Good afternoon, ladies and gentlemen. Welcome to Sappi Limited's first quarter of 2019 results conference call. All participants will be in listen-only mode. There will be an opportunity to ask questions at the end of today's presentation. If you should need assistance during the conference, please signal an operator by pressing star and then zero. Please note that this conference is being recorded. I'd now hand the conference over to Mr. Steve Binnie. Please go ahead, sir.
Thank you. Good day, everybody. I will go through the investor presentation. I'll call out the page numbers as I go through, as always. I'm going to start on slide three, which has some of the highlights for Q1. EBITDA up 15%, bottom line net profit up 29%, and earnings per share up 14%.
Moving across the page, our margins did improve from last year, which was 12.9% up to 13.9%, and our return on capital employed from 14.1% up to 14.7%. Just in terms of the climate that we were operating in, it was a quarter where some of our major markets that we were in did deteriorate significantly, particularly from December onwards for graphic paper. We did see a ramp-up on the packaging front following the conversions that we did last year. Moving to slide four, the EBITDA bridge.
The big story that this tells you is that we continue to have significant pressure from raw material costs. That's predominantly pulp prices. They are significantly higher than they were a year ago. We were able to put through higher selling prices to offset that. Volumes is showing a slight decline, but obviously we have the acquisition of Cham in the numbers, which were not there in the prior year.
It tells you that our volumes elsewhere were down, and that's predominantly in the printing and writing papers and on the back of the soft market. Moving to slide five, the product contribution split. I'll focus on EBITDA there, where you can see specialized cellulose, dissolving pulp, 41%, printing papers 41%, and packaging continues to ramp up at 18%. Slide six, maturity profile for our debts.
You could see that there are no major debt maturities in the next couple of years. Obviously, the 2022s and 2023s are getting closer to maturity. We do get closer to the non-call windows, and it's something that we monitor as we move forward. Slide seven is our CapEx. We estimate the CapEx for this year will be $590 million, with the maintenance portion of that somewhere around the $150 mark.
Turning our attention to the product divisions segments. Firstly on slide nine, the printing and writing graphic paper markets. It's fair to say that there's been a significant reduction in demand. We saw that particularly from December onwards. It did put pressure on us, and obviously we'll talk about the outlook statement a little bit later, but we do expect that to continue into Q2 as well.
Looking forward for the rest of the year and obviously beyond that, we do expect capacity reductions to come in Europe and the U.S. to offset that. The forecasts from the industry experts of the operating rates will remain pretty good as that capacity comes down. On cost prices, we talked about it in previous quarters, but pulp prices did run hard last year.
During this quarter, we did see it come off a little bit from those historical highs, predominantly on weak Chinese demand. We have seen some declines now in North America and Europe as well.
On the selling price side, prices were stable. Obviously, when markets do get soft like they are at the moment, you have an increased focus on costs and we continue to look for opportunities to streamline and take costs out of the business.
Perhaps, the one opportunity as we look forward is pulp integration. We are short pulp, and we look for opportunities there to improve our integration rate. At the same time, we will get benefits as we take our own capacity out of the segment as we ramp up further on the packaging grade, following the conversions at Somerset and Maastricht. That brings me then to slide 10, which is the packaging segment.
We have seen more capacity coming into the space. In terms of macro trends, there's a strong push from downstream brand owners for packaging-based solutions, which we obviously want to take advantage of those opportunities that will bring us.
The paperboard categories have been good, particularly in South Africa, but even in the European environment. However, there was some short-term pressure on some of the consumer packaging categories.
We believe that's linked to the economic slowdown that has been occurring in Europe mainly. The selling prices did rise, obviously as we tried to counter the impact of the higher raw material costs. As I said already, the pulp prices have seen a little bit of a decline in recent weeks and months.
Our big focus here is to maximize this opportunity and clearly ramp up the volumes following the conversions that we've done. On slide 11, dissolving pulp. Demand for the product continues to be good. The market, we believe, will continue to be strong. On the supply side, yes, there has been more supply coming to the market. As you look forward, the increased volume demand, we think, will cater for that increased capacity that comes through.
Our estimates are that the majority or the vast majority of the swing capacity has already moved to dissolving pulp. We believe that's because of the fact that paper pulp demand in China has dried up in recent months. Selling prices for dissolving pulp are down a little bit, and we believe that's on the back, obviously, of lower VSF prices.
However, we do expect them to stabilize and rebound for the reasons that I've outlined in terms of the market balance. We have the extra volumes that will come through from the debottlenecking projects.
Obviously we've got the bigger project at Saiccor to boost production. That will come through in 2020. Turning then to the regions and firstly, Europe. We saw overall tons down 1.6%, but obviously we had CALM for the first time.
If you back that out, you see that our printing and writing volumes were down 7%. It was tough. It was a tough market. The overall market was down by more than that. We did gain some market share there. Specialties and packaging volumes were up 50%, obviously including CALM. If you back that out, 4% like-for-like growth. Obviously that's the start of the ramp-up coming through.
Offset a little bit by the softer demand that we saw in those consumer product categories that I mentioned earlier. Top-line sales up 9% on the back of the higher selling prices. There's a bit of a mix issue there because of CALM on a like-to-like basis. Packaging and specialties prices up 10%. EBITDA down slightly at 2%. It's predominantly on the back of the higher variable costs, and you can see up 17%.
A big reason for that is the higher pulp costs. In North America, tons down 6%, sales up 3%, and nice growth in EBITDA, up 61% relative to last year. A lot of the pressure points: the same soft coated paper market. Obviously we're getting the ramp-up on the specialty side. We have improved selling prices to offset costs, which helped us. As Somerset ramps up further, we should progressively see further improvement.
Overall, a reasonable quarter. In South Africa, strong improvement, both off the back of higher volumes and selling prices. The market for packaging in South Africa has been strong, and we continue to grow there. On the cost side, fixed costs were in line with inflation, but, obviously with higher volumes, the cost per ton has been coming down. There's good work there.
However, we do have the impact of raw material cost rises impacting a little bit. It was a good quarter for South Africa and in fact a record quarter for South Africa. The strategy pillars. I'll start on slide 16. Firstly, cost. I've mentioned already that cost is always important, but clearly in times when markets do get weaker, it gets increased focus.
We do believe that there's a further $60 million opportunities on efficiencies in procurement, and in terms of our ongoing improvement initiatives across the mills, we will look for further improvement.
Pulp integration is receiving increased focus for us as a business. We do believe there are pockets of opportunities within our existing mills there to improve. That Saiccor expansion, obviously coming later, will also contribute to lower variable costs for one of our biggest mills.
The Gratkorn upgrade, which we talked about on the results calls last year, I'm pleased to say that's been completed ahead of time on budget and we're confident that that can give us the savings that we built into the project. Moving to slide 17, coming back to graphic paper. This is about obviously capacity and managing the capacity.
I've already said that we do expect significant amounts of capacity external to Sappi to come out. Obviously, internally, we will continue to ramp up at Somerset and Maastricht, and that will reduce our exposure here. At the same time, specifically to mechanical pulp, we've got the project at Lanaken to convert that machine, and that will be completed in April of this year. The balance sheet on page 18.
We had a commitment with you guys about the 2 times EBITDA, and we maintain that, and we have worked and used that as a guiding principle. The RCF was renegotiated last quarter. I've already said that we'll monitor the bond market for opportunities to refinance. I guess we got some good news a couple of weeks back there that Moody's upgraded our credit rating, and I think that's testament to the good work that we've done.
Slide 19, we will continue to look for opportunities to grow into higher margin areas. The debottlenecking of Saiccor and Ngodwana were completed last year. Pleased to say that production is going well there at the moment and we should be able to deliver on the promises that we made there. The Cloquet one will be complete in April. That will give us another 30,000 tons.
That appears to be on track and we're confident that will deliver again on the benefits that we anticipated. Longer term, we continue to look for opportunities to improve packaging or increase packaging in South Africa. We've got a great business there and we can continue to grow further, we believe.
On the bio side, as you know, we've got a number of initiatives underway and lots of discussions with potential commercial partners moving forward and the demo plants are progressing nicely. We have the expansion at Saiccor, 110,000 tons, and obviously the ramp-up of the board grades at Maastricht and Somerset following those conversions.
In terms of the outlook, I'm on slide 20. We expect dissolving pulp sales volumes to increase this year following the projects that I mentioned earlier. Variable market conditions for specialties on the board side, pretty good.
Unfortunately, pressure points coming from the consumer products in Europe with the economic slowdown that we're witnessing there. Graphic paper markets have been particularly weak from December.
That is going to put some short-term profitability under pressure. At the same time, CapEx for 2019 is expected to be $590 and the majority are the projects that are listed there, the Saiccor, the Lanaken conversion, and the Gratkorn project that we've now completed.
Given those weak graphic paper markets and the ongoing elevated pulp prices, we do expect Q2 to be down slightly this year relative to last year. However, for the full year, we do expect profits to be higher. Operator, that's my presentation. I'm going to put it back to you now for questions.
Thank you very much, sir. Ladies and gentlemen, at this time, if you'd like to ask a question, you're welcome to press star and one on your touch-tone phone that will place you in the question queue. If either of you decide to withdraw the question, you're welcome to press star then two and you touch pound sign to remove yourself from the question queue. Just a reminder, should you wish to ask a question, you're welcome to press star and then one. The first question comes from James Twyman of Prescient Securities.
Yes, hi there. Thank you. I've just got two questions. The first one is, the U.S. market's obviously weakened a bit recently. Just wondering how confident you are of being able to maintain prices this year in that environment, I'm wondering whether the Georgia-Pacific closure might help there, and whether there's any information you've got on how that might help.
Secondly, your comment on pulp integration is interesting. Is this what you're looking at in terms of CapEx for 2020 and 2021 for increasing domestic production of pulp? What we're looking at in terms of, is it new recovery boilers? What are you looking at there?
Yeah. Okay, let's take each question in turn. On the U.S. market, I'll let Mark expand a little bit further, but the one thing I would say is that operating rates are expected to remain pretty good. There are capacity reductions coming, obviously we're part of that process. We believe that it makes sense to maintain our prices because of the higher costs that have come through. Mark, you want to add anything? We don't really comment on specific competitors.
Right. The market has been very tight through the course of this past year. It did slow down in December, this is typically the seasonally slow period of the year. We've got a lot of activities underway, we're leaning towards the same as the forecasters are predicting. We see lots of reasons why the year coming up can have still strong operating rates. I guess I'll leave it at that at this point.
Yeah. James, on the second question, pulp integration. Yeah. Obviously, our big project at the moment is Saiccor, that takes up the capital for 2019, it goes into 2020. I suppose we are looking at beyond that. We're looking around the mills in our group, we do think there are debottlenecking opportunities and opportunities to boost our pulp capacity.
I'm mainly talking in Europe. Europe is about 50% pulp integrated, we're looking at the mills. How can we boost that? Because clearly, with higher pulp prices, that does make you vulnerable through the cycle. Yeah, it's something that we're working on at the moment, we'll get back to you in the future.
Thank you.
The next question comes from Brian Morgan of Morgan Stanley.
Hi, guys. Thanks very much for the call. Just a question on your ability to accelerate the ramp-up of your specialty conversions ahead of the timelines that you've guided to, especially given the weakness on the demand side that we've seen in the magazine paper.
Yeah. Look, it's obviously getting a lot of focus. These things do take time. We saw it in the past when we converted at Alfeld. If I look at Somerset and I look at Maastricht, in terms of the product that we have, we're very happy with the product and we're getting positive feedback from our customers.
We are ramping up a little bit slower than we initially anticipated, but it is ramping up and it will continue to do that. So in terms of your specific question, can we go faster? Yeah. With the weakness in the graphic paper side of it, we're going to do what we can to accelerate that. It does take time to get accreditation from customers. Berry, Mark, anything you want to add there?
I think he covered it.
I think you covered it well, Steve.
Cool. Okay. That makes sense, guys. Given that you're adding speciality packaging conversion, speciality packaging paper here, you talk about demand weakness in Europe. Just a question, could we not be transferring pain from coated paper to specialities at this point?
Look, there has been other players that have converted. In terms of our relationship with our customers, as we talk to them about opportunities, we do think those opportunities are out there to ramp up according to our original business cases that we built around the conversions. I don't think there's anything dramatically changed in terms of how we think about those markets.
Okay. Cool, guys. Then the third question, final one, is just maybe a bit of color on DWP, maybe on a three to six-month view. Are you expecting a bit of a rebound in pricing post-Lunar New Year, maybe? Or how are you thinking about how it might evolve in the next couple of months?
Yeah. Mohamed, I'll give some brief comments then I'll pass it to you. Yeah. This is the Chinese New Year, and obviously if you look back, it is a time when you do have soft demand and prices do come under a little bit of pressure.
If you look at all the variables that are out there in terms of the balance in the market, the strong demand, the fact that paper pulp prices continue to be good, we're still optimistic about the outlook for pricing on dissolving pulp. Mohamed?
Steve, I think you've covered it. It's largely a seasonal issue at the moment. Post Chinese New Year, historically, we have seen an improvement in both in demand pickup as well as pricing.
Okay, cool. That's great. Thank you.
Thank you. The next question comes from Sean Ungerer of Arqaam Capital.
Good afternoon, guys. A couple of questions. I think starting on DWP. Obviously in your slide pack, you still make reference to external opportunities. I know pulp prices haven't come down massively, but they have seen a bit of a deterioration. Has anything sort of picked up on that matter?
Sean, yeah. Look, it's no secret that we have looked. These assets in this cycle have become very expensive. We haven't seen an opportunity yet that satisfies our valuations and our other returns that we require. We'll continue to monitor the market, but there's nothing as of yet.
Okay, cool. Then just in terms of European graphic capacity, so obviously there's quite a bit coming out. Could you just confirm that Sappi is pretty comfortable with their positioning without the need to sort of take out more?
I'll let Berry expand. Yes, there are significant capacity expected to come out of the market externally to us. Based on the demand forecast that we have at the moment, we don't believe we need to take further capacity out other than obviously all the things that we're working on with the conversions and so on.
Well, just to add to that, we are, of course, taking out capacity through the rebuilds.
Yeah
The conversion. That's about 200,000 tons of graphic capacity that will come out. We're playing our bit in that game as well.
Yeah.
Okay, great. Just a last one on the guidance for EBITDA to be higher year and year. Any chance you could elaborate on that?
Yeah. Well, obviously Q1 was comfortably higher than last year. Q2, because of the short-term pressure, will be down. We can't give a specific number, but as we sit here today, we do feel that the back half of the year should be better than what we've provided as an outlook guidance for Q2.
Okay, great. Thanks, guys.
Ladies and gentlemen, just a final reminder. Should you wish to ask a question, you're welcome to press star and then one. The next question comes from Ross Kreyer of JP Morgan.
Afternoon, everyone. Just two questions from me, both on volumes. Firstly, on specialties, if I take the absolute growth in volumes and try and strip out Cham, it looks like around 20,000 tons of volumes came in from the conversions. Is that accurate?
Leading on from that, just does that mean we should expect another 180,000 tons over the remaining course of the year? Just on graphic volumes, your commentary seems to suggest that demand decline will accelerate in Q2. Is that accurate? Thanks.
Sorry, I missed the second question. Apologies.
No worries. Just on graphic paper volumes, it sounds like you expect demand declines to accelerate, to decline more than what you saw in Q1. Is that accurate?
Yeah. Okay. All right. Let me take the two questions. In terms of specialty volumes, your numbers is close to the mark. We do expect that to accelerate as we move through the year. In our original plans, yes, 180 is about the right number. I would expect each quarter to get larger than the last. 20 ramping up.
As I look at the full year, we're still pretty close to the kind of 180 level. The graphic paper volume, obviously it was particularly weak in December, the market, there were double-digit declines in both markets.
We did gain some market share. At the moment, things are weak. In terms of our bigger picture, as we look forward for the rest of 2019, we wouldn't expect it to be at the double-digit level.
In the high single digits is kind of the latest forecast. That's consistent with what you're seeing from RISI. I think RISI's got sort of seven and eight% declines, Berry.
Yes, that's correct, Steve. I would say that it's not getting worse.
Yeah.
December was the trough, obviously.
Yeah.
It's slightly better than that. Certainly, significantly better than that. It remains below last year.
Yeah. Yeah. To that earlier question. If it is down 7% this year, as we plan forward in terms of our volume, we think we can withstand that. Obviously, there is anticipated capacity reductions, big ones coming in 2020. That should see us through. Mark, anything you want to add?
Maybe just a little more in terms of the North American market. We would be right in the 6%, 7% down is what we see. A lot of that is happening in the magazines and the catalogs. We've been working for quite a while to reposition our graphics focus. In fact, commercial print is probably flat to even slightly up year-over-year when you look at just the commercial printing that's going on.
Yeah.
Yeah.
Great. Thanks, guys.
Yeah.
The final question comes from Kabelo Moshesha of Renaissance Capital.
Yeah, morning. Sorry, evening. I just have two questions. The first one is on in the last call, you mentioned that some of your paper volumes are fixed on contractual terms. I had around 50% of DWP were fixed at a specific rate. Is this still the case? What rate are those volumes fixed at for this quarter?
The second question would be, in terms of your coated paper volumes as well, those also had what was mentioned was in periods of when the pulp prices were rising, you weren't able to at sort of at the same rate offset the higher pulp prices with higher coated paper prices. Is that still the case?
Would it be the case should in this type of environment where we've seen pulp prices falling, you would actually be able to hold on to the prices higher, and then benefit from the lower pulp prices?
Okay. On the dissolving pulp, a large proportion of our selling prices is indexed off the CIF dissolving pulp in China. Typically, they run or their price quarterly is in arrears. They do move as prices move, but as I said, a quarter in arrears. On the coated paper, that comment was specifically related to Europe, and predominantly on the reel side and specialities. Berry, do you want to-
Very quickly-
Add to that?
Very quickly, Steve. On the reel side, there tend to be six-month contracts on the whole. They do have a form of linkage to pulp prices. There's no formal index, but they do reflect the movement of pulp prices.
On specialities, these tend to be much more annual contracts for about half the business. It is true that they do not move in line, particularly with pulp prices. That does mean that when the pulp prices go down, these prices are more stable. You should see a higher margin when those prices go down.
Sure. No, thank you very much.
Thank you. The final question comes from Sirin Kiran of Mizuho.
Hi. Good afternoon. On graphic paper, the 7%-8% decline you expect for 2019, is that both for U.S. and Europe?
Yes. Yeah. That's what our estimates are giving us, and we've seen independent industry experts come out with similar numbers.
How does that compare to full year 2017, 2018? What was that number for the year that just passed?
Yeah. What you see, if you go back two years, it reduced dramatically the rate of the drop. In fact, it leveled off. In the early part of 2018, it was lower single digits.
Yeah
It accelerated towards the end, December was particularly tough because that was the double-digit decrease that we saw.
Okay. In terms of the pulp integration you talked about, it sounded as if it will be merely the bottlenecking at the existing sites rather than any acquisitions. Is that fair to say?
Look, we-
Or-
We look at all our opportunities. Our focus at the moment is obviously internally. The same point I made on dissolving pulp earlier, that the pulp cycle's against you at the moment, and these assets are very expensive. With that as a background, our predominant focus would be internal.
Does that tie, in your view, with that for paper pulp, the prices, although they have come down slightly in the recent weeks, that it still will be at the high levels we have seen for the past couple of years going forward?
Look, based on the industry experts and the market commentators that we see out there, the expectation is that prices for paper pulp will continue to be high. Obviously, it will be ultimately determined by market forces.
Yeah.
At the moment, there's been a little bit of a decline, but we don't anticipate a significant reduction.
When you said-
Yeah.
When you say a bit of decline, can you give it in percentage terms? How much is that decline?
Look, some of it's public. You've seen declines on the hardwood front in magnitude over the last couple of months of, or depending on whether you're in China or elsewhere, between $50 in the U.S. and China.
Sorry, U.S. and Europe, a little bit more in China.
Okay. You already said that you were 50% integrated in Europe. I think at some point you were actually, as a company, as a group, you were neutral, I guess with the latest conversions for the group as well, you are short. If you can give us a breakdown of which region is integrated by how much in paper pulp?
Yeah. Obviously, overall, we're long dissolving pulp, and then we're short paper pulp. If you look at overall economically and you believe that in the long term, paper pulp prices and dissolving pulp prices are correlated, you do have a natural hedge there.
Okay.
Turning to paper pulp specifically, Europe, you're right, is about 50%. In the U.S., obviously as we ramp up there, our pulp integration percentage has declined to about what now, Mark? 70.
About 70. About 70%.
Those are the numbers. We need to look at opportunities to close the gap there.
Okay. I understand. Lastly, you already mentioned that for your bonds, which the short one is callable and the 2023 becomes callable in April this year, you will be opportunistic. Is it just a mathematical exercise where you can exercise, where you can reissue at, and the cost to do that, or you are also considering extending the maturities at the same time, so it is not pure mathematical exercise?
Well, you obviously do the math. At the same time, you look at market conditions, if it makes sense to extend the maturity, you would look to take advantage of that opportunity.
Okay. If the markets make sense, April onwards, it is possible that you would look to come to the markets?
Yeah.
Okay. Thank you very much.
Sir, that was the final question. Do you have any closing comments?
No, thank you. I want to thank everybody for joining us on the call and look forward to discussing the results at the end of Q2. Thank you.
Thank you. Ladies and gentlemen, that concludes today's conference. Thank you for joining us. You may now disconnect your lines.