Arctic Paper — Strategy on track despite cyclical weakness

Arctic Paper (WSE: ARP)

Currency in PLN

Last close As at 22/09/2023

PLN23.55

0.00 (0.00%)

Market capitalisation

PLN1,632m

Research: Industrials

Arctic Paper — Strategy on track despite cyclical weakness

Arctic Paper’s H123 results reflect dampened demand, with customer destocking, alongside sequential price declines seen across the entirety of the European paper and pulp market. Deliveries of its products were substantially below estimated end-use demand, and global commodity prices, such as for pulp and energy, fell from historical highs to cyclical lows in the six-month period. Despite a weaker H123 versus a record strong comparator, Arctic has maintained a robust balance sheet enabling it to continue its diversification into the higher-margin energy and packaging markets and move up the value chain.

Natalya Davies

Written by

Natalya Davies

Associate Analyst

arctic paper4

Industrials

Arctic Paper

Strategy on track despite cyclical weakness

Industrials

Spotlight - Update

15 August 2023

Price

PLN15.6

Market cap

PLN1bn

Share price graph

Share details

Code

ATC

Listing

Warsaw SE, Nasdaq Stockholm

Shares in issue

69.3m

Net cash as at 30 June 2023

PLN134m

Business description

Based in Poland, Arctic Paper is a paper producer (one of the leading producers of graphical paper in Europe) with three paper mills located in Poland and Sweden. It is the majority owner of Rottneros (51%) in Sweden, which complements the company’s portfolio with pulp, partly produced for its own paper products. Arctic Paper is listed in Warsaw (WSE) and Stockholm (Nasdaq).

Bull

Diversified model with four main areas of focus: paper, pulp, packaging, power (4P).

Investing PLN1.5bn in two new strategically important segments of renewable energy and packaging, targeting 25% revenue growth by 2030.

Strong balance sheet facilitates investment to support strategy.

Bear

Global inflationary pressure stifling customer confidence and demand.

Long-term structural decline in paper demand.

Relatively small free float of 32%.

Analysts

Natalya Davies

+44 (0)20 3077 5700

Andy Chambers

+44 (0)20 3077 5700

Arctic Paper is a research client of Edison Investment Research Limited

Arctic Paper’s H123 results reflect dampened demand, with customer destocking, alongside sequential price declines seen across the entirety of the European paper and pulp market. Deliveries of its products were substantially below estimated end-use demand, and global commodity prices, such as for pulp and energy, fell from historical highs to cyclical lows in the six-month period. Despite a weaker H123 versus a record strong comparator, Arctic has maintained a robust balance sheet enabling it to continue its diversification into the higher-margin energy and packaging markets and move up the value chain.

Consensus estimates

Year
end

Revenue
(PLNm)

PBT

(PLNm)

EPS

(PLN)

DPS
(PLN)

P/E

(x)

Yield
(%)

12/21

3,413

223

1.8

0.4

8.7

2.6

12/22

4,894

928

9.1

2.7

1.7

17.3

12/23e

3,717

327

3.6

1.8

4.3

11.5

12/24e

3,620

291

2.8

1.0

5.6

6.4

Source: Company reports, Refinitiv

Challenging period for the industry

The first half of FY23 saw sequential declines in both demand and price of paper and pulp in Europe, directly affecting Arctic Paper’s financial performance versus a record comparator year. European pulp prices are now significantly lower than FY22 (a record year) and remain on a downward trajectory, with paper prices following with a slight time lag. In H123, revenue declined 22.4% to PLN1.9bn compared to PLN2.4bn in its record H122 period (paper segment saw a 27% fall as customers continued to reduce inventory). EBITDA was PLN254.5m (H122: PLN535.8m), 53% lower than H122 with a corresponding margin of 13.6% (H122: 22.3%). Despite the macroeconomic headwinds, Arctic maintained a robust balance sheet with period-end net cash of PLN134m and equity/assets of 66%.

Investing for value accretive growth

Arctic Paper’s continued robust balance sheet provides freedom to make the necessary investment for diversification of revenue streams; in Q223 Arctic strategically invested SEK286m in expanding and upgrading the Grycksbo biofuel boiler and steam turbine. This will increase both energy output and flexibility, alongside producing 50k tonnes of wood pellets annually, which can be sold to third parties, with expected annual revenue of c SEK100m. By continuing to provide alternative solutions to mitigate the declining long-term paper demand, this evolution should enable Arctic to successfully capture the higher end of the value chain and to achieve better diversification and vertical integration.

Valuation: Discount to peers

Based on its consensus FY24e P/E (5.6x) and EV/EBITDA (3.0x), Arctic Paper trades at discounts of 57% and 59% to European paper and packaging peers. The disparity may reflect the current business structure (mainly lower value add pulp and paper), whereas peers are operating higher-margin packaging businesses.

H123 results dampened by sector headwinds

H123 was a period faced with numerous obstacles for the European paper and pulp industry, involving an economic downturn, which resulted in lower demand for graphic paper and pulp, in addition to decreasing customer inventories. Q223, in particular, was affected by these macroeconomic headwinds, with persistently high input costs and sector-wide declines in demand putting pressure on margins. While the first six months of FY23 saw revenue decline 22.4% to PLN1.9bn against the very strong H122 performance, it represented a 19.1% increase compared to H121. H123 gross profit and EBITDA margin stood at 22% and 14% compared to 31% and 22% in H122, respectively, with the substantial decrease attributable to high fixed costs matched with decreased paper and pulp sales. In light of these results, FY23 consensus revenue and EBITDA forecasts decreased 9.6% and 24.3%, respectively.

Arctic Paper’s strategy has allowed for a period of cyclical weakness as it repositions its business, and the company’s balance sheet remains robust with Q223 net cash of PLN134m, which will enable Arctic to proceed with its extensive capex programme and new investments in line with its long-term 4P strategy to diversify into the energy and packaging markets.

Exhibit 1: Arctic Paper H123 income statement summary

Six months to June (PLNm)

H122

H123

Year-on-year change

Group sales

2,407.0

1,868.5

-22.4%

Gross profit

755.7

411.0

-45.6%

Gross margin

31.4%

22.0%

-

Group EBITDA

535.8

254.5

-52.5%

Group EBITDA margin

22.3%

13.6%

-

EBIT

474.1

195.0

-58.9%

EBIT margin

19.7%

10.4%

-

Profit before tax

473.7

205.8

-56.6%

Net income

400.5

173.7

-56.6%

EPS (PLN)

4.9

2.1

-57.6%

Source: Company reports

The second quarter of 2023 was a particularly challenging period as demand weakened alongside industry-wide extraordinary customer destocking in product value chains compared to the Q2 last year. For the paper segment, revenues amounted to PLN566.7m (Q222: PLN948.6m) as customers reduced inventories. As a result of management’s adaptive focus on margins, paper production capacity was at an all-time low of 55% (which equates to total sales volume of 97kt), in line with the wider sector, albeit income per tonne (PLN5,850) remained in line with Q222 (PLN5,740). The company will continue adjusting its capacity to meet profitable customer demand in line with its strategy and long-term market outlook.

Exhibit 3: Total sales volume (kt) and production capacity (%) of paper, Q419–Q223

Source: Company reports

In H123 the pulp segment (Rottneros) saw revenue and EBITDA decline by 9.3% and 45.9% to PLN579.5m and PLN96.5m, respectively, driven by a challenging pulp market and further price declines primarily in the second quarter. Chemical pulp market prices were historically high during H222 and declined rapidly to estimated bottom-of-the-cycle levels during H123, attributable to the weakening global demand for paper, and held back by significant destocking in various product value chains; in Q223, average NBSK and BHKP pulp prices were lower by 5.3% and 11.9% respectively compared to Q222. However, customer destocking is transient and pulp revenue and EBITDA levels should improve when the business cycle takes a more favourable turn.

Exhibit 2: Quarterly revenue, EBITDA and EBITDA margins: Q120–Q223

Source: Company reports. *Note: Long-run five-year historical EBITDA margin average of 10%.

Robust balance sheet enables diversification of revenue streams

Despite strong macroeconomic headwinds during the first half of 2023, Arctic Paper has showcased its ability to maintain a robust balance sheet, with Q223 net cash of PLN134m and equity/assets of 66%. This puts the company in a favourable position to continue with its extensive capex programme, investing to diversify the business and expand into the higher-margin and growing renewable energy and packaging markets, in line with its 4P strategy (see our recent initiation note); the green economy and sustainability remain at the heart of Arctic’s strategy. If the strategy is successful, the business should become less commoditised, reducing earnings and cash flow volatility and improving margins.

Consistent with this, the company has announced that it is investing SEK285m (c €24m) in the expansion and upgrade of its biofuel installation at the Grycksbo paper mill. Not only is this expected to reduce energy costs by c SEK50m on an annual basis, but the installation will also produce 50kt of wood pellets (made of residuals from sawmills) at an estimated value of SEK100m per year to be sold on the market. This project is estimated to be completed in H125. Diversifying the business and expanding into the power division should enable Arctic to successfully manage market fluctuations, build on modernisation and innovation, meet growing market demand for renewable energy and address challenges in light of the structural decline in the paper market.

Outlook: Focus on developing future growth opportunities

As a result of the conditions experienced over the previous three trading quarters, management’s expectations for FY23 are less favourable than it anticipated at the start of the year. Arctic Paper will continue to face the reduced demand for high-grade paper in Europe at a time of geopolitical uncertainty, high energy prices and elevated inflation, which will continue to affect order levels at the paper mills and production capacity. However, we expect customer destocking to be transient and to turn around as the business cycle starts to take a more favourable turn.

The group’s main strategic financial objectives for 2022–30 remain unchanged:

revenue growth of 25%,

an increase in EBITDA of c 70%, and

an increase in EBITDA margin to 15%.

As mentioned in our previous note, the total investment over the period to achieve these ambitions is planned at more than PLN1.5bn, of which 37% will be allocated to new business areas. Management expects the investment programme to provide a more optimised balance sheet structure, and assumes that the company will achieve carbon neutrality by 2035 at the latest.

By growing its renewables portfolio and expanding into the higher-margin packaging market, in line with the company’s 4P strategy, Arctic can mitigate the declining long-term paper demand and successfully move up the value chain and become less commoditised. If the strategy is successful, and when the positive long-term drivers and growth prospects of the business are in place, there may be a turn in investor sentiment with the potential for a re-rating.


General disclaimer and copyright

This report has been commissioned by Arctic Paper and prepared and issued by Edison, in consideration of a fee payable by Arctic Paper. Edison Investment Research standard fees are £60,000 pa for the production and broad dissemination of a detailed note (Outlook) following by regular (typically quarterly) update notes. Fees are paid upfront in cash without recourse. Edison may seek additional fees for the provision of roadshows and related IR services for the client but does not get remunerated for any investment banking services. We never take payment in stock, options or warrants for any of our services.

Accuracy of content: All information used in the publication of this report has been compiled from publicly available sources that are believed to be reliable, however we do not guarantee the accuracy or completeness of this report and have not sought for this information to be independently verified. Opinions contained in this report represent those of the research department of Edison at the time of publication. Forward-looking information or statements in this report contain information that is based on assumptions, forecasts of future results, estimates of amounts not yet determinable, and therefore involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of their subject matter to be materially different from current expectations.

Exclusion of Liability: To the fullest extent allowed by law, Edison shall not be liable for any direct, indirect or consequential losses, loss of profits, damages, costs or expenses incurred or suffered by you arising out or in connection with the access to, use of or reliance on any information contained on this note.

No personalised advice: The information that we provide should not be construed in any manner whatsoever as, personalised advice. Also, the information provided by us should not be construed by any subscriber or prospective subscriber as Edison’s solicitation to effect, or attempt to effect, any transaction in a security. The securities described in the report may not be eligible for sale in all jurisdictions or to certain categories of investors.

Investment in securities mentioned: Edison has a restrictive policy relating to personal dealing and conflicts of interest. Edison Group does not conduct any investment business and, accordingly, does not itself hold any positions in the securities mentioned in this report. However, the respective directors, officers, employees and contractors of Edison may have a position in any or related securities mentioned in this report, subject to Edison's policies on personal dealing and conflicts of interest.

Copyright: Copyright 2023 Edison Investment Research Limited (Edison).

Australia

Edison Investment Research Pty Ltd (Edison AU) is the Australian subsidiary of Edison. Edison AU is a Corporate Authorised Representative (1252501) of Crown Wealth Group Pty Ltd who holds an Australian Financial Services Licence (Number: 494274). This research is issued in Australia by Edison AU and any access to it, is intended only for "wholesale clients" within the meaning of the Corporations Act 2001 of Australia. Any advice given by Edison AU is general advice only and does not take into account your personal circumstances, needs or objectives. You should, before acting on this advice, consider the appropriateness of the advice, having regard to your objectives, financial situation and needs. If our advice relates to the acquisition, or possible acquisition, of a particular financial product you should read any relevant Product Disclosure Statement or like instrument.

New Zealand

The research in this document is intended for New Zealand resident professional financial advisers or brokers (for use in their roles as financial advisers or brokers) and habitual investors who are “wholesale clients” for the purpose of the Financial Advisers Act 2008 (FAA) (as described in sections 5(c) (1)(a), (b) and (c) of the FAA). This is not a solicitation or inducement to buy, sell, subscribe, or underwrite any securities mentioned or in the topic of this document. For the purpose of the FAA, the content of this report is of a general nature, is intended as a source of general information only and is not intended to constitute a recommendation or opinion in relation to acquiring or disposing (including refraining from acquiring or disposing) of securities. The distribution of this document is not a “personalised service” and, to the extent that it contains any financial advice, is intended only as a “class service” provided by Edison within the meaning of the FAA (i.e. without taking into account the particular financial situation or goals of any person). As such, it should not be relied upon in making an investment decision.

United Kingdom

This document is prepared and provided by Edison for information purposes only and should not be construed as an offer or solicitation for investment in any securities mentioned or in the topic of this document. A marketing communication under FCA Rules, this document has not been prepared in accordance with the legal requirements designed to promote the independence of investment research and is not subject to any prohibition on dealing ahead of the dissemination of investment research.

This Communication is being distributed in the United Kingdom and is directed only at (i) persons having professional experience in matters relating to investments, i.e. investment professionals within the meaning of Article 19(5) of the Financial Services and Markets Act 2000 (Financial Promotion) Order 2005, as amended (the "FPO") (ii) high net-worth companies, unincorporated associations or other bodies within the meaning of Article 49 of the FPO and (iii) persons to whom it is otherwise lawful to distribute it. The investment or investment activity to which this document relates is available only to such persons. It is not intended that this document be distributed or passed on, directly or indirectly, to any other class of persons and in any event and under no circumstances should persons of any other description rely on or act upon the contents of this document.

This Communication is being supplied to you solely for your information and may not be reproduced by, further distributed to or published in whole or in part by, any other person.

United States

Edison relies upon the "publishers' exclusion" from the definition of investment adviser under Section 202(a)(11) of the Investment Advisers Act of 1940 and corresponding state securities laws. This report is a bona fide publication of general and regular circulation offering impersonal investment-related advice, not tailored to a specific investment portfolio or the needs of current and/or prospective subscribers. As such, Edison does not offer or provide personal advice and the research provided is for informational purposes only. No mention of a particular security in this report constitutes a recommendation to buy, sell or hold that or any security, or that any particular security, portfolio of securities, transaction or investment strategy is suitable for any specific person.

London │ New York │ Frankfurt

20 Red Lion Street

London, WC1R 4PS

United Kingdom

London │ New York │ Frankfurt

20 Red Lion Street

London, WC1R 4PS

United Kingdom

General disclaimer and copyright

This report has been commissioned by Arctic Paper and prepared and issued by Edison, in consideration of a fee payable by Arctic Paper. Edison Investment Research standard fees are £60,000 pa for the production and broad dissemination of a detailed note (Outlook) following by regular (typically quarterly) update notes. Fees are paid upfront in cash without recourse. Edison may seek additional fees for the provision of roadshows and related IR services for the client but does not get remunerated for any investment banking services. We never take payment in stock, options or warrants for any of our services.

Accuracy of content: All information used in the publication of this report has been compiled from publicly available sources that are believed to be reliable, however we do not guarantee the accuracy or completeness of this report and have not sought for this information to be independently verified. Opinions contained in this report represent those of the research department of Edison at the time of publication. Forward-looking information or statements in this report contain information that is based on assumptions, forecasts of future results, estimates of amounts not yet determinable, and therefore involve known and unknown risks, uncertainties and other factors which may cause the actual results, performance or achievements of their subject matter to be materially different from current expectations.

Exclusion of Liability: To the fullest extent allowed by law, Edison shall not be liable for any direct, indirect or consequential losses, loss of profits, damages, costs or expenses incurred or suffered by you arising out or in connection with the access to, use of or reliance on any information contained on this note.

No personalised advice: The information that we provide should not be construed in any manner whatsoever as, personalised advice. Also, the information provided by us should not be construed by any subscriber or prospective subscriber as Edison’s solicitation to effect, or attempt to effect, any transaction in a security. The securities described in the report may not be eligible for sale in all jurisdictions or to certain categories of investors.

Investment in securities mentioned: Edison has a restrictive policy relating to personal dealing and conflicts of interest. Edison Group does not conduct any investment business and, accordingly, does not itself hold any positions in the securities mentioned in this report. However, the respective directors, officers, employees and contractors of Edison may have a position in any or related securities mentioned in this report, subject to Edison's policies on personal dealing and conflicts of interest.

Copyright: Copyright 2023 Edison Investment Research Limited (Edison).

Australia

Edison Investment Research Pty Ltd (Edison AU) is the Australian subsidiary of Edison. Edison AU is a Corporate Authorised Representative (1252501) of Crown Wealth Group Pty Ltd who holds an Australian Financial Services Licence (Number: 494274). This research is issued in Australia by Edison AU and any access to it, is intended only for "wholesale clients" within the meaning of the Corporations Act 2001 of Australia. Any advice given by Edison AU is general advice only and does not take into account your personal circumstances, needs or objectives. You should, before acting on this advice, consider the appropriateness of the advice, having regard to your objectives, financial situation and needs. If our advice relates to the acquisition, or possible acquisition, of a particular financial product you should read any relevant Product Disclosure Statement or like instrument.

New Zealand

The research in this document is intended for New Zealand resident professional financial advisers or brokers (for use in their roles as financial advisers or brokers) and habitual investors who are “wholesale clients” for the purpose of the Financial Advisers Act 2008 (FAA) (as described in sections 5(c) (1)(a), (b) and (c) of the FAA). This is not a solicitation or inducement to buy, sell, subscribe, or underwrite any securities mentioned or in the topic of this document. For the purpose of the FAA, the content of this report is of a general nature, is intended as a source of general information only and is not intended to constitute a recommendation or opinion in relation to acquiring or disposing (including refraining from acquiring or disposing) of securities. The distribution of this document is not a “personalised service” and, to the extent that it contains any financial advice, is intended only as a “class service” provided by Edison within the meaning of the FAA (i.e. without taking into account the particular financial situation or goals of any person). As such, it should not be relied upon in making an investment decision.

United Kingdom

This document is prepared and provided by Edison for information purposes only and should not be construed as an offer or solicitation for investment in any securities mentioned or in the topic of this document. A marketing communication under FCA Rules, this document has not been prepared in accordance with the legal requirements designed to promote the independence of investment research and is not subject to any prohibition on dealing ahead of the dissemination of investment research.

This Communication is being distributed in the United Kingdom and is directed only at (i) persons having professional experience in matters relating to investments, i.e. investment professionals within the meaning of Article 19(5) of the Financial Services and Markets Act 2000 (Financial Promotion) Order 2005, as amended (the "FPO") (ii) high net-worth companies, unincorporated associations or other bodies within the meaning of Article 49 of the FPO and (iii) persons to whom it is otherwise lawful to distribute it. The investment or investment activity to which this document relates is available only to such persons. It is not intended that this document be distributed or passed on, directly or indirectly, to any other class of persons and in any event and under no circumstances should persons of any other description rely on or act upon the contents of this document.

This Communication is being supplied to you solely for your information and may not be reproduced by, further distributed to or published in whole or in part by, any other person.

United States

Edison relies upon the "publishers' exclusion" from the definition of investment adviser under Section 202(a)(11) of the Investment Advisers Act of 1940 and corresponding state securities laws. This report is a bona fide publication of general and regular circulation offering impersonal investment-related advice, not tailored to a specific investment portfolio or the needs of current and/or prospective subscribers. As such, Edison does not offer or provide personal advice and the research provided is for informational purposes only. No mention of a particular security in this report constitutes a recommendation to buy, sell or hold that or any security, or that any particular security, portfolio of securities, transaction or investment strategy is suitable for any specific person.

London │ New York │ Frankfurt

20 Red Lion Street

London, WC1R 4PS

United Kingdom

London │ New York │ Frankfurt

20 Red Lion Street

London, WC1R 4PS

United Kingdom

More on Arctic Paper

View All

Latest from the Industrials sector

View All Industrials content

Research: Real Estate

Phoenix Spree Deutschland — To buy or to rent?

A trading update from Phoenix Spree Deutschland (PSD) shows that the core rental business remained strong in H123 although property values declined further, and transactions activity remains subdued. It notes some recent signs of improved buyer interest in the condominium market, but it remains too early to call a turn. We will review our estimates when interim results are released in late September. H123 rental growth is ahead of our expectations but revaluation indicates downwards pressure on forecast NAV. Our forecasts are yet to reflect the adjusted adviser fee structure.

Continue Reading
adrien-aletti-nzWLmc0aAXk-unsplash-phoenix

Subscribe to Edison

Get access to the very latest content matched to your personal investment style.

Sign up for free