Mike Roxland, Analyst at Truist Securities]

Got it. And then, Mark, appreciate the color, just my second part of that question in terms of additional opportunities you may have or similar opportunities in the portfolio, similar to Orange that you could rationalize, where does that stand?.

[James P. Royalty Jr., Senior Vice President, Containerboard and Recycling at International Paper]

This is Jay. We've made this announcement. We came to it through a very thorough and extensive evaluation of both the commercial side as well as our fleet and capabilities. We're very comfortable with the decision that we've made and how it sets us up for the future. We still have room to grow. And we're in this business to win and to grow and a system that we will have moving forward will enable us to do that.

[Mike Roxland, Analyst at Truist Securities]

Got it. Okay. And then just one quick follow-up, Mark. Can you help us understand the company's approach just going forward with despite the cost takeout and driving efficiencies. Obviously, kudos to you and the entire team are doing a terrific job with Building a Better IP initiative. But how do you ensure that as the -- how do you ensure that you and the team remain laser-focused on cost removal and improving efficiency, particularly as the cycle starts to inflect and demand gets to more notably improve?

[Mark S. Sutton, Chairman and Chief Executive Officer, International Paper at International Paper]

That's a great question, Mike. As part of the cost takeout is something that no one's really had to do before, meaning we had a four-year high inflation that's gotten stuck into a lot of our inputs. So that becomes, not just using less, but that becomes a real commercial challenge just like with our customers on the sales side. In our global sourcing world, no one wants to give back any of the pricing they were able to get through '21, '22 and early '23. So positioning ourselves as a large buyer of all of these inputs and to some extent -- to play hardball and getting some of that cost out. We put everybody in the company on clear directions around what our EBITDA -- needs to be to get the kind of margins that drive the kind of returns on invested capital. And what that does for us is we need to be here and we're -- we have a gap. So everybody has a role to play in closing that gap. And the cost takeout of inputs, especially including distribution and logistics and things that are at levels that we've never seen before and stubbornly staying at those levels, can't cover all of that just with higher prices revenue because you run into all these other strategic issues like substitutions. So we've got to work on all of it. But that's really the approach is to take out some of the things that have found their way in and have become a bit structural, but do it in a very analytical and organized way and then divide and conquer so we can close the gap. Much of what we've had success, you mentioned, build a better IP, that is a very focused formal initiative unique to IP initiatives. It's not -- they're not dependent on the market per se, but a very focused process. We plan on using that same process to continue. We won't name it, and we won't call it and we probably won't reward on it. But what you should hopefully see as analysts and investors on the call is improved earnings quarter after quarter after quarter, but we're going to use that same rigorous approach. We have some outside help in setting it up. We're running it entirely in-house now, and we plan on continuing to do that to get the cost take out.

[Mike Roxland, Analyst at Truist Securities]

Very helpful. Good luck in 4Q. Looking forward too.

[Mark S. Sutton, Chairman and Chief Executive Officer, International Paper at International Paper]

Thank you.

[Operator]

Your next question comes from the line of Phil Ng from Jefferies. Please go ahead.

[Phil Ng, Analyst at Jefferies Financial Group]

Well, first off, Mark, I want to thank you for all your great insights over the years, and I appreciate the leadership. So my first question is, the company has always had a deep bench of senior executives that you've moved around nicely. What's the game plan in terms of the succession plan, thought process of internal versus external? And when the Board is looking for the next candidate, any characteristics that stand out that they're looking for?

[Mark S. Sutton, Chairman and Chief Executive Officer, International Paper at International Paper]

It's a great question, Phil. When we put out the announcement to notify publicly that we were moving to the kind of last phase, we have a multiphase process like most public companies do, and it's a multiyear process for leadership succession, Chief Executive Officer and also senior leader succession. The Board is working very hard, and I'm obviously on the Board and working with them, to make the best possible selection from the next leader of IP from both our internal talent. As you said, we have tremendous talent in the company. But again, good governance and the best practice is also to look exhaustively at outside talent. And one thing to just remember on it, we're making progress, but the Board is not looking to replace me. They're looking to find the next leader for IP for the future. And when you think about what the future holds with respect to technology, with respect to what's happening in markets, the changing workforce, we built the specification about the leader we think we need for the future of the company. And that's what the Board is laser-focused on. They're working hard on it. They're doing a great job with it. And we will get to a point where when we have something to report, we will. But I think the process we're using, high likelihood we come out with a great choice for the next year for IP. But that's really the focus and how we're approaching it from the process standpoint.

[Phil Ng, Analyst at Jefferies Financial Group]

Okay. That's great color. Year-to-date, you guys have taken about 1.5 million tons of economic downtime in containerboard. Orange, I think, is about 800,000 tons of capacity. So when you take that capacity out, do you effectively reduce your economic downtime by half next year, assuming demand is stable to growing? And would that be additive to, I guess, the $140 million of savings you called out? I mean, any color on the EBITDA impact, I guess, this year from the economic downtime would be helpful as well.. Thank you.

[James P. Royalty Jr., Senior Vice President, Containerboard and Recycling at International Paper]

Phil, this is Jay Royalty. Your math is good. That's how the math works. But we are in a transitional situation. And I think you've heard both Tom and I talk about the improving demand trajectory. So obviously, with this move, it still leaves us some flexibility. It still leaves us some room. We won't change anything about how we're operating to make the cost of that flexibility to minimize the cost of that flexibility. But as we get our commercial analysis, and we worked very closely together on this in terms of the outlook, we're very comfortable that our commercial plans, our commercial execution and what we're doing -- what Tom's doing in the box business and what we're doing in the containerboard business that we need that flexibility and we need that capacity for how we see the future. So that's where we are.

[Phil Ng, Analyst at Jefferies Financial Group]

But Jay, am I interpreting correctly, any improvement in economic downtime would be additive to that $140 million in cost savings? And any way to size up how much of an EBITDA impact it's been this year so far?

[James P. Royalty Jr., Senior Vice President, Containerboard and Recycling at International Paper]

$140 million is the number that we've put out there in terms of the EBITDA impact, but yes, there would be further benefit from taking up that economic downtime or eliminating that economic downtime.

[Phil Ng, Analyst at Jefferies Financial Group]

Ok, I appreciate it.

[Operator]

And your final question today comes from the line of Matthew McKellar from RBC Capital Markets. Please go ahead.

[Matthew McKellar, Analyst at RBC Capital Markets]

Hi, Good morning. Thanks for taking my questions. It sounds like you're looking at opportunities to further optimize your cost structure in Global Cellulose Fibers. Are you able to provide a bit more detail on what opportunities still exist there and whether you're maybe looking to either further capacity actions or capital investments that could drive stronger cost performance? And then when you think about what can drive your current run rate in that business to achieving above cost of capital returns, how do you think about the relative importance of optimizing that cost structure versus other factors like achieving more favorable production mix or driving stronger pricing?

[Clay R. Ellis, Senior Vice President, Global Cellulose Fibers at International Paper]

Yes. Thank you, Matthew. This is Clay. It's a great question. Part of the moves that we made with Pensacola and Riegelwood has a cost structure implication. Pensacola machine was a high-cost machine. So that's part of it. We talked about Riegelwood, although it has flowing capacity, over the past couple of years, the majority of that machine was use for not fluff, but for market pulp -- softwood market pulp. So that has a cost implication as well as a mix implication. So the benefits there are both in cost and in mix. If you think about going forward, what are the opportunities in the business, I think as we would -- as I would prioritize our cost opportunities, it's first in supply chain. With last year, 2022, a lot of things were put in place as we export 90% of our volume globally to get that volume out to serve our customers between warehousing and container freights in various methods. It increased our supply chain costs. We are unwinding those warehousing in different modes.

Of course, costs are coming down in freight rates, ocean carrier rigs. So that's very helpful, but also the things that we did uniquely that we can unwind uniquely. That's probably been a big driver, being the biggest driver and will continue to be a very big driver. We have more to optimize there. I think capacity, I think again, as we see the growth of fluff in the kind of historical ranges -- fluff -- we want to continue to -- we want to optimize our machines on fluff. I think mix is the biggest opportunity. As you mentioned, is it cost? Is it price? Is it mix? Mix is the opportunity and in price or bigger opportunities then we don't feel like we're disadvantaged in a cost of manufacturing or even a supply chain cost. It's -- so there's obviously a benefit there. There's opportunity there, but mix and price would be after we're optimizing this move mix and prices is clearly the drag.

[Matthew McKellar, Analyst at RBC Capital Markets]

Maybe sticking with Pensacola. I think you also produce containerboard at that site. How does taking capacity down in the pulp side affect the cost profile of that mill, if at all?.

[James P. Royalty Jr., Senior Vice President, Containerboard and Recycling at International Paper]

Yes. So this is Jay Royalty. So there's clearly -- there are clearly costs there that the containerboard business has to bear as a consequence of that move, just -- a little perspective on how we think about Pensacola. Pensacola is a unique asset within our portfolio. It's globally competitive lightweight kraftliner really serving all the channels of both domestic export and as well as NAC. And if you think about the grade range that we have there, it goes from about 20 pounds to the mid-30s, so definitely differentiated from a lightweight standpoint. If you look at it on a traditional cost curve, it's right in the middle of the pack, but that's not -- on a per ton basis is not really the right way to look at a mill like Pensacola. You have to look at it on an area basis, which is the way boxes are made and sold. And Pensacola is a very capable machine. It's a wide machine. It's a well-equipped machine. It's got significant output, about 550,000 tons, which is significant, particularly when you consider that basis way. And the capabilities at Pensacola, from our perspective, really match where the market is heavy. Demand is high and growing for these lighter weight products. And also in the context of being a single machine mill, we have other mills that are single machine mills that are competitive and successful, and we expect Pensacola to be no different in that regard.

[Matthew McKellar, Analyst at RBC Capital Markets]

Great Thanks for the detail.. And then last one for me, and you touched on this as part of your response to Anthony's question, but last quarter, you showed a slide that indicated where your customer inventories were versus target levels broken down by customer segment. And it sounds like destocking has generally run its course. But if you were to run that same analysis today, do you think all customer segments would show inventories at or below target levels? Are there any segments, particularly within North America here where destocking could still be a factor in the fourth quarter?

[Thomas Hamic, Senior Vice President, North American Container and Chief Commercial Officer at International Paper]

Matthew, this is Tom Hamic. I think you're accurate in saying that the destocking is generally over. We actually forecast -- we actually went out and talked to customers. We do that quarterly to get an idea of inventory levels. And the data came back, exactly like we're saying, is a dramatic shift over the last three quarters in terms of stock levels. In fact, in many cases, anecdotally, we're hearing people have oversteered a bit. And if you look at our order patterns in certain markets, it looks like that Europe -- we're seeing more rush orders more volatility in orders and so you can kind of picture them balancing along the bottom. So we think in many cases, it's more than healthy relative to future box demand. But all indications so far is exactly what you said.

[Matthew McKellar, Analyst at RBC Capital Markets]

Thank you very much. I'll be at the back.

[Operator]

Thank you. I'll now turn the call back over to Mark Sutton for closing comments.

[Mark S. Sutton, Chairman and Chief Executive Officer, International Paper at International Paper]

Thank you, operator. I want to thank everybody for your time today and for your interest in International Paper. I look forward along with the leadership team to update you on our progress on our next call at the end of January. So have a great rest of the day. Thank you.

[Operator]

[Operator Closing Remarks]

Participants

Corporate Executives

• Mark P. Nellessen, Vice President, Investor Relations
• Mark S. Sutton, Chairman and Chief Executive Officer, International Paper
• Tim S. Nicholls, Senior Vice President and Chief Financial Officer
• James P. Royalty Jr., Senior Vice President, Containerboard and Recycling
• Thomas Hamic, Senior Vice President, North American Container and Chief Commercial Officer
• Clay R. Ellis, Senior Vice President, Global Cellulose Fibers

Analysts

• Gabe Hajde, Wells Fargo & Company
• Anthony Pettinari, Smith Barney Citigroup
• George Staphos, Bank of America Co.
• Mike Weintraub, Seaport Research Partners
• Mike Roxland, Truist Securities
• Phil Ng, Jefferies Financial Group Inc.
• Matthew McKellar, RBC Capital Markets