Aug 5, 2017
Executives
Steven Voorhees - CEO Ward Dickson - CFO Jeff Chalovich - President of Corrugated Packaging Robert Feeser - President of Consumer Packaging James Porter - President of Business Development and Latin America Matt Tractenberg - VP of IR
Analysts
Brian Maguire - Goldman Sachs George Staphos - Bank of America Merrill Lynch Anthony Pettinari - Citi Gabe Hajde - Wells Fargo Mark Wilde - BMO Capital Markets Mark Weintraub - Buckingham Research Chip Dillon - Vertical Research Partners Philip Ng - Jefferies Lars Kjellberg - Credit Suisse Adam Josephson - KeyBanc Capital Markets Gail Glazerman - Roe Equity Research James Armstrong - Armstrong Investment
Operator
Good morning. My name is Jack, and I’ll be your conference operator today.
At this time, I would like to welcome everyone to the WestRock Company Third Quarter FY '17 Results Call. At this time, I would like to turn the call over to Mr.
Matt Tractenberg, Vice President of Investor Relations.
Matt Tractenberg
Thanks, Jack. Good morning, everyone.
Thank you for joining us today. We issued a press release this morning and posted the accompanying slide presentation to the Investor Relations section of our Web site.
They can be accessed at ir.westrock.com or via the link on the right side of the application you’re using to view this webcast. With me on today’s call are WestRock’s Chief Executive Officer, Steve Voorhees; Ward Dickson, our Chief Financial Officer; Jim Porter, President of Business Development and Latin America; Jeff Chalovich, President of Corrugated Packaging; and Bob Feeser, President of our Consumer Packaging segment.
Following our prepared comments, we will open the call up for a question-and-answer period. Before we begin, I’d like to point out that during the course of today’s call, we’ll make forward-looking statements involving our plans, expectations, estimates and beliefs related to future events.
These statements may involve a number of risks and uncertainties that could cause actual results to differ materially from those we discuss during the call. We describe these risks and uncertainties in our filings with the SEC, including our 10-K for the fiscal year ended September 30, 2016, and our 10-Q for the quarter ended March 31, 2017.
Additionally, we will be referencing non-GAAP financial measures during today’s call. We provided reconciliations of these non-GAAP measures to the most directly comparable GAAP measures in the appendix of the slide presentation.
The slide presentation is available on our Web site. So with that said, I’ll turn it over to you, Steve.
Steven Voorhees
Thanks, Matt. Good morning, everyone.
Thank you for joining our call today. The WestRock team delivered outstanding results during the June quarter.
We generated $0.74 in adjusted earnings per share and $94 million in year-over-year productivity improvements. These productivity improvements, along with improved pricing and channel mix, more than offset the extraordinarily high input cost that we’ve had to absorb over the past year.
Our comprehensive portfolio of paper and packaging solutions enables WestRock to deliver value to our customers. We deliver value to our customers by using our capabilities to develop solutions that help our customers grow their sales, lower their total costs, reduce their operating risk and achieve their sustainability goals.
Our acquisitions enhance our product portfolio, improve our integration levels and expand our footprint. This enables us to better serve and deliver value to our customers.
We’ve made substantial progress toward our $1 billion productivity goal. We achieved an annual run rate of $760 million at the end of June, and we expect to reach the $1 billion goal by June of 2018.
These achievements have been a direct result of our teammates executing our strategy throughout WestRock and implementing opportunities to do things better each and every day. We’ve generated $950 million in adjusted free cash flow through June of this fiscal year, and we’re on track to meet or exceed the $1.2 billion that we said we’d generate this fiscal year.
The reliability of our cash flow reflects the strength of our company and the strength of our business model. We’ve taken steps to further transform our portfolio to a business fully focused on paper and packaging.
These steps included the sale of our dispensing business, the sale of our interest in ArborGen and the accelerated sales of our land and development properties. We’re strengthening and building our paper and packaging portfolio and have made a number of recent acquisitions.
The largest of the acquisitions is Multi Packaging Solutions. MPS has substantially increased our participation in the higher growth healthcare and specialty packaging markets, has expanded our operating footprint in Europe and Asia.
Since closing the transaction, we’ve made significant progress integrating the organization and identifying footprint opportunities. And we’re beginning to capture the benefits of paperboard integration.
We’ve transitioned eight folding carton plants serving primarily health and beauty markets to the MPS operations. This has enhanced our capabilities to serve specialty packaging customers with an expanded geographic footprint.
We’re optimizing the footprint of our combined system by evaluating opportunities to eliminate excess manufacturing capacity and increase utilization across the most efficient plants in our system. Last month, we announced the closure of a folding carton facility in Texas, and we’re repurposing one of our Canadian facilities from a combined folding carton and label facility to one producing only labels.
We’ve initiated the supply of our paperboard to our MPS facilities and expect to achieve our target run rate of 100,000 tons per year of paperboard integration by the end of fiscal 2018. We’ve moved quickly to achieve the synergies from the transaction and believe we’ll capture more than half of our expected $85 million of synergies during fiscal 2018 and hit a full run rate by the end of fiscal 2019.
MPS has been successful in standardizing their manufacturing processes across geographies. For example, MPS has been able to successfully provide cartons manufactured in North America, Europe and Asia to global customers interested in consistent, high-quality packaging around the world.
This capability will be enhanced by the integrated supply of high-quality paperboard from WestRock’s mills. Earlier this week, we announced the acquisition of Hannapak, an Australian converter with whom we’ve had a long-term relationship as the converting partner for our beverage paperboard for our customers in Australia.
The $60 million acquisition will integrate our converting and paperboard sales, and it’s a natural extension for our consumer business in Australia. Hannapak will help improve our beverage business and will give us a platform for further growth in the food, food service, health and beauty markets with existing and new customers.
The acquisition is immediately accretive on a cash flow and earnings basis. We completed two important corrugated acquisitions in June and July with U.S.
Corrugated and Island Container. The addition of U.S.
Corrugated has expanded our presence in geographies where we need the converting capacity. The acquisitions integrate – the U.S.
Corrugated acquisition integrates more than a 100,000 tons of containerboard with another 50,000 tons committed in a long-term agreement. Island Container serves an outstanding host of customers in the New York and New Jersey area and will integrate another 80,000 tons of containerboard.
The integration of these facilities and the commercial teams is well underway and will improve our Corrugated Packaging business in a number of ways, including increasing our integration level by 300 basis points from 70% to 73%. Let’s turn to the details of our third quarter performance.
Sales for the quarter were $3.7 billion and adjusted EBITDA was $598 million for a consolidated margin of 16.2%. Adjusted earnings per share were $0.74.
Pre-tax income was favorably impacted by $13 million from the sale of our equity interest in ArborGen. We’re benefiting from favorable demand and price trends across our portfolio.
We expect to achieve the full $50 per ton corrugated price increase that was published in April by the end of September. We’re implementing several published price increases within our consumer grades that are beginning to offset last year’s index price reductions.
Total commodity inflation was $123 million headwind year-over-year. OCC accounted for $81 million or the vast majority of the increase.
The sequential increase of $13 per ton, the average price of OCC, was consistent with our expectations at the beginning of the quarter. Our leverage ratio of 2.58 times was consistent with our expectations, was slightly above the high end of our targeted leverage ratio of 2.25 to 2.5 times.
We expect our strong cash flow to quickly bring us to within our targeted leverage ratio without compromising our ability to make investments to strengthen our business. The WestRock Corrugated Packaging team executed extremely well in the quarter.
We implemented price increases across each one of our channels. We integrated the Star Pizza and U.S.
Corrugated containerboard supply into our system. We grew back volumes by providing unique and differentiated solutions to our customers.
Our operating rates remained high at 96%. We set production records at our West Point, Seminole and Florence mills.
The solid commercial and operating results were partially offset by the negative impact of inflation. Overall, North American corrugated segment shipments were flat compared to the prior-year period, as strong gains in our domestic mill and box shipments offset lower export and pulp shipments.
North American adjusted EBITDA margins were 18.8%. This was an increase of 50 basis points year-over-year and 290 basis points sequentially.
North American per day box shipments increased by 5.7% compared to last year and was 4.2% when excluding recent acquisitions. The 4.2% increase was driven by our commercial team and strong demand in consumer, e-commerce and selected food service markets.
Our export containerboard shipments of 260,000 tons were 16% below last year and 22% below the March quarter. This intentional shift of tons from lower margin export accounts to more profitable domestic customers favorably impacted overall price mix.
With the recent acquisitions, we’ve increased our integration and we will continue to optimize our channel mix. We expect that going forward, our annual export volume will be less than 1 million tons as compared to 1.2 million tons for the trailing 12 months ending June.
We took approximately 45,000 tons of maintenance downtime in the quarter and no containerboard economic downtime. It’s worth noting that in the year-ago period, we took 72,000 tons of economic downtime.
Inventory levels remained flat as compared to the prior quarter. In the September quarter, we expect to increase our inventory position by approximately 70,000 tons so that we consistently achieve high on-time delivery rates to our customers as we prepare for upcoming mill maintenance outages in the first half of fiscal 2018.
In July, WestRock’s average daily box volumes increased 10% compared to last year and 6% when excluding newly acquired companies. We’ve got the right momentum in our North American Corrugated Packaging business.
Our joint venture with Grupo Gondi performed well in the June quarter. The paper and packaging markets in Mexico are growing, and our partners at Grupo Gondi are investing to meet this growing demand.
Gondi is expanding its box plant capacity across the country. Paper supply in Mexico is extremely tight and expansions are underway at our mills in Mexico City and Guadalajara.
Gondi has announced plans to construct a new state-of-the-art 350,000-ton recycled lightweight containerboard mill, which will be the largest machine in Mexico. This additional capacity will ensure Gondi is very well positioned for growth with their customers in Mexico.
We expect the new mill to be completed by the end of 2019 and will have limited impact on the amount of virgin kraft liner that we provide to the joint venture. Our Brazil team had another great quarter with 14.7% growth in corrugated box shipments versus industry growth of approximately 1%.
EBITDA margins were 25% for the period, up 570 basis points sequentially and 230 basis points over the prior year. Driven by our talented team, high-quality assets and positive markets, we continue to explore opportunities to improve and expand our presence in Brazil.
Overall, I’m very pleased with how the WestRock Corrugated Packaging team performed during the June quarter. Consumer Packaging team also performed extremely well in the June quarter.
Overall shipments declined due to planned outages at Evadale and Demopolis, and this resulted in 47,000 less tons of pulp sold. Shipments of paperboard and converted products increased 18,000 tons or 2% on a year-over-year basis.
Industry backlogs have increased with CRB up 9% and SBS up 37% both on a year-over-year basis. Our backlogs have improved through the quarter and currently stand at between five weeks and six weeks on SBS and CNK and approximately two weeks on CRB.
Our markets are mixed with ongoing demand softness in processed foods, tobacco and commercial print, which is offset by strength in food service, liquid packaging, health and beauty markets. The beverage season has been solid with warmer than expected weather in Europe and parts of the United States.
We’re winning through differentiation in our enterprise sales approach, which brings the best of WestRock’s capabilities to create value for our customers. We’re now at a $15 million annual revenue run rate for EnShield.
This is our barrier-grade paperboard for grease and oil resistance. We’ve also introduced a new fully compostable paperboard for hot drink cups and that’s gaining a great deal of interest from our major food service converting customers.
We’re winning with new machinery commitments from our largest beverage customers and from customers in the growing craft brew market, including we’ve received our first orders for our 1210 Combo machine, which automates both solid fiber multipacks and corrugated trays into a single integrated solution. This is a great example of our ability to provide integrated solutions across our portfolio to our customers.
Adjusted EBITDA in the quarter was $230 million or 15% of sales. The year-over-year decline was a result of planned maintenance downtime, higher input cost and the flow-through from previously-published price reductions.
We’re implementing published price increases across every grade as we enter fiscal 2018. Input cost inflation unfavorably impacted the segment by $29 million from cost increases in recycled fiber, chemicals and energy.
Our Consumer Packaging team delivered another strong productivity quarter with $50 million of improvement that helped offset cost inflation. We’re realizing improvements from procurement savings, return-generating capital projects and converting footprint optimization.
And the Covington Mill team executed extremely well on productivity improvement projects and capital investments. This is a direct result of the Covington team’s efforts with the production record they set during the quarter.
We have numerous opportunities to invest internally in our business, and our Board just approved a $57 million project to rebuild the cutter section of one of our paper machines at the Mahrt Mill. The rebuild includes a new carton box cutter.
In addition to providing an attractive return, this investment will increase both the quality and flexibility of our production at the Mahrt Mill when it’s completed in the spring of 2019. Ward, I’ll turn it over to you.
Ward Dickson
Thank you, Steve. In our Land and Development segment, we drove strong sales activity across raw land, industrial and commercial properties.
We’ve previously stepped up these assets to fair market value and realized no income in the quarter as sales prices were in line with previous estimates. I will remind you that last quarter we announced that Land and Development activity is excluded from adjusted EPS.
We’re making very good progress on the remaining portfolio and believe that we’ll recognize between $150 million and $175 million of after-tax proceeds in fiscal 2017. We remain committed to the previously mentioned range of between $275 million and $300 million in net after-tax proceeds by the end of fiscal 2018.
We delivered $94 million from productivity and synergy improvements in the quarter and are projecting an $825 million run rate by the end of the fiscal year. We believe that the $1 billion target will be reached by the end of June – of the June quarter of fiscal 2018.
We continue to execute on our disciplined capital allocation strategy. During the quarter, we invested a $172 million in capital to maintain and improve our manufacturing assets and paid a $101 million in dividends to our stockholders.
We ended the quarter with total debt, excluding the non-cash step-up, of $6.23 billion and pro forma leverage of 2.58 times, excluding the benefit of any future synergies. It’s worth noting that our qualified defined benefit pension plans are overfunded and allow us to allocate more capital to improve our business and return capital to shareholders.
Our plans are overfunded more than $0.25 billion and require approximately $35 million in annual cash contributions around the world, with the majority of that being in Canada and in the U.K. Our investment strategy is designed to protect our overfunded status.
We have numerous opportunities to invest in our business and in additional M&A, and we expect to allocate more capital to these growth and margin improvement opportunities than in share repurchases over the near term. We expect to modestly exceed the current target of $1.2 billion of adjusted free cash flow for the fiscal year.
I’d like to point out that this goal, issued last November, has remained constant through one of the most rapidly changing business environments that we can remember. We’re proud of our ability to meet our commitments to our stockholders and look forward to closing out the year on a strong note.
For the fourth quarter, we expect sequential adjusted earnings per diluted share higher than the $0.74 achieved in the third quarter. For purposes of modeling, we’ve provided key sequential drivers that will impact the quarter.
First, we expect the benefit in the range of $65 million to $75 million of EBITDA from sales price increases, seasonally higher volumes, favorable mix and continued productivity gains. Second, inflationary pressure from recycled fiber continues to impact our results.
Based on our regional consumption mix, our average index price paid per ton for OCC in the second fiscal quarter was a $147. In the third fiscal quarter, that increased by $13 to a $160, in line with our expectations.
Note that the average July index price for WestRock was $177 per ton. Therefore, we expect an average cost per ton in the fourth quarter to increase sequentially by $15 to $20 per ton to between $175 and $180.
However, noting the volatility that we’ve seen this year, predicting recycled fiber cost remains difficult. This assumption, when paired with chemicals and fuel costs, results in a sequential cost increase between $25 million and $30 million in the fourth fiscal quarter.
Third, we anticipate aggregate incremental EBITDA of between $50 million and $55 million from the previously announced acquisitions. Additional items that you will need to consider in your sequential modeling aggregate to approximately $0.13 to $0.14 negative impact to adjusted earnings per share.
Increased interest expense is approximately $0.01 to $0.02 unfavorable. D&A will increase by $35 million per quarter from recent acquisitions to approximately $310 million per quarter for a $0.09 sequential impact.
We expect our adjusted earnings tax rate to be in the 33% to 33.5% range this quarter as compared to 30.9% in the third quarter for a $0.02 impact. The gain on ArborGen, slightly increased share count and other non-recurring items are a $0.01 negative sequential impact.
Finally, I anticipate that you will have questions about our expectations for fiscal 2018. As we enter our third year as WestRock, I’m pleased with the momentum that we have with our customers and across our businesses.
We are finalizing our operating plan for next year, and we believe that we are well positioned to drive growth in EBITDA and operating cash flow. We have attractive opportunities to invest in high-return capital projects that improve our competitiveness.
With these opportunities, along with the addition of MPS, I expect capital investments in fiscal 2018 will be higher than the 750 million that we plan to invest in fiscal 2017. During our next earnings call, we will provide full year fiscal 2018 guidance.
We will continue to be disciplined in our allocation of capital. And with that, I’ll turn the call back over to Steve.
Steven Voorhees
Thanks, Ward. We’ve made substantial progress over the past two years transforming our portfolio and building a leader in paper and packaging.
The WestRock team is well positioned and committed to working together to improve our margins, grow our cash flows and help our customers achieve their goals through our comprehensive portfolio of paper and packaging solutions and our strong execution. We’ll use our consistent and growing cash flow to reinvest in our business and make acquisitions that improve our business.
We expect to return capital to stockholders by increasing our dividend over time and repurchasing shares within our target leverage ratio. I believe that this is a formula that provides significant opportunities for WestRock employees, customers and investors over the short and long term.
Matt, that concludes my prepared remarks. We’re ready for Q&A.
Matt Tractenberg
Thank you, Steve. As a reminder to our audience, please limit your questions to one with a follow-up, if needed.
We’ll get to as many as time allows. Jack, can you take our first question please?
Operator
[Operator Instructions]. Your first question comes from the line of Brian Maguire with Goldman Sachs.
Your line is open.
Brian Maguire
Hi. Good morning, guys.
Steven Voorhees
Good morning.
Brian Maguire
Steve, the box shipments continue to be at a little bit of a faster growth rate than you were in, in the recent couple of years I think up 4.2 organically, 5.7 with M&A. I was wondering if you could talk about what you’d attribute the acceleration to, if you’re seeing any particular end markets that are growing a little bit faster than others or regionally, if there’s anything you’d call out.
And then maybe give us a little bit of color on how trends were in July?
Steven Voorhees
Okay. Jeff?
Jeff Chalovich
Sure. Good morning, Brian.
So I’ll start with – in the quarter, we experienced growth in most of our market segments, notably pizza. And so you’ll recall we just executed an acquisition of Star Pizza, which put us in the specialty pizza niche.
We have a large share of large pizza and large franchises, but that was a place we didn’t have. Also, we had a few promotional pieces with the big four that drove increased sales.
And then our food service packaging in general is up. We’re well positioned in that market based on investments we’ve made both in Star Pizza, high- speed rotary die cutters that are multiple colors and then our white top position in the markets.
So that’s helping us differentiate and grow sales effectively in that market. Also, we continue to grow in segments enabled by EVOLs and our automated packaging system.
And that’s really what we’ve seen in our retail and consumer segments. Although some of the larger companies aren’t growing, we’re penetrating that market based on investments we made and customers who value taking total cost out of their systems.
And so our automated packaging systems give us the ability to take the back of the house, eliminate labor, reduce total cost and give them automated packaging solutions in their businesses. And then finally, we continue to grow from e-commerce which again is up significantly.
And we’re benefited by our scale and then the platform investments we’ve made again in EVOLs. We can run short runs, custom orders, long runs, small boxes.
So we can run a mix of business on those Flexos from mini all the way up to 50-inch business. And it’s really positioned us well in the markets.
And over time, we expect to continue to grow.
Steven Voorhees
July?
Jeff Chalovich
July, I would say the same figures – we see the same segments growing. 10% is organic -- or 10% total, 6% organic in our business.
The markets are strong in all of our channels; export, domestic and box. And we continue to grow with our customers.
And we continue to execute new field basics [ph]. Our customers are pleased with what we’re doing.
We deliver high-quality boxes on time and complete, and we do the same thing in our market segments and channels in domestic and export. And our backlogs remain strong.
Inventories are stable, but tight and our demand is strong in most of our segments.
Brian Maguire
Okay. Thanks for that.
Just one follow-up. Maybe this one’s for Bob.
Just with the inflation you’ve had in OCC, it seems like a renewed effort from the industry to try and get some CRB pricing. And I know the one over the summer didn’t meet with a lot of success.
But maybe you can kind of comment on how those conversations are going now and what your kind of outlook is for CRB pricing over the next couple of months?
Robert Feeser
Hi, Brian, I can’t comment on pricing related with our customers, but I can say that our CRB system is much stronger during this last quarter. We’re seeing a bit of strength.
But over the last four or five quarters, it’s been very, very stable. So we like our CRB business quite a bit and we’re continuing to take steps to strengthen the business.
Brian Maguire
Okay. Thanks very much.
Operator
Your next question comes from the line of George Staphos with Bank of America. Your line is open.
George Staphos
Hi, everyone. Good morning.
Thanks for all the details and congratulations on the progress. I guess my first question broadly is on acquisitions.
You’ve obviously acquired a number of businesses in paperboard converting over the last year, some very recent. Can you relay to us what findings you have thus far?
Any surprises, either positive or negative relative to any of the businesses? Obviously, MPS is the largest.
And if we think about the aggregate EBITDA that you’ve acquired, what would you place it at? I know you said 50 million to 55 million incremental in the fiscal fourth quarter.
But on a gross basis annualized, what do you think that EBITDA amounts to across all the businesses? And then I had a follow-on.
Steven Voorhees
This is Steve. I haven’t done the math on what the aggregate EBITDA is that we’ve acquired.
Let’s talk about the acquisition opportunities that we have. When we put WestRock together, the idea is that we were going to be able to grow the business.
And that’s exactly what we’re seeing. And the acquisitions that we’ve made, I think fit extremely well with our portfolio.
And they add to our portfolio. And really without exception, the opportunities that we have as a result of the acquisitions have been I think very positive.
And I’d say – now we had an expectation that they’d be positive. Otherwise, we wouldn’t have done the acquisitions.
But the chemistry that we have as an organization that we’re building, we’ve been able to I think really combine our businesses and really enhance our overall portfolio. So I’ve been very pleased with the acquisitions that we’ve made.
They’ve been really on our business strategy. And really that’s what I’ve got to say.
George Staphos
Okay.
Ward Dickson
And George, this is Ward. The contribution in the third fiscal quarter of the acquisitions, it was really only MPS and it was less than 15 million of EBITDA given the timing of the close.
So you can take that and the sequential number to get the – get kind of a run rate. And then the contribution of the converting acquisitions; Star, U.S.
Corrugated, Island Container and Hannapak, I would put that in the range of less than $40 million before synergies on an annual basis. And then you --
George Staphos
Understood.
Ward Dickson
Yes, you’ll understand the EPS historical numbers – I mean the MPS historical numbers.
George Staphos
Correct, that’s helpful, Ward. My second question and I’ll turn it over.
From our vantage point, the management of cost inflation was quite good. You were pretty much in line with your guidance from the third quarter I think which was – or the second quarter – for the third quarter of 125 million, yet it seemed like inflation pressures were more or less building over the course of the quarter.
Can you remind us what you might have done to manage the inflation either through purchasing scale, fiber substitution, et cetera? And how important will price be as a lever to managing that going forward relative to past years, particularly in the boxboard piece?
Thanks, guys.
Ward Dickson
George, this is Ward. I’ll start with Q3 and talk about our outperformance versus the guidance.
So really our price, box volumes and productivity were better than what we anticipated. I would say that the inflation just came in slightly above the high end of the range that we gave you in the quarter.
And then clearly, the lower tax rate in ArborGen – the ArborGen gain contributed to the benefit and then our guidance at the beginning of the quarter excluded MPS. So the real driver for us in terms of the outperformance was stronger productivity, stronger volumes, stronger box volumes than we anticipated.
As you look at the year, I think it’s incredible that we are able to maintain the $1.2 billion free cash flow guidance. If you go back to the inflation guidance that I gave on raw material at the beginning of the year, I said it was going to be $175 million to $200 million.
And as we go through Q4, that number is going to approach $400 million. And we’ve been able to maintain the free cash flow guidance because we’ve been able to drive stronger volumes and we’ve realized price increases across all of our businesses.
And in addition, we’ve generated more productivity than what we expected at the beginning of the year. To me, it reinforces the need for us to constantly drive productivity across our businesses and also the commercial excellence that we demonstrate by focusing on markets that we think that we can win in.
George Staphos
Thank you very much.
Operator
Your next question comes from the line of Anthony Pettinari with Citi. Your line is open.
Anthony Pettinari
Hi. Good morning.
Steven Voorhees
Good morning, Anthony.
Anthony Pettinari
In containerboard, a number of your competitors have talked about debottlenecking opportunities and given some tonnage figures on the recent calls. Given you and the industry appear to be running close to full out, do you plan to add any capacity in your current mill footprint?
Jeff Chalovich
Good morning, Anthony. It’s Jeff.
So currently, we like the position we’re in and see our best opportunities to increase free cash flow and our North American EBITDA margins by further integrating our North American box system with our mill system, and then continue to invest in our mill system to reduce our cost profile. We just executed three acquisitions in the last four months to enable us to further integrate our capital investments in the box plant system, support that integration and growth with our customers.
And we continue to invest in the mill system to reduce our cost profile. We have good optionality to manage our channel mix and reduce the tail of our least profitable channels and export and move that into North American domestic and box shipments.
So we’re well positioned I think to provide our customers with differentiated products, innovative solutions. And we’re going to continue to execute that strategy and disciplined capital execution plan.
And we’re confident in our ability to continue to compete and win in the market, regardless of what happens from other investments sometime in the future.
Anthony Pettinari
Okay, that’s helpful. And then, Ward, in the 4Q guidance, you gave a 65 million to 75 million benefit from vol, price mix and productivity.
Understanding these are all ranges and that they’re going to move around in the quarter, is it possible to roughly say how much you would split into those three buckets of the 65 million to 75 million?
Ward Dickson
The largest bucket is the pricing benefit for the continued implementation of the previously published price increases, specifically across our corrugated segment. So that’s by far the largest bucket, followed by the sequential productivity and then the smallest would be the incremental volume.
Anthony Pettinari
Okay, that’s helpful. I’ll turn it over.
Operator
Your next question comes from the line of Chris Manuel with Wells Fargo. Your line is open.
Gabe Hajde
Good morning, gentlemen. This is actually Gabe sitting in for Chris.
A quick question on the consumer business. I think it was earlier this week there was an announcement from the FDA about tobacco products.
Just curious if you could parse out what piece of the consumer business has exposure there. I think most of it is in the SBS side, but – and I appreciate some of that’s international.
But just give us a sense for maybe how those volumes have been tracking and how much of that business is exposed there? Thanks.
Jeff Chalovich
Yes, the majority of our tobacco SBS business is international. It’s roughly 80% of the total that we do.
And the volumes have been relatively stable. Clearly, there is sequential decline – or secular decline in the market overall.
We play in pockets of the market that are very much in the premium high-end brands of tobacco. And we have identified opportunities to grow the business in China, in particular.
So those are areas that have been important to maintain our volume profile in the tobacco market.
Gabe Hajde
Okay. And perhaps maybe this is for Steve.
But just – you mentioned some opportunities too in Brazil in the corrugated operations to either improve or expand. Can you elaborate on that a little bit for us?
Steven Voorhees
Yes, Jim Porter’s here. I’m going to let Jim take that question.
James Porter
Good morning, Dave. First of all, we really love our Brazil business.
We’ve got just an outstanding team and a strategy and an asset portfolio in Brazil that really continues to execute extremely well. Brazil is an attractive market for us with over 200 million people consuming products that need our packaging solutions every day.
And we are focused on expanding in that region beyond our current organic capabilities, and we have several projects that are under consideration. I’d have to say the growth in our corrugated packaging capability is our current priority.
Gabe Hajde
Thank you.
Operator
Your next question comes from the line of Mark Wilde with BMO Capital Markets. Your line is open.
Mark Wilde
Good morning.
Steven Voorhees
Good morning, Mark.
Mark Wilde
I’d like to come back to the – on that CapEx and debottlenecking question, because it sounded like from Jeff’s commentary that the focus in kind of containerboard is going to continue to be on increasing integration and taking out costs rather than increasing supply at all. And I wondered if you could confirm that.
Jeff Chalovich
I think you summarized it. This is Jeff.
Mark, I think you summarized it very well.
Mark Wilde
Okay. And then, Ward, just a point of clarification.
I think you just mentioned $15 million in benefit from incremental EBITDA coming out of MPS. But in the slide deck, the number is 5 million.
So can you help us reconcile that?
Ward Dickson
Is that the segment income or EBITDA? It’s MPS and other.
So there’s some – if you look on the consumer bridge, there’s $14 million of EBITDA from MPS. There’s $2 million of negative foreign exchange and there are some of the costs associated with the maintenance outage that we’ve had.
So that’s the reconciliation.
Mark Wilde
Okay, all right, that’s fine. Last question, I just wondered, Steve, the announcement that we had about four weeks ago from David S.
Smith about their entry into North America. I wondered if you could give us some thoughts on that.
I think you guys have had a relationship, some technology sharing, with David S. Smith.
And I’d like to know whether this deal changes that relationship.
Steven Voorhees
Jeff is closest to that relationship, so I’m going to let Jeff respond.
Jeff Chalovich
Hi, Mark. No, it doesn’t change the relationship at all.
We continue to work with them in the machine space, and we’ll continue to do so.
Mark Wilde
Okay, very good. I’ll turn it over.
Operator
Your next question comes from the line of Mark Weintraub with Buckingham Research. Your line is open.
Mark Weintraub
Thank you. I was hoping to get more color on containerboard export markets and maybe understand a little bit more as you’re repatriating more tons.
Is that sort of evenly across the different export markets, or are you taking it out of one region versus another? And are there different pricing and market dynamics in the different regions that maybe speak to that?
Jeff Chalovich
Hi, Mark. It’s Jeff.
Our preponderance of our export is still Latin America – Mexico, Latin America and that remains the same. And then we have – it’s almost two-thirds of our export.
And then we have some smaller positions in Asia, Europe. So we’re really concentrating on Latin America, Western Europe.
We’re moving into Eastern Europe a bit and then a small amount in Asia. We’ve exited some markets in Africa – sum of customers more specifically in the specific markets, including all the ones I’ve just called out.
And really it’s that tail of the export. I’d refer you to what Pulp & Paper’s published on pricing and that would give you a guide of the different areas in pricing.
And we have executed, as we said on previous calls, price increases in those areas. And again, we are managing the tail of that channel.
Mark Weintraub
Great. I believe that there are some new pricing initiatives in Europe on the kraft linerboard side.
Are we seeing anything of that sort in the Latin American or Mexican markets?
Jeff Chalovich
I can’t really speak to the future pricing. You’ve seen what was published in Europe.
Then we’ll have to wait and see what happens in the other markets.
Mark Weintraub
Okay. Thanks very much.
Operator
Your next question comes from the line of Chip Dillon with Vertical. Your line is open.
Chip Dillon
Hi. Good morning, everyone.
Steven Voorhees
Good morning, Chip.
Chip Dillon
A question I had was – the first one is I think, Ward, you all laid out the increase in the cost saves you expect. You expect to go from a 760 I believe, you said, annual run rate now to 825 at the end of the fiscal year or just this quarter.
So that would suggest about a $17 million absolute improvement, you divide that difference by 4. And I’m just wondering in the guidance bridge, is that 17 million an offset to the cost pressures or is that part of the $65 million to $75 million number?
I’m just trying to figure out where that 17 is?
Ward Dickson
So when you try to bridge from run rate to sequential earnings changes, it’s not that elegant. So we can actually execute a project in the last two weeks of the quarter, and we capture it into the run rate.
And so again, we will have some sequential productivity improvements from the actions that we’ve had. We’ve embedded it in the guidance, but it’s not as precise as you described.
Chip Dillon
Okay, that’s really helpful. And then the last one – second one is looking at the consumer area; two things.
One, I think, Steve, you mentioned the backlog in CRB was two weeks, which I either misheard you but that strikes me as a little bit low. And then secondly, you mentioned the Mahrt project that will come on in about I guess 18 or so months.
How much downtime will that involve? And when do you expect that downtime to occur?
Steven Voorhees
Bob?
Robert Feeser
Chip, so the two weeks that we’ve referenced on the backlogs for CRB is a pretty normal level for us and it’s in part just how we manage our internal system, which is a big driver of the backlogs. But we have in general seen a bit of firming over the last quarter.
And then on the Mahrt project, we’re really excited about this opportunity to really improve the quality of our product overall and provide more flexibility to the market in general. And that project will be completed during an outage in March of 2019, and it’s roughly about a 28-day outage that will take place on that machine in March of 2019.
Chip Dillon
Got you, very helpful. Real quickly, I noticed that a major or small for North America producer of corrugated packaging announced a pretty large box plant in New Jersey.
It looks like it’s going to eat up about 200,000 tons. Obviously, I’m talking Cascades.
And that would mean for them an integration move that’s pretty significant. Does that mean you might have more opportunities to sell board up from Solvay and I guess other mills in that general region on the open market, or otherwise do you see – how do you see that move impacting you all?
Jeff Chalovich
I’m sorry, Chip. I missed the new corrugated place in New Jersey.
I didn’t hear what you said.
Chip Dillon
Yes. It was announced this morning.
Maybe you didn’t see it. But Cascades is announcing a plant that’s going to create 2.4 billion square feet of boxes, which will be about 0.5% I guess of North America, and we would guess around 200,000 tons of cut-up in Piscataway.
And so assuming that is true, which I’m reading here, I would imagine that that eats up a lot of their board from their relatively new machine and some of their other capacity, it integrates it. So I just didn’t know if that opens up more opportunities for you all with your very profitable Solvay Mill.
Jeff Chalovich
It’s possible. We have a large position with our box plants currently there.
But we’re always looking at our mix and our customer base. And it’s one of our most profitable channels, our domestic market.
So we like that market. And I can’t say yet, but I’m sure that as we get more clarity, we’ll be able to decide if that works in our system or not.
Chip Dillon
Okay. They’re saying they’re spending $80 million, so it’s got to be a big one.
Anyway, thank you very much.
Operator
Your next question comes from the line of Phil Ng with Jefferies. Your line is open.
Philip Ng
Hi, guys. You’ve made a few bolt-ons recently to enhance your integration level both from your consumer and corrugated side.
Is there like a target integration level you would like to achieve over the medium term? And are you signing more opportunities in one segment versus the other?
Jeff Chalovich
Phil, I’ll talk to the corrugated. We’d like to move our integration level up to the 80% range and that would mean our export is basically down to 10%.
We like the optionality with that to manage our mix and our channels and then the low ends of whatever channel there is there, we think it gives us more optionality. So we’re targeting 80% in corrugated.
Steven Voorhees
Phil, the opportunities we have are balanced across our company. One of the benefits that we have at WestRock is we can look at opportunities in both consumer and corrugated and also across different geographies, like the acquisitions that we’ve made are representative of that.
Philip Ng
Okay, that’s great. And I guess longer term, bigger picture, looks like you’re finding still pretty good capital projects with good returns.
But longer term, to offset inflation as you wrap up this $1 billion synergy target, how should we think about productivity going forward?
Jeff Chalovich
I think to be successful and to offset normal inflation, we need to be in the $275 million to $300 million of annual productivity.
Ward Dickson
And I believe that we – this year we obviously have had spikes in energy and natural gas – I mean in OCC. But if you just look at a steady state ongoing wage inflation environment and input cost environment, it reinforces the need for us to constantly drive productivity.
And my estimate would be a $275 million to over $300 million on an ongoing basis.
Philip Ng
Okay, that’s helpful. Thanks a lot.
Matt Tractenberg
Jack, next question.
Operator
Your next question comes from the line of Lars Kjellberg with Credit Suisse. Your line is open.
Lars Kjellberg
Thank you. Just one question on the consumer board.
As you continue to integrate significant volumes in that segment, can you bring us through the pricing dynamics as you raise prices for SBS, CRB, CNK, et cetera? And can you also confirm that your intention to convert pulp into more paperboard to continue to have the open market exposure that you’ve had prior to MPS?
Robert Feeser
Lars, this is Bob Feeser. We can’t comment on pricing, but – as we’ve indicated that we see a great opportunity to integrate the 100,000 tons of paperboard consumption from MPS, and we’ll continue to do that and reduce our overall production of pulp in our SBS system.
That’s a very attractive proposition for our business overall. And then clearly, additional paperboard-related acquisitions, we have additional headroom for future integration as well.
But at the same time, we have very attractive business in the external market with very good converting customers that are very valued to us. So that will continue to be a very important part of our strategy overall.
Lars Kjellberg
So there is no formulistic pass-through of index prices into the carton side, or how should I think about that?
Robert Feeser
I’m sorry.
Steven Voorhees
Lars, could you repeat that?
Lars Kjellberg
Similar to box prices, if there’s no index for the Pulp & Paper Week price index transfer of higher board prices into cartons?
Matt Tractenberg
I’m not sure we understand the question, Lars, but we can take it offline, okay?
Lars Kjellberg
Okay.
Operator
Your next question comes from the line of Adam Josephson with KeyBanc. Your line is open.
Adam Josephson
Hi. Good morning.
Steve, just a question on e-commerce. I know you mentioned it was beneficial to your box demand in the quarter.
You’d previously said you thought overall box demand wouldn’t significantly change as a result of the growth in e-commerce. And over the last year, it seems like box demand has really picked up, partly or if not mostly, on account of e-commerce.
Do you think differently today than you perhaps did a year ago about the impact of e-commerce on the alignment? And relatedly, what do you think the impact of e-commerce growth has been on the ramp in OCC inflation that you talked about earlier?
Steven Voorhees
I’m going to let Jeff talk about our expectations for e-commerce now. And then I’ll talk about the impact on the recovered fiber stream after Jeff talks about the overall increase in demand in e-commerce.
Jeff Chalovich
Hi, Adam.
Adam Josephson
Hi, Jeff.
Jeff Chalovich
So e-commerce – good morning. There is an effect and it’s on – it has been a net positive for corrugated, but I think it’s important to talk about some the macroeconomic things going on in our business, because it’s just not that.
So the GDP in the second quarter was a healthy 2.6%. The ISM Purchasing Managers Index rose to 57.8 in June from 54.9 in May.
So the index continues to indicate growth in the manufacturing sector. New Orders Index rose to 63.5 in June with 15 of those 18 industries reporting growth.
And then the nondurable industrial production rose to 1.5% year-over-year, and that’s after averaging 0.3% growth over the prior 12 months. So there’s growth in our segments, and we’re seeing that across the board in some of these smaller food and beverage companies, even if things like Big Beard on craft beer is growing.
Noncarbonated beverages are growing. So some of the reports of some of the large accounts or customers being down are really being offset by other pieces of the market.
There’s industrial growth. E-commerce is fueling it, and it’s net positive.
But there’s a lot of other positives going on across multiple markets and segments.
Steven Voorhees
And just on the impact on e-commerce. We have a very nice recycling business, and we operate a number of facilities across the country.
Four of those facilities are single-stream recycling facilities. They collect the entire recyclable stream from – so this would include pulp boxes, newspapers, plastics, aluminum.
So the four facilities process 300,000 tons per year and we monitor the collections of OCC from these facilities because we obviously want to get that OCC integrated into our mills. And the collections from those facilities have grown by 8% over the past year.
And it’s not surprising because I think everybody is using corrugated packaging as it’s intended to protect the products that they are shipping and it helps as a great way to market your product. And so that’s coming into the homes and it’s showing up in the waste room.
Adam Josephson
Got it. And just, Ward, one clarification.
You’re expecting no further OCC price increases from July. Is that right?
Ward Dickson
Yes, in the 175 to 180 range, we’re at 177. So it would imply that it would be stable.
Obviously, that will be an element of volatility to the forecast that we have for the quarter.
Adam Josephson
Thank you.
Operator
Your next question comes from the line of Gail Glazerman with Roe Equity Research. Your line is open.
Gail Glazerman
Hi. Good morning.
Maybe just following up on that. If you don’t necessarily think e-commerce is driving OCC, can you just talk fundamentally about what you think has driven it?
And maybe taking kind of a medium-term view on where you see it going, do you think it can hold at these levels, not just this quarter, but moving forward? And how that changes how you think about your business?
Steven Voorhees
Yes, sure. So let’s talk about this in kind of a broader perspective.
Like if you look at world demand for containerboard, it’s been growing at a low single-digit rate for the past several years. Like recently, we’ve seen demand increase even faster.
We’ve seen box demand increased 3% in the U.S. the first six months of this year.
Increasing demand for containerboard is served by OCC. And so far this year, we’ve seen demand for OCC increase 5% worldwide, 3.6% in North America.
And then China, it’s increased by 7%. And as I said, increase in demand – and we’re seeing changing supply trends because of e-commerce that we just spoke about.
I think that helps – explains what’s happened to prices. Now in perspective, our average fiber price over the past 12 months, so this would be the 12 months ending June, was $130 per ton.
That means at the current price, $177 per ton, and our annual consumption of 4.9 million tons, we’re going to have fiber price headwinds to overcome for the next several quarters because the math would indicate that. Now over time, if you look at this on a [indiscernible] it looks like prices are high.
And so we would expect there to be some moderation in the price over time. We don’t have a clear crystal ball on that.
So I don’t know where it would be between historical levels and current levels, but we’d expect some moderation. So we look at that.
We look at it carefully. If you think about the situation, it’s like a nice problem to have because that means the driver is increased demand for paper and packaging.
And that’s our business. So we’re participating in the demand trends.
And I think paper and packaging are great products to serve attractive markets. And so that’s where we are, Gail.
And I think from WestRock’s perspective, I really like our position because we’re balanced. We’re 60% virgin, 40% recovered fiber.
And so we’re well positioned to adapt to whatever scenario plays out.
Gail Glazerman
Okay. Thank you.
And just one last one. As you look to trying to drive integration in corrugated from 73% to towards 80%, just what type of open market opportunity in terms of that M&A that you’ve been doing do you see remaining?
And how much of that might have to be integrated and organic?
James Porter
Hi, Gail. It’s Jim.
So it’s a mix of both. I think that if you look at roughly 70,000 tons is about 1 point for us.
So yes, there is available M&A in the market. Although some of the independents; it’s smaller, there are still opportunities in the market to expand.
And then our box volumes are strong. We expect to be able to grow with the market organically.
And we see the opportunity to get to the 80 as a realistic goal.
Gail Glazerman
Okay. And I don’t suppose you want to put a scale on what you see – what percentage you see as independent market at this point?
Jeff Chalovich
It’s hard to say. There’s multiple ways to look at it.
The FBA looks at it – the independents that are tied to some type of containerboard mills and then there’s not. So it’s a 20-ish percentile range of independents and those that aren’t tied to mills is 10 to 13.
It’s not an exact science, but there’s 20% out there and over 10%, I would say, that aren’t tied to boards that are still operating.
Matt Tractenberg
Jack, we’re going to take one last question please.
Operator
Your final question comes from the line of James Armstrong with Armstrong Investment. Your line is open.
James Armstrong
Good morning and thanks for fitting me in.
Steven Voorhees
Good morning.
James Armstrong
The first question is could you talk about the drivers in the Brazil business? That was actually a great number.
I just was wondering, is that sustainable and could it continue to grow? And what are you doing different in that market?
Ward Dickson
Thank you, James. So as I said, we really are quite proud of our Brazil business.
The team and the strategy and the assets just continued to perform extremely well against a very difficult backdrop. But that backdrop we think is improving.
We are seeing signs that the business climate in Brazil is improving. And our EBITDA margins returned this quarter to its more normal 25%-ish range.
And that’s due to a very strong volume growth, realization of price increases, productivity. We’ve just got a lot of tools in that Brazilian business between our very high-performing forestry assets, literally the – one of the lowest-cost virgin containerboard mills in the world and a portfolio of packaging assets that are focused on differentiated packaging solution.
So that combination really has produced a winning situation for us. And as we’ve said, we look to continue to invest and grow in that market.
James Armstrong
Okay, that helps. And then switching – coming back to exports out of North America.
Could you talk a little bit more about your long-term thinking, getting that down to 10%? Would there ever be a scenario where you want to be at zero exports, or do you think exports will be a continued strong part of your business?
Jeff Chalovich
Hi, James. It’s Jeff.
I think exports will remain a strong part of the business. We don’t want to be overexposed, but we like the markets.
The world needs virgin kraft fiber. We supply it.
So it just gives us optionality in the three channels that we supply and that’s what we’re looking for.
Matt Tractenberg
Jack, I think that’s all that we have time for today.
Operator
I’ll now turn the call back over to the presenters.
Matt Tractenberg
Thank you. And thank you to our audience for joining the call today.
As always, feel free to reach [Technical Difficulty]. Have a great day, everyone.
Operator
This concludes today’s conference call. All participants may now disconnect.