Dissolving wood pulp (DWP), paper and pulp producer Sappi’s share price on the JSE fell by as much as 10.4% on Monday after the company reported a 12% year-on-year decrease in net profit to $51-million for the third quarter ended June 30, compared with a net profit of $58-million reported for the third quarter of 2017.
Net profit was also lower than the $102-million reported for the second quarter of this year.
Sappi CEO Steve Binnie attributed the lower net profit to an increase in depreciation expenses, as a result of higher capital expenditure (capex).
With the third quarter seasonally and historically Sappi’s weakest quarter, owing to a slowdown in business activity during the northern hemisphere’s summer holiday period, Sappi chooses to use this quarter to undertake major yearly maintenance shuts.
“Capex increased owing to the now completed paper machine conversion at Somerset mill and the debottlenecking of DWP production at our Ngodwana and Saiccor mills,” Binnie explained during a media conference call on Monday.
He added that Sappi has completed the conversion projects at the Somerset and Maastricht mills, and that the company can look forward to significantly improved packaging sales volumes in the coming financial year.
Despite the lower net profit, the company reported that its performance in the third quarter had been in line with previous guidance, with earnings before interest, taxes, depreciation and amortisation (Ebitda), excluding special items, remaining flat at $155-million.
Sappi further managed to reduce its debt by $29-million.
A strong performance in the quarter by the company’s European operations was offset by a number of one-off operational and production issues at its South African and North American businesses.
DWP demand and pricing remained healthy, albeit that net sales pricing was slightly below that of a year ago.
The shuts at Sappi’s Saiccor and Ngodwana mills both ran longer than planned and, combined with additional production and commissioning issues on start-up, impacted on production volumes by about 30 000 t for the quarter.
This translated into a combined loss in profit of about $11-million, Binnie told Engineering News Online.
Meanwhile, the demand for specialties and packaging papers continued to grow across the various product segments, with Sappi’s production capacity being the limiting factor to sales in some markets.
The consolidated Cham paper assets were included for the full quarter following their acquisition at the end of February, Binnie noted during the conference call.
An improvement in demand for coated mechanical paper in the European paper business and higher average graphic paper prices led to improved profitability, offsetting increased variable costs, particularly paper pulp and a softer coated wood free market.
The North American graphic paper business continued to benefit from the tight market conditions, with increased sales pricing. The conversion of Somerset PM1 to packaging grades overran to schedule and this negatively impacted on sales volumes of both graphic and packaging grades in the quarter, as well as costs.
Higher packaging and paper sales volumes and prices in South Africa were unable to fully offset the impact of lower DWP sales volumes and prices, as well as the stronger rand/dollar exchange rate relative to a year ago.
“Based on current market conditions, including the current rand/dollar exchange rate, we expect the group’s fourth-quarter operating performance to be similar to that of last year, despite the lost production volumes in the third quarter impacting on fourth-quarter sales volumes due to the resultant low inventory levels,” he further added, noting that net debt is expected to be reduced further in the coming quarter through positive cash generation.
Binnie told Engineering News Online that the company would, in the coming quarter, focus on production and maximising volumes to take advantage of the expected strong demand.
The DWP market remains tightly supplied, with limited new capacity in the medium term, noted Sappi.
Market prices are expected to remain stable at current levels given historically high paper pulp prices that are supporting DWP pricing and viscose staple fibre prices that remain under pressure from new capacity entering the market.
This, Binnie pointed out, means that the fourth-quarter average realised DWP prices should be in line with those of the third quarter.
Additionally, he highlighted that graphic paper operating rates in both Europe and North America remain healthy, and that further price increases have been implemented since quarter-end to mitigate higher input costs. However, the low graphic paper inventory levels in the North American business will impact on sales volumes in the fourth quarter.
Demand growth for most of the specialty and packaging grades Sappi produces, continues to be above long-term averages, Binne added, noting that, where applicable, price increases have been implemented to offset rising input costs.
Trial runs of the packaging grades on Somerset PM1 have continued and the machine is producing to a high quality. “We expect to start commercial sales of first quality paperboard in the fourth quarter,” he said.
Capex in the last quarter is expected to be about $180-million and includes expenditure in preparation for the expansion at the Saiccor mill, the completion of the DWP debottlenecking at Ngodwana and Saiccor, and expenditure related to the Somerset PM1 conversion overrun.
“We currently estimate the additional cost at Somerset mill to be in the order of between $35-million and $50-million above the initial capex projection,” Binnie added.
While nothing has been formalised yet for the coming financial year, he told Engineering News Online that earnings are expected to be positive, relative to this year, with the extra volumes from undertaken projects expected to have an influence.
Meanwhile, commenting on the debate on the expropriation of land without compensation, in South Africa, Binnie pointed out to Engineering News Online that Sappi “takes comfort in the assurances from President [Cyril Ramaphosa], that these changes are not going to affect jobs or economic growth in the country”.
“Sappi is one of the largest exporters out of South Africa, and we’ve been having engagements with the government through Business Leadership South Africa, and we’re optimistic that it will not have a material impact on our business,” he highlighted.
Binnie said the fall in the company’s share price on Monday was an “overreaction to the numbers” of the third quarter.
“In terms of the bigger strategy, everything is on track. The currency is working in our favour and we remain optimistic going forward,” he noted.