Stora Enso's (SEOJF) CEO Karl-Henrik Sundstrom on Q1 2016 Results - Earnings Call Transcript

| About: Stora Enso (SEOJF)

Stora Enso Oyj (OTC:SEOJF) Q1 2016 Earnings Conference Call April 28, 2016 7:30 AM ET

Executives

Ulla Paajanen - IR

Karl-Henrik Sundstrom - CEO

Seppo Parvi - CFO

Analysts

Antti Koskivuori - Danske Bank

Lars Kjellberg - Credit Suisse

Mikael Doepel - Handelsbanken

Mikael Jafs - Kepler Cheuvreux

Linus Larsson - SEB

Tom Burlton - Bank of America Merrill Lynch

Ulla Paajanen

Thank you, Cecilia. Good afternoon, everyone and welcome to Stora Enso's first quarter result call. We will have first the presentations and then go to the Q&A and the presentation will be held by our CEO, Karl-Henrik Sundstrom, and our CFO, Seppo Parvi. So please go ahead, Karl.

Karl-Henrik Sundstrom

Thank you, Ulla. And good morning or good afternoon depending on where you’re in the work. So I would like to start with making a short overview before we go into the details of this quarterly report. So sales came in slightly down but we are growing in the areas that we want to grow in and can grow in and if you exclude the structure of the declining paper and divested Barcelona the sales were up 2.4% versus the same period a year ago. Operationally EBIT increased by almost 13% and we actually reached a record high EBIT margin of 10.1% the highest margin in a very, very long period. Cash flow, both before and after investing improved versus the same period last year and we have continued to strengthen the balance sheet. We are now having a net depth operation and EBITDA of 2.3 versus a 2.6 a year ago.

And the result is basically coming out of a number of things happening and if you see on the slide here you see that consumer board are down 6 million versus a year ago but then you have to keep in mind that China is 11 worse which means that the underlying performance or consumer board are actually up and the reason why China is down by 11% eleven or two folded it. We actually have cost earlier because we are ahead of the startup schedule [indiscernible] which I will cover on later on and we’re a bit delayed in the forest operation in Beihai due to delayed licenses.

You can see here that workouts is causing a bit of a challenge when it comes to power and pulp of that 19 million for packaging solution, 8 million is coming up the workout and that is to be expected to, it takes some time to start up 390,000 ton board machine. On top of that we have had 11 million coming out of impact in China of which slightly more than half of that 11 million is coming from inventory write-offs in our impact operation. Biomaterial improving 11 million and most of that is coming from a stronger performance of the Montes del Plata pulp mill, wood products, [indiscernible] and a very strong performance in paper.

In other the improved result is coming mainly from logistic, operations but also from a forest associates. If you look up on the operating margin since the first quarter of 2013 to today we’re actually been running a compounded average growth rate of 21% which I think is something that to reflect upon. We have stabilized our operations on a higher return on capital employed. So we have three consecutive quarters now running above 11% for the totality and three consecutive quarters running about 13% if you exclude our investment in Beihai that we’re supposed to start up in the coming months. The transformation is proceeding and here's just a short presentation over the major project we are running. Right now, we’re in the mood of starting up the Beihai Mill, it's an investment of €800 million. We would start up in the month of June, wood products for us -- wooden building elements and we are also going into the last phase or the silos demonstration plant which will be ready early 2017.

We are getting to a situation now where we plan to start up in May for our big investment in Beihai, that is ahead of the previous announced plans to be starting up in in the month of May. It will take 18 to 24 months from the start up to reach the full production expected. We have also added as you probably been aware of additional coating capacity in the mill to be able to serve the demand of Food Service Board for the Chinese market and Asian markets. This TMT which is the mechanical pulp operations will be ready during Q4, 2016. Already today we have started deliveries about hard wood pulp from Veracel and soft wood from the market.

Tomorrow I will with some other people would travel to Varkaus for the inauguration of the next generation Varkaus milk and it's an inauguration of both the board machine as well as wooden element production. Before handing over to Seppo I just wanted to reflect on this slide has been part of the presentation for a long time. It's showing that we are growing in to more and more of a growth company focusing on packaging, solution, consumer board, wood products and bio materials. We had as I told you earlier a very strong performance in paper in this quarter.

The journey continues and with those words I hand over to Seppo.

Seppo Parvi

Thank you, Karl. I start with some key figures on following slide. Like Karl already mentioned group sales as reported was down 1.8% but excluding structurally declining paper and divestments actually there is good underwriting growth of 2.4% year-on-year. Operational EBITDA and EBIT both on record levels, EBITDA at 14.6%, 1% it's point improvement compared to a year ago and operational EBIT at 10.1% compared to 8.8% a year ago.

With our capital employed excluding Beihai project mills 13.7% which is clearly above our 13% strategic part and cash flow from operations continued strong at €289 million compared to 171 million in Q1 last year. As this is ahead of us despite high investment levels on Q1 this year to bring down our net debt to operational EBITDA to 2.3 versus 2.6 a year ago.

Then some comments on divisions and state performance in the first consumer board, the operational return on capital in Beihai project was 34%. Sales were up 4.6 excluding our last year divested Barcelona mill. Operational EBIT decreased to 73% but it's worth to note this that the EBIT of Beihai mill due to startup preparation and harvesting operations was negative by 11 million, so if you’ve that back that was actually slight improvement in the operational performance of the consumer court.

Like Karl already mentioned, Beihai mill will be operational in May. And just to remind in effect of Beihai mill and operations startup is about 20 million negative in Q2 which is about the same as it was in Q1 and about €30 million important [ph] during the second half of this year and this 30 million includes €10 million quarter depreciation.

Then moving to packages, their sales increased 11% thanks to ramp up of kraftliner business at Varkaus mill and higher sales in Poland at Ostroleka. Operational EBIT decreased by 19 million due to negative impact of challenges in pulp production in Varkaus relating to startup there that was 8 million and impact in China had €11 million negative coming maybe from stock correction but also from declining pieces with some key customers. If you have piece more or less one time type of FX back to result actually EBIT operationally remained flat versus Q1 last year.

Varkaus [indiscernible] is ramping up nicely, just look at the kraftliner production itself. Market acceptance for the brown kraftliner is good and quality has been good since the beginning as we had said earlier and we expect the reach full production early 2017. And then just to remind that maintenance shutdown is planned at Ostroleka containerboard mill during this quarter.

Then going to Biomaterials, stay positive profitability improvement continues an EBIT increase of 15.1% year-on-year. Our sales decreased slightly that’s because of lower softwood pulp prices in local currencies which were partially offset by higher volumes mainly from Montes del Plata. It's good to know that in the first quarter last year Montes del Plata was still roughly up when it comes to production volumes and only reached whole production volume in mid-last year.

Operational EBIT like mentioned earlier went up €11 million due to lower wood cost and higher sales volumes from Montes del Plata. As we’re planning maintenance shutdown at Montes del Plata mill during quarter two.

Then wood products, the operational EBIT increased by 6.7% even total sales were down 2.6%. And the sales went down due to lower prices in local currencies and lower sales volume in traditional soft goods, this is part of our strategy in wood production division, increase in sales in higher value adding products like building systems and components and that is reflected positively under EBIT.

Wooden building elements investment in Varkaus is proceeding according to plan and we have already started raw material supply for the production there which we plan to start in June this year. Then paper, where EBIT improved by €33 million to €51 million in Q1 this year compared to Q1 last year so they had to make some improved cost. Sales went down 6.6% that’s driven by disposable [indiscernible] of Varkaus paper mill to kraftliner. Excluding this structural impact actually sales remained stable. Operational EBITDA like mentioned increased 36% due to lower costs and good operational performance. Cash flow remained strong and was stabilized after strong improvements earlier last year for expense due to strong input and working capital and we’re planning maintenance shutdown at [indiscernible].

Capital expenditure for cash flow for 2015 remains the same as early and that is 56 and 80%, €20 million. Depreciation is estimated to be €510 million to €530 million that is down 10 million compared to previous communication mainly due to changes on the paper side [indiscernible] divestment recently announced and just to remind that capital expenditure because mentioned improved approximately €10 million for the group's biological assets for [indiscernible] CapEx and we estimate to spend about €160 million for the Beihai mill in China for 500 million [ph] investment.

Then to summarize the strategic targets, first of all looking at the growth of our divisions and business excluding paper and divestment [indiscernible] 2.4% so positive allotment continues. Net debt to operational EBITDA at 2.3 to 3.0 level defined as maximum, the same net debt to equity where we’re 58% compared to target maximum target 80%. We’re still behind the target on fixed cost of sales at 24.4% but we have to remember that we have the cost on Beihai without the sales yet and cost kraftliner project is still ramping up which means that there are big [indiscernible] but relatively small amount of sales.

Operational return on capital employed at 13.7 excluding Beihai, slightly above 13%. The divisional targets as I mentioned earlier excluding Beihai was at 34%, the strategic target is 20% including Beihai project return on capital was 14.3%.

Like it was always since we’re behind target of 20% at 3% but clearly we have to remember the effect of both China impact and Varkaus pulp mill challenges that is ramping up. Biomaterials increased return on capital as they are 13%, a bit of short of 15% level targeted but we believe once it's fully operational we will be able to optimize logistics and also improve their performance of their pulp to 15%.

And wood product at 12.3% behind the targeted 18% level but we also have some seasonal FX and as you might remember they have been around at 18% already in the past and we expect that they can also perform going forward. Paper cash flow and investing activities, the sales were at 5.3% slightly behind the targeted 7% level. With that I will hand it back over to you Karl.

Karl-Henrik Sundstrom

Thank you, Seppo. So the guidance for the second quarter 2016 is that sales were estimated a bit slightly higher than the amount of 2.445 billion recorded in the first quarter of 2016. Operationally it is expected to be in-line with all or somewhat lower than the €248 million recorded in the Q1 of 2016. This estimate include a negative impact of the shared annual maintenance shutdown at Montes del Plata pulp mill, Ostroleka container board mill and Langerbrugge mill. Maintenance impact is expected to approximately €25 million higher than in Q1, 2016.

And as a summary is that sales are growing if exclude the Barcelona divesture and the structure declining paper by 2.4% so the growth continues. EBIT grew by almost 13% we reached a record high 10.1% EBIT margin. Strong cash flow from operations, strength in balance sheet, net debt to EBITDA 2.3 versus 2.6, and we’re constantly put the third consecutive quarter about 11% in operation and return on capital employed and excluding Beihai mill we’re also above the 13% for three consecutive quarters.

Continued progress in transformation in the renewal materials growth company continues, and it's a very last slide, I want to welcome you to Stora Enso's Capital Market Day in London on November 17. And with that I hand it over to Ulla.

Ulla Paajanen

Thank you, Karl. We will now open the Q&A session. Cecilia could you please give the instructions to the audience?

Question-and-Answer Session

Operator

[Operator Instructions]. We will now take our first question Antti Koskivuori from Danske Bank. Your line is open. Please go ahead.

Antti Koskivuori

Firstly on the Beihai mill and the guidance that you’re giving for Q2 and H2, now you say it's going to be a negative contribution of 30 million per quarter in H2 '16, could you talk a little bit about your assumptions here, what kind of delivery volumes you’re expecting for example in Q4 from the mill and a little bit about the qualities what you plan to produce during those quarters? Thanks.

Karl-Henrik Sundstrom

We will produce different kind of test runs and second grades because we believe it's not going to be -- it's going to take as we say 18 to 24 months to get to the full production with the qualities and the qualifications that we need to do especially there around liquid, CKB and food service board. But what exactly qualities I don’t really know, do you want to add something?

Seppo Parvi

Yes I can like Karl also mentioned earlier, in the peak we will produce very basic volume [indiscernible] grades and difficult to say how the fast [indiscernible] qualities might take some weeks, some months, at first you need to reap out the production but we’re taking test into account and expect sort of normal ramp up for this kind of machine.

Karl-Henrik Sundstrom

But to be fair, we’re starting a machine in May but we haven't started it yet. I think this is a very good question for Q2 and Q3 because I need that machine to start up.

Antti Koskivuori

But could you -- is it reasonable to believe that you will reach the break EBIT level on those first 18 to 24 months?

Karl-Henrik Sundstrom

Well I think like we said that to reach full production that takes 18 to 24 months and assuming that bigger reach the expected product mix I think it's a confident say to say that bigger reach positive EBIT by that time.

Antti Koskivuori

By that time, okay. And secondly on biomaterials could you give us an indication to what extent the lower pulp prices had an impact to your biomaterials result and also secondly on biomaterials what do you expect your pulp balance to be during this year given the ramp up in Beihai etcetera?

Karl-Henrik Sundstrom

So, first on the -- we had some but a minor price reductions in the first quarter but some in local currencies and that’s like I would say is about €10 million. Then if you look upon the pulp pricing going forward into the next quarter I will say that for softwood in Europe it will probably be stable in more stable prices or it would -- for Europe stable demand but lower prices, fluff Europe demand slightly stronger and prices slightly lower. So China we believe the demand is going to increase and price is probably booked an ounce. Hardwood China and it's also going to be quite strong and prices stable and then when you comes to dissolving pulp, it's stronger demand but stable prices, so it's going to come down a bit on the whole but it's not going to drop too much.

Antti Koskivuori

Would you say that you’ve a kind of one quarter lag with the pulp prices that we see on the market that when it hits your numbers?

Karl-Henrik Sundstrom

I would say it's about that and that’s fair because you see it on the screens and we’re living on the contracts. So that’s about it. So all in all -- this year we’re going to be 2 million tons long and off that -- in all in-part and all of that 800,000 ton softwood, 700,000 hard wood, 250,000 fluff earned, 150 for dissolving.

Operator

We will now take our next question from Lars Kjellberg from Credit Suisse. Your line is open. Please go ahead.

Lars Kjellberg

It's good to hear that you’re in schedule for Beihai, I'm just a bit curious on when you’re talking about the 20 million in the current quarter and 30 million in the second half for the quarter, is that a year-on-year comparison. I mean you were running about a 11 million in Beihai in Q1, so it's an incremental nine, is that the way we should look at it?

Seppo Parvi

It's absolutely for the quarter mentioned.

Lars Kjellberg

Okay, so it's an incremental nine versus what you actually had in costs in tier 1. Okay. Varkaus, the issues there, you said they were related to the pulp mill, I assume that’s been fixed but the impact portion where you said customer loss, how should you view that, how that’s the comments you made on impact, what sort of quantum is going to be carried on into the second quarter if any?

Karl-Henrik Sundstrom

So with Varkaus, I will be very clear we’re all working on it, it's not fixed yet, but it's on the right track, okay?

Lars Kjellberg

Yes.

Karl-Henrik Sundstrom

And it's not unusual when you’ve rebuilt and stocking up that you need -- you need maybe changing the recipe in the pulp mill where if it's too much or certain things or you consume too much power, you’ve to rebalance everything back. But that’s one thing, when it comes to, the way I would look at upon impact is that slightly more than half of 11 million is an inventory correction that will not come back but then we have also -- we’re ramping up with new customers in Q2 and Q3 but that’s the way you should look upon it.

Lars Kjellberg

And then finally just on the other plans revealed today about your considering to expand in Ostroleka, where do we stand on that and I mean it's a significant amount of money in what now appears to be a quite oversupplied market of course you are not going to start up tomorrow exactly but what sort of timeline do you have a miss and how should we think about your view on containerboard and the integration into your own system?

Karl-Henrik Sundstrom

If I take the mill to start with a new additional board machine this is serving the polish market and it travels about 1000 kilometers and we believe we sit in the sweet spot in that market to serving that corridor work of Former Eastern Europe and that there we continue to see growth and that’s now we’re now taking the next step. So if we come out with a positive feasibility study at the end of this year a decision will be early next year if we decide. And then on the integration maybe you want to take Seppo?

Today we’re are using basically 30% of -- we’re supplying 30% to or corrugated units.

Seppo Parvi

Yes they use about 60%.

Karl-Henrik Sundstrom

Yes.

Lars Kjellberg

And then just finally then if you -- do you want to comment at all, as you know starting up high -- any thoughts about the pulp mill there is it just? Are you going to talk about that early '17 or?

Karl-Henrik Sundstrom

We have no Board decision for doing a pulp mill. We have said that we will only consider that the once the Board machine is up and running and that's going to run between 18 to 24 months. So we will not planning to invest at least in the next two years in Beihai.

Operator

We will now take our next question from Mikael Doepel from Handelsbanken. Your line is open. Please go ahead.

Mikael Doepel

If I could just continue on Ostroleka then, if you go ahead with the project that you gave it the go in early 2017, how long will it take before you're fully up and running?

Karl-Henrik Sundstrom

It will be a Bill process of about 2 to 2.5 years and it is another 18 to 24 months around pick up.

Mikael Doepel

And also in this same press release you said that your long term investment criteria is to keep the CapEx at the same level of depreciation and obviously this Ostroleka now fits into that frame but I wouldn't be fair to say that if that's your criteria then possible China pulp mill wouldn't really fit there anymore.

Karl-Henrik Sundstrom

That’s what I said in my previous is that we will not consider it at least in the next coming two years. That’s what I said and I just want to -- it's depreciation plus around 100 million in investments in biological assets. So we don't go wrong and that’s the targets and within that all this fits.

Mikael Doepel

And then just in terms of the consumer board or the Beihai ramp up and the costs relating to that, could you just remind us what were the total cost for that in 2015? Just to get a feel for the Delta going into 2016.

Seppo Parvi

In 2016 it was 10 million a quarter.

Mikael Doepel

Okay, and this year it's going to be about 100 in total then?

Seppo Parvi

20 million of course, the first half and 30 million of course the second half of the year.

Mikael Doepel

And then just finally on the paper pricing in Europe, prices have been moving a bit, would you care to quantify by how much are all the deals closed so on and so forth?

Karl-Henrik Sundstrom

It's basically publication paper who has moved up a little bit, low single digits.

Mikael Doepel

Okay. And then just a final one, in terms of FX hedging losses. Now you had the quite big hedging losses back in 2015 and you have previously said that these two rollover in Q2 and Q3, do you still expect to get a meaningful Delta on earnings for 2016 compared to 2015?

Seppo Parvi

Yes in Q1 year-on-year FX was positive 28 million. For full year we expect like in the same amount [indiscernible] as we committed earlier on 100 million for full year and this is mainly coming from positive FX foreign exchange hedge [indiscernible] last year. This is all because we see this as a great remainder that they were at the end of Q1 .

Mikael Doepel

And then there will be a more pronounced impact I from this Q2 and Q3?

Seppo Parvi

If you think that it's a part 100 million for the full year and it was 28 million for Q1, I think it's roughly around the same pick it's got as it was. Maybe a big less towards the end of the year, so remember the rates have been last year.

Operator

We will now take our next question from Mikael Jafs from Kepler Cheuvreux. Your line is open. Please go ahead.

Mikael Jafs

I would like to continue a little bit on Ostroleka came now during the past few months we've seen quite a number of decisions to build test liner or containerboard machinery in Europe. When you do your feasibility study, how will you think about such things as market balance etcetera?

Karl-Henrik Sundstrom

It is obviously coming in to that and that's why we need to do is study and go through all of that. Right now it looks like a very attractive investment and that's why we're doing it and if things turn out not to be that much, not that good but we feel that the balance, our location, our corrugated units and also bringing it basically that’s a copy of DM5 [ph] the most modern machine in Europe. I think we have an attractive case but let's see and when we’re ready with the feasibility study.

Operator

[Operator Instructions]. We will now take our next question from line of Linus Larsson from SEB. Please go ahead.

Linus Larsson

Just coming back to Beihai and your guidance for the next few quarters. Just to be perfectly clear, the figures that you provided us with totaling some 100 million as an absolute number for 2016 is that your best guess for the EBIT contribution or is this just the cost side of things?

Karl-Henrik Sundstrom

This is our estimated effects on EBIT.

Linus Larsson

Exactly, because I would assume that you have some sales increasing it towards the end of the year?

Seppo Parvi

Like Karl had mentioned earlier you’ve to remember we’re ramping up a brand new machine and it not running yet but we’re of course confident that we can successfully ramp it up, but it is easier to comment this kind of questions in Q2 call and we have a bit more experience on how to start up this moving ahead. We always try to be realistic as always.

Linus Larsson

How much of -- I don't know if you can comment upon that a little bit, how much of sales do you expect in 2016?

Seppo Parvi

It is quite limited.

Karl-Henrik Sundstrom

Let us with that Linus, and the reason for it is that let us now in order for it to get startup and I will come back later on because if they [indiscernible] and I don’t want to look like an idiot.

Linus Larsson

I fully understand, I just want to double check that we're not only seeing the one side of the P&L here but that's clear.

Karl-Henrik Sundstrom

But we believe it has to be clear, like I said it's EBIT FX we’re talking about, it's not cost on it's assuming some sales whatever positive is coming from those.

Linus Larsson

And then just on Ostroleka also, a follow-up question just for clarity sake. Is this 500,000 tons a test liner machine that you’re considering? That’s the first question and the second question, could you update us to your group net long position after such investment?

Karl-Henrik Sundstrom

So it is all city based containerboard that we’re going to make their. And your second question I missed it?

Linus Larsson

I mean on the group level update us please, today you’re long how much 500,000 tons?

Karl-Henrik Sundstrom

Yes, and we will then add another 500.

Linus Larsson

And then a third follow up if I'm just on Varkaus, it sounds as we should expect some sequential improvement at the Varkaus operation but not a full restoration of the impact in Q1?

Karl-Henrik Sundstrom

Yes, so Linus we used to say that towards the end of Q2 we would be EBITDA breakeven that has moved into Q3.

Operator

[Operator Instructions]. We will now take our next question from Tom Burlton from Bank of America. Your line is open. Please go ahead.

Tom Burlton

I just wanted to ask on Varkaus and the coated fine [ph] market please and one of the big players in the market has announced a price increase today, obviously you foresee [indiscernible] I just wonder how you view pricing in that market? I know you said in the past you're not competing on price but it was if the other players are raising prices and you are not -- you will be difficult to be competing on pricing, I wonder whether you see that as an opportunity for you to gain market share or how your strategy is sort of changing or might change in that market?

Karl-Henrik Sundstrom

We are still ramping up the machine and that you’ve to remember and we see demand being very stable in the global coated fine [ph] market and prices is fairly stable and that is for me an area where we need to build up because we’re now getting more and more qualifications coming in from the big customers. And we are doing the qualification basically by going on quality and [indiscernible] saving tons for the customer. I think this question will be excellent if we talk in like six to nine months because then we have everything more qualified and we can be more in the area of being leading the qualification areas.

Operator

There are no further questions in the queue.

Ulla Paajanen

Okay. Thank you everyone for this call and good questions and discussions. We will be reporting our Q2, 21st of July and hope to speak with you then and I will then hand this over now for final words from Karl.

Karl-Henrik Sundstrom

So first of all thank you all and it was very good questions. We’re moving in the right direction. We have some issues in impact and the underlying earning capabilities or clearly demonstrated in our report. So thank you and I wish you all a very nice day.

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