Commenting on the group’s results, Sappi Chief Executive Officer Steve Binnie said: “Following the record profitability achieved last year, the Group faced a severe downstream inventory destocking cycle. This led to production curtailment in both the European and North American regions to match the sluggish market demand and to prevent excess inventory accumulation. Profitability was negatively affected by reduced sales volumes, cost inflation and operational inefficiencies associated with the commercial downtime. However, paper selling prices remained relatively stable through the quarter and were significantly above the levels in the prior year. Dissolving pulp (DP) market conditions improved during the quarter.
Sappi delivered an EBITDA excluding special items of US$167 million against a backdrop of a challenging global economy and significantly weaker paper and pulp markets. Our long term net debt target of approximately US$1 billion remains a strategic imperative and we continued to progress towards this goal. Net debt decreased by US$568 million compared to the prior year and ended the quarter at US$1,225 million. Net Debt/EBITDA improved materially to 1.0 from 2.0 in the prior year.”
Looking forward, Binnie stated: “Sappi is well positioned to withstand the current market pressures given our significantly reduced debt profile and healthy cash reserves. We remain committed to our strategy to reduce exposure to graphic paper markets while investing for growth in renewable packaging, dissolving pulp and biomaterials.”
Financial summary for the quarter
- EBITDA excluding special items US$167 million (Q2 FY22 US$337 million)
- Net Debt of US$1,225 million (Q2 FY22 US$1,793 million)
- Profit for the period US$69 million (Q2 FY22 US$188 million)
- EPS excluding special items 11 US cents (Q2 FY22 35 US cents)
Viscose staple fibre (VSF) operating rates in China improved through the quarter with renewed economic activity following the Lunar New Year celebrations in January 2023 and the opening of the economy following the relaxation of COVID-19 pandemic restrictions. Downstream inventories in the textile value chain dropped from the peaks of last year and clothing retail sales were better than expected. The hardwood DP market price responded positively to the improved sentiment and increased to US$920/ton from a low of US$883/ton in January.
The packaging and speciality business faced significant headwinds from elevated downstream inventories. In South Africa, production difficulties at the Ngodwana Mill following heavy rains and challenges associated with the recent upgrade of the containerboard machine further impacted supply. Graphic paper markets were weaker, with demand across all product categories lower due to the ongoing industry-wide destocking cycle and negative consumer sentiment related to a slowing global economy. As a result of these difficult conditions, sales volumes for packaging and speciality paper and graphic paper were 29% and 42% below the prior year, respectively.
In both North America and Europe profitability was negatively impacted by weak paper markets. Higher year-on-year average selling prices were insufficient to offset substantially lower sales volumes. Operations were curtailed to match market demand and proactively manage working capital. The extensive downtime resulted in operational inefficiencies and increased variable costs resulting in reduced margins.
While the intended sale of three European graphic paper mills did not conclude, reducing exposure to graphic paper markets remains a strategic imperative and Sappi will explore all options for these assets. Collectively these graphic paper mills contribute positively to EBITDA.
In North America the Somerset PM2 graphic paper to paperboard conversion and expansion project started.
Profitability of the South African business improved marginally year-on-year despite significant cost inflation and slightly reduced sales volumes. For dissolving pulp (DP) a bonded warehouse was established in China and the first shipment made during March. Approximately 17% of the Ngodwana Mill quarterly pulp sales volumes were shipped via Maputo port, which remains a strategic logistics risk mitigation for shipments from South Africa.
Operational challenges associated with the upgrade of the Ngodwana Mill containerboard line and severe rainfall events constrained packaging sales volumes. Ongoing poor rail service levels necessitated increased road transport to ensure reliable timber and raw material deliveries to the mills. Containerboard demand softened slightly during the quarter due to a weaker than anticipated table grape season and a slow start to the apple season. Sales price increases only partially offset cost inflation resulting in a contraction of margins for the segment.
VSF and DP markets are recovering and demand from our major customers is healthy. The short-term DP supply/demand landscape is expected to remain relatively balanced. However, the DP market price remains range bound at current levels by stagnant textile fibre pricing, which would need to increase to support further DP pricing gains. A planned maintenance shut at Saiccor Mill as well as lower contract pricing for certain customers will impact margins and profitability for the pulp segment in the third quarter.
High levels of downstream inventory are obscuring our short-term visibility of underlying paper demand and market conditions are anticipated to remain weak until the destocking cycle is complete. Global logistics challenges are mostly resolved and destocking may take longer than expected if customers delay replenishing their supply chains and drive down inventories below historical levels in anticipation of pricing adjustments.
We will continue to diligently manage working capital through production curtailments and adapt our product and market mix to match demand. Some relief may be expected from lower input costs as many variable cost categories have passed their pricing peak and we anticipate input cost benefits to be realised in the coming quarters.
Capital expenditure is estimated to be US$410 million for FY2023 and includes US$70 million for the Somerset PM2 conversion and expansion project.
The third quarter is seasonally the weakest in terms of demand for our products. Given that global macroeconomic uncertainties continue to weigh on consumer sentiment and paper markets have yet to show signs of a sustained recovery in demand, we anticipate that EBITDA for the third quarter of FY2023 will be below that of the second quarter.