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Edited Transcript of RFP earnings conference call or presentation 2-Aug-18 1:00pm GMT

Q2 2018 Resolute Forest Products Inc Earnings Call

Montreal Aug 15, 2018 (Thomson StreetEvents) -- Edited Transcript of Resolute Forest Products Inc earnings conference call or presentation Thursday, August 2, 2018 at 1:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Jo-Ann Longworth

Resolute Forest Products Inc. - Senior VP & CFO

* Silvana Travaglini

Resolute Forest Products Inc. - VP of IR & Treasurer

* Yves Laflamme

Resolute Forest Products Inc. - President, CEO & Director

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Conference Call Participants

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* Hamir Patel

CIBC Capital Markets, Research Division - Director of Institutional Equity Research & Paper and Forest Products Analyst

* Paul C. Quinn

RBC Capital Markets, LLC, Research Division - Analyst

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Presentation

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Operator [1]

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Good morning, ladies and gentlemen. Welcome to the Resolute Forest Products Second Quarter 2018 Earnings Conference Call. (Operator Instructions) Please note that this call is being recorded today, August 2, 2018, at 9:00 a.m. Eastern Time.

I would now like to turn the meeting over to Ms. Silvana Travaglini, Vice President. Please go ahead.

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Silvana Travaglini, Resolute Forest Products Inc. - VP of IR & Treasurer [2]

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Thank you. Good morning. Welcome to Resolute's second quarter earnings call. Today, we'll hear from Yves Laflamme, President and Chief Executive Officer; and Jo-Ann Longworth, Senior Vice President and Chief Financial Officer. You can follow along with the slides for today's presentation by logging on to the webcast using the link in the presentations and webcast page under the Investor Relations section of our website, or you can also download the slides. Today's presentation will include certain non-U. S. GAAP financial information. A reconciliation of those non-GAAP numbers to U.S. GAAP financial measures is included in our press release and in the appendix to the slides. We will also make forward-looking statements. Forward-looking information is based on our current assumptions, beliefs and expectation, all of which involve a number of business risks and uncertainties and can change as conditions do. Please review the cautionary statements in our press release and on Slide 2 of today's presentation.

I will now turn the call to Yves.

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Yves Laflamme, Resolute Forest Products Inc. - President, CEO & Director [3]

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Good morning. Thank you for joining us today. Driven by the positive price momentum for pulp and lumber as well as improving paper prices, we achieved record earnings this quarter with adjusted EBITDA of $172 million, up 59% compared to $108 million generated in the first quarter. All our businesses delivered improved results, leading to the generation of nearly $160 million of cash flow this quarter and allowing us to significantly improve our leverage by repaying $105 million of debt.

Our second quarter results also benefited from increased shipments and improved operational efficiency and lower energy expenses more than offsetting the impact of planned maintenance outages and the rise in market-related fiber costs. While freight constraints eased during the quarter, overall transportation expenses remained unchanged as freight rate pressures persisted. We reported EBITDA of $49 million in market pulp, up $9 million from the first quarter. For tissue, which includes Calhoun results for the first time, we incurred negative EBITDA of $5 million. Wood products contributed $86 million, up $25 million; newsprint $35 million, up $23 million; and $60 million in specialty papers, an improvement of $11 million against the previous quarter.

Let's review our individual segments starting with market pulp. More shipments of chemical pulp increased by 3% in the quarter compared to the year-ago period. Shipments to China and Western Europe were up 12% and 3%, respectively, while shipments to North America fell by 5%. Softwood shipments were 3% higher this quarter reflecting an increase in shipments of 14% to China and 1% to Western Europe, offset by a decrease of 3% in North America. Softwood mills ran at 91% shipments to capacity ratio. World shipments of hardwood also rose 3%, led by an increase in shipments to China and Western Europe of 9% and 5%, respectively, while shipments to Northern America dropped by 8%. Hardwood mills were at 88% shipments to capacity ratio. Pulp markets remained strong in the second quarter reflecting the maintenance outage season on planned downtime globally and continued growth and demand. Benefiting from further market price increases that cover all our pulp rates, price realizations were up $37 per metric tons compared to previous quarter, and were over $150 per ton higher since the beginning of 2017.

Despite improved operational efficiency, pulp shipment were lower this quarter, largely due to the scheduled maintenance downtime at our Catawba and Calhoun pulp mills. We also built inventory at Saint-Félicien ahead of a 35-day outage starting in September for our major strategic project that will increase the mills production, capacity, decrease cost and further reduce greenhouse gas emissions by the end of 2019.

For the second quarter, total tissue consumption in the United States grew by 1.6% compared to the same period last year. Converted product shipments increased 1.8% as a result of higher away-from-home sales, up 2.7%, while at-home improved by 1.4%. If we were to include Calhoun's first quarter results, previously recorded as start-up, our overall tissue sales rose by 5%. We grew sales volume, secured new business and improved our product mix by shifting for more volume towards converted products, almost 20% higher leading to an increase in the realized prices. While we increased volume and improved the operation of the Calhoun tissue machine, we experienced operational challenges with the ramp-up of the converting lines. As a result, cost remained elevated, and we incurred a negative EBITDA of $5 million for the tissue segment.

U.S. housing starts averaged 1,262,000 units on a seasonally adjusted basis this quarter, down 5% from the previous quarter. This decrease is entirely driven by multi-family starts, down 16%, while single-family start, which comes to [Muhlenberg] remained relatively unchanged. Housing starts in the U.S. on a seasonally adjusted basis were 7% higher in the first half of the year compared to 2017. Positive pricing trends continued in the second quarter with preference lumber prices rising to record highs. As a result, our average transaction price increased by 12% compared to the first quarter to $514 per thousand board feet, a $128 more than a year ago.

Shipments were also higher this quarter as railcar availability improved leading to a 12 million board feet increase in finished goods inventory. While sales activity slowed towards the end of the quarter, our overall shipments were 494 million board feet. The number of buckets has weakened recently as significant first quarter inventory accumulation hit the market, mainly from Western Canadian producers. Nevertheless, we achieved a record EBITDA of $86 million in the segment for the quarter.

North American demand for newsprint declined 8% in the second quarter of 2018 compared to the same period last year, driven by a 9% drop in demand from newspaper producers and a 7% reduction from commercial printers. Industry position was also lower, down 6% contributing to a North American shipments to capacity ratio of 96%, up from 92% in the year-ago period.

Global demand for newsprint was down 9% in the second quarter of 2018 compared to the same period last year, with Asia down 9%, North America 8% and Western Europe 8%. Despite continued declines in demand, the World newsprint shipments to capacity ratio was 92%, as a result of substantial capacity reduction in 2017.

During the quarter, the supply-demand balance remained favorable. Further price increases were realized across all markets with same timing -- with some timing lags in export market pricing. As a reminder, export fees represent approximately 40% of our overall newsprint volumes. Our average transaction price rose $26 in the quarter to $584 per metric ton, $75 more than a year ago. Our shipments also rose this quarter, mainly due to the easing of transportation constraints and the timing of export sales in the first quarter. North American demand for uncoated mechanical paper was down 4% in the second quarter of 2018 compared to the year-ago period. Lower demand for standard grades drove this decline decreasing 10%, while the demand for supercalendered grades was up 2%.

North American industry position for the quarter remained relatively unchanged. Compared to the year-ago period, the operating rate improved from 90% to 91%. Coated mechanical demand was down 5% in the second quarter compared to the year-ago period. North American production was down even more by 16%, resulting in an industry shipment to capacity ratio of 94%, up 3% compared to 2017.

Our average transaction price for specialty papers increased by $26 per short ton compared to the previous quarter as market dynamics remains favorable. Shipments were marginally lower this quarter. Productivity gains were not sufficient to offset the lost production stemming from the schedule of outages at our integrated Catawba and Calhoun mills.

In July, The United States Department of Commerce revoked the countervailing duty order on supercalender paper from Canada retroactive to August 3, 2015. Collection of cash deposits on the imports of SC paper from Canada ceased and all of the $60 million of cash deposit previously paid will be returned with interest in the coming months.

As a reminder, the $60 million SC duty deposit are recorded on our balance sheet and have been reclassified to current assets.

Starting on May 16, Commerce also suspended the collection of countervailing duty deposit on uncoated groundwood papers from Canada until a final rate is published and the International Trade Commission confirms an injury determination expected sometime in September.

We continue to play an active role in broad-based coalition in the U.S. opposition to these duties.

In July, we were pleased to see strong opposition voice into the U.S. International Trade Commission at their public hearing, where 19 member of the U.S. Senate and House attended and many others submitted formal testimony. In oath in total, over 150 members of the U.S. Senate and House have now taken a position against uncoated groundwood duties.

On the labor front, the unionized employees at 6 of our sawmills representing about -- representing almost 50% of our total lumber production capacity recently voted in favor of a 4-year renewal of the collective agreement. This builds on an agreement reached earlier this year with 8 of the company's Canadian pulp and paper mills. We believe that a stable work environment provides the company with competitive advantage in attracting and retaining our workforce much early in today's challenging labor markets.

I will now let Jo-Ann discuss our financial performance before I conclude with our outlook.

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Jo-Ann Longworth, Resolute Forest Products Inc. - Senior VP & CFO [4]

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Thank you, Yves, and good morning, everyone. Today, we reported net income of $72 million for the second quarter or $0.77 per diluted share. Excluding special items, net income was $66 million or $0.71 per diluted share. This compares to net income, excluding special items of $17 million or $0.18 per share in the previous quarter and a net loss, excluding special items of $3 million or $0.03 per share in the same period last year.

Total sales in the second quarter were 12% higher reaching $976 million, largely due to higher pricing across all of our business segments. Overall, pricing had a $58 million favorable impact on sales as well as EBITDA. Following shipment delays mainly related to transportation disruptions in the first quarter, sales volume increased by 11% in newsprint and 9% in wood products, effectively eliminating the buildup in finished goods inventory in the first quarter. Despite productivity gains, volumes in pulp and specialty papers were lower mainly due to scheduled maintenance outages at our Catawba and Calhoun pulp and paper mills.

After removing the effects of volume and foreign exchange, our manufacturing costs increased by $10 million from the first quarter. This increase reflected higher maintenance and labor cost resulting from the planned outages and an increase in market-related fiber costs, offset in part by lower energy costs, largely seasonal and favorable fiber usage. Compared to the first quarter, market pulp's all-in cash cost increased by $10 per metric ton, mostly because of the scheduled outages and a 25% rise in recovered paper prices at our recycled pulp mills, offset in part by lower fuel and wood cost mainly attributable to improved efficiency. Sales price gains outweighed higher costs and lower volumes, resulting in EBITDA of $49 million in the quarter or $137 per metric ton, up from $110. Cash costs in our tissue segment increased, primarily due to the inclusion of the Calhoun operations for the first time. If we were to include Calhoun's first quarter results in the tissue segment, EBITDA improved by $3 million due to an increase in realized pricing, combined with lower costs.

In wood products, the cash cost increased by $15 per thousand board feet compared to the previous quarter. Higher market-based stumpage fees, a rise in diesel fuel prices and an increase in maintenance activity led to the higher costs. Sales prices and volumes more than compensated leading to a $40 per thousand board feet rise in EBITDA to $174. Newsprint's cash cost decreased by $28 per metric ton to $496 in the second quarter, mainly due to higher volumes and a reduction in energy expenses offset in part by a higher planned maintenance.

With prices increasing by $26 per metric ton, EBITDA rose from $12 million to $35 million for the quarter, equivalent to $88 per metric ton. The cash cost in specialty papers also decreased by $13 per short ton to $644, as improved efficiency led to lower fuel costs. Combined with the increase in realized pricing, EBITDA rose by $11 million or $39 per short ton compared to the previous quarter.

During the quarter, we generated $158 million of cash from operations reflecting strong profitability and a seasonal decrease in log inventory. This allowed us to replay $105 million under our revolving credit facilities reducing total debt to $675 million at quarter end, and improving liquidity to $517 million. Our net debt-to-capital ratio declined from 32% to 28% and the trailing 12-month net debt-to-EBITDA ratio dropped to 1.3, further improving our financial flexibility. While capital spending was $53 million for the first half of 2018, we expect to invest $150 million for the full year lower than our previous guidance of $175 million due to the timing of spending on certain projects.

Our capital expenditures this year includes strategic investments to improve productivity and yields at our sawmills, increase pulp production and reduce costs at Saint-Félicien as well as cost saving projects at Thunder Bay and our Calhoun tissue mill. Cash duty deposits increased by $16 million compared to the previous quarter, mainly due to higher lumber sales and timing of payments. For the quarter, cash deposits of $37 million were paid for a cumulative total of $133 million recorded on our balance sheet, including $67 million for softwood lumber, $6 million for uncoated groundwood paper and $60 million for supercalender paper, which will be refunded to us in the coming months.

Our net pension and OPEB liability on our balance sheet decreased by $54 million this quarter reflecting pension contribution and OPEB payments of $33 million and the favorable impact of foreign currency. The associated pension and OPEB expense included in adjusted EBITDA was $10 million in line with the previous quarter.

Our pension and OPEB guidance is unchanged for 2018 at $125 million of pension contributions and $15 million of OPEB payments with a corresponding expense included in adjusted EBITDA of $40 million.

I will now turn it back to Yves for concluding remarks.

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Yves Laflamme, Resolute Forest Products Inc. - President, CEO & Director [5]

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Thank you, Jo-Ann. We remain optimistic about our pulp business through the third quarter given the systems trend and demand. Our favorable outlook is supported by further price increases typically reported for each of July and August. During the quarter, we announced an investment at our Saint-Félicien mill, which will increase annual pulp capacity by 27,000 metric tons by the end of 2019. The 30-day outage required to complete these projects will decrease pulp production by approximately 20,000 tons in the third quarter and 12,000 tons in the fourth quarter. While we continue to improve market penetration for our converted tissue products, our focus is now improving productivity to support our growing sales volume.

Costs are expected to remain challenging until we achieve a sustained level of daily targeted production. Due to inflationary cost pressures, we informed our customers that price increases will then be implemented on our away-from-home products starting in August. Despite the recent weakening, we believe the underlying market fundamentals for lumber will support healthy operating results in the medium term as housing starts continue their gradual recovery.

For paper, reduced industry capacity has created a favorable supply and demand balance in a structurally declining market, and we expect a solid third quarter. As previously reported, further price increases have been announced in the third quarter for all coated, uncoated, mechanical and uncoated freesheet papers. In addition, we are making steady progress to improve productivity, and reduce costs as we continue to optimize our specialty paper operations.

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Silvana Travaglini, Resolute Forest Products Inc. - VP of IR & Treasurer [6]

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This concludes our formal presentation. Operator, we will now open the call for questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Your first question comes from the line of Paul Quinn from RBC Capital Markets.

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Paul C. Quinn, RBC Capital Markets, LLC, Research Division - Analyst [2]

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I think you had some transportation issues in Q1. Just wondering what you're seeing overall in transportation in terms of cost inflation on a year-over-year basis? Is that kind of like 10% number? Or is that more or less 5%?

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Yves Laflamme, Resolute Forest Products Inc. - President, CEO & Director [3]

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Yes, I think that -- we explained -- the problem we've had in the transportation in the first quarter was related to cost, but also related to equipment supplies, like rails that we had to move from rails to trucks to deliver the products and during winter time. So we've made a lot of changes and improvement on that side, which should have shown an improvement in our freight cost. But unfortunately, those improvements have been kind of swallowed by the -- still have some issue mostly in the northwestern territory in rail supply and, of course, also the increase in rail starting in April that kind of erased a good -- the good work that has been done in management to manage better freight costs. So that's the answer I would have that unfortunately, those freight are going to be there at least for the rest of the year, so that gives you a pretty good sense of where we're heading to for the year.

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Paul C. Quinn, RBC Capital Markets, LLC, Research Division - Analyst [4]

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Okay. And then just looking at the tissue business, I mean, negative $5 million in EBITDA is not probably the result you were looking for. But where are you at in the ramp up of the Calhoun? What's the trajectory for this segment going forward here?

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Yves Laflamme, Resolute Forest Products Inc. - President, CEO & Director [5]

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I think, as far as Calhoun, we -- I mean, the reason why first of all, we have the Calhoun's result in this quarter is we feel as far as the quality of the products and also as far as the tissue machine and productivity, we're pretty much where we should be in the ramp up as forecasted. So sales improved a lot. We got orders. We're ramping north of the right side. So the issue we have now is mostly reflecting the results we have in Calhoun is the -- the converting is not where it should be. So we have kind of the, I would say, kind of the, a little bottleneck now between the tissue machines and the end products to supply the customer with the converting, but even though we're improving every week and we're getting there. But this is where the problem is. And also we have -- which is not Calhoun, but in the full results of the tissue, we have a significant increase in freight for the converting operation going to -- deliver the products to the customers.

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Paul C. Quinn, RBC Capital Markets, LLC, Research Division - Analyst [6]

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Okay. And then just, I guess, flipping over to just idled facilities that you have. Just wondering if you're planning on doing anything with them? I think you've got a number of sites where there's -- they're -- I specifically remember Thorold, that was in a sales process at 1 point, I'm not sure what's happening with that. Maybe you can give an update and whether you're looking at converting any of the idled news printer or other paper mills into another type of paper or board grade?

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Yves Laflamme, Resolute Forest Products Inc. - President, CEO & Director [7]

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Yes, we don't have so much to say about those sites. I think that Thorold is still down for a little while. We're looking at all the options. Maybe all the options you just mentioned, so -- but we don't have anything solid to give information today. So other than that, it's pretty much what I can say right now, so nothing specific about any other older mills that we see any changes for now.

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Operator [8]

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(Operator Instructions) Your next question comes from the line of Hamir Patel from CIBC.

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Hamir Patel, CIBC Capital Markets, Research Division - Director of Institutional Equity Research & Paper and Forest Products Analyst [9]

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We've seen a large correction in lumber prices. I was just curious to get your thoughts on market conditions. Do you think we're close to stabilizing? And how should we think about log costs sequentially in Q3 with lumber coming off?

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Yves Laflamme, Resolute Forest Products Inc. - President, CEO & Director [10]

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Yes. So as you probably know, sometime it's very hard to gauge the lumber market because it moves fast even though you know wood is consumed every day. So if you have direct customer using the wood, like home centers, you can see that there is not a so big decrease in the demand in markets right now, probably keep going a little on the upside. But we were expecting something like that as soon as the rail supply would be sufficient to reduce inventory, mostly in the Western Canada, that speculation in the lumber side would create some, I would say, some disturbance on the market -- on the lumber market. So -- but right now, we see some replenishment in [others] and stuff like that. So it's hard for me to see that we reached the floor, but I'm expecting that we're close to that and maybe going back to -- not maybe -- maybe not where we were, but at least you know slowing down the decrease in pricing right now. So -- and usually, I'm not saying it's going to happen, but usually, you can see some Russian demand sometime mid of August or replenishment for the September building seasons and October. So that's what I'm expecting right now.

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Hamir Patel, CIBC Capital Markets, Research Division - Director of Institutional Equity Research & Paper and Forest Products Analyst [11]

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Okay. And then -- that's helpful. And then just given the way that stumpage works in Ontario and Québec, would we expect the log cost to be sequentially down in Q3?

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Yves Laflamme, Resolute Forest Products Inc. - President, CEO & Director [12]

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No, I think that there is always a lag. As you know, we just got an increase in stumpage and according to the market in Ontario. That's going to stay there for at least a quarter. And so same thing in Québec. And in Québec with the new -- the newer system the thing is the auction. As you have 20%, 25% at least of the log markets is on auction right now and with a good pricing we've had lately, of course, those auction were -- went pretty high and then there is a direct impact of the stumpage. So we expect the wood costs to -- not to be any lower than it is right now at least for the next quarter if it's not for the -- 2 next quarter. And above that, on the wood cost you have also the fuel cost as you certainly know that there is a significant impact in wood (inaudible) operation on fuel. So -- and that will help on the wood cost. So I would say that we're going to be close to where we are in the second quarter, probably maybe a little more.

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Hamir Patel, CIBC Capital Markets, Research Division - Director of Institutional Equity Research & Paper and Forest Products Analyst [13]

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Okay. Great. That's helpful. And we've seen, obviously, a move by China to potentially ban all waste paper imports later this year and Chinese company is interested in North American assets. You, obviously, operate in some markets that are in secular decline. Have those sort of changes maybe changed how you think about the potential repurposing of some of your assets over time? I mean, is the containerboard market, for example, looking more attractive as a future growth opportunity? And we've also seen reports of some companies exploring pulp sheeting to, I guess, export OCC that way. Is that of potential interest as eventually you need to repurpose assets?

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Yves Laflamme, Resolute Forest Products Inc. - President, CEO & Director [14]

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Yes. As I said earlier, we -- there is no option that we're not looking at. That's the job that we have, I believe, to do the best we can with the company. On the other hand, our strategy is still pretty much the same to see how we can do better and grow in, we call the growing markets, which are pulp and lumber. And integrating as we can do the -- our pulp business to tissue business, which we're still in the middle of a ramp-up, so -- and managing this -- the declining business of paper. So that's the best answer I can have for now.

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Hamir Patel, CIBC Capital Markets, Research Division - Director of Institutional Equity Research & Paper and Forest Products Analyst [15]

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Okay. Fair enough. And then, maybe just one final one from me. On the tissue side, P&G has come out with broad-based tissue hike. Curious if you've seen any of the other private-label producers follow? And how should we think about how maybe the timing of potential pricing actions by private label?

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Yves Laflamme, Resolute Forest Products Inc. - President, CEO & Director [16]

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Yes. We announced, as I said earlier, price increase in tissue, but the tissue business is a little different. We have the long-term contracts and stuff like that. So we expect to have a better price -- selling price, where it's going to take maybe a quarter before we start to see it in our results.

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Operator [17]

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Your next question comes from the line of [Timothy Stabosz] from [Stabosz Management].

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Unidentified Analyst, [18]

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And the debt pay downs are almost astonishing. I'm sure you've got to feel -- sleep a lot better at night seeing this. I guess, it brings up the question, at what point in time does management start back up the stock buyback with these type of cash flows looking -- yes, yes, it came quickly didn't it, the question?

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Yves Laflamme, Resolute Forest Products Inc. - President, CEO & Director [19]

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Yes. First of all, thank you for mentioning the debt position, that's something we really appreciate. We are laughing here because looking ahead and seeing our results, we say somebody maybe a shareholders or (inaudible) going to talk about share buybacks soon. And so -- but we're not there. I mean, that we're looking ahead, of course, we're going to see in the next few weeks or so. We're going to have a Board of Director and we're going to look at our strategic plan, [answering] what's going to be the next steps with the -- our cash situation and the debt. And so -- but I don't have a clear answer on that right now.

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Unidentified Analyst, [20]

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Okay. Just one other question then. The tissue operation, I think, when we originally visioned this, the company was talking about something like a 3- to 4-year payback period and a $80 million or so, I think, give or take, EBITDA. How -- what are we saying publicly? Or how do we vision that now in terms of over the long-term, about whether it's a year for now or 2 years or 3 years or whatever, the type of return we will get on this asset? And if you don't want to be quantitative, can you at least be qualitative about your confidence level that there's going to be a return on that investment that will be satisfactory in the end to shareholders? Can you comment on that either qualitatively or preferably quantitatively, but qualitatively at least, your confidence?

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Yves Laflamme, Resolute Forest Products Inc. - President, CEO & Director [21]

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Yes. So on tissue first. Of course, we have kind of the 2 -- we made 2 important steps on tissue. The first one being the acquired -- acquisition of Atlas. So on that one, it's pretty obvious that it's just what we thought and we don't meet expectation and our speculations on how much lower than they were. Even though we're pretty pleased in what we've done as far as operation and stabilizing safety, cleaning the mills and the management and sales. I mean, we're definitely heading to the right direction. So -- but talking about Calhoun, I think the payback is going to be there, but as you felt in the last few quarters and you saw this morning, the ramp-up is slower than expected, but the penetration in sales is really getting better and better. The paper machine -- it's a big thing. I think the strategy to be integrated in tissue even more with the pulp, pulp price we see those -- this was a really good initiative. But now you have to manage a big pulp mill, tissue machines and converting and sales. So the old pipeline is getting better every month. So if we look at our -- if we look at the quarter and if you look at June, it's definitely better than May and April, not July, we feel it's going to be better. And so a short answer is that we feel the payback is going to be there pretty much in this -- the time frame that we're talking about. But let's say, we should add a year maybe to ramp up and be where we should be. So maybe instead of 3, 4 year, we should talk maybe about 4, 5 years now. That's a guess because the improvement I see every day, but that's what I would say.

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Operator [22]

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There are no further questions at this time. I'll turn the call back over to management for closing remarks.

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Silvana Travaglini, Resolute Forest Products Inc. - VP of IR & Treasurer [23]

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Well, that does conclude today's conference call. Thank you all for your participation.

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Operator [24]

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