CLU (Cellu Tissue Holdings)
CLU is a busted IPO that came public early in 2010 by Goldman Sachs and JPM partially to take advantage of the success of CLW, a high-flying competitor in the private label tissue space. The deal came at $13 which represented an elevated EBITDA multiple of 7-8x EBITDA estimats at the time. Goldman ultimately initiated coverge with a neutral rating and $10 price target, citing accelerating pulp prices, CLU's main raw material expense. The stock has fallen to current levels as margins have been squeezed by higher pulp and the company now trades at a discount to the group with a low 5.0 multiple on depressed cashflow that is likely to go higher in the next 6 months.
Pulp pricing, that hurt on the way up, now set to help in decline
In the wake of the Chilean earthquake and heavy Chinese buying earlier in the year which drove NBSK prices over $1000/ton, prices have now pulled back as the Chinese pulled back from the market and idled capacity has been restarted. In addition new capacity in pulp has not surprisingly opened to take advantage of the higher prices. 2 mills are reopening in Canada and plenty others have been opened in Asia. These declines are meaningful on the margin as CLU buys at spot levels or at levels contractually tied to an industry index that reprices monthly. There are 108k converted tons that buy spot pulp and reprice with the market quickly...a $100 drop in NBSK translates roughly into an $8.4mm positive impact on cost. The 200+ tons of tissue capacity that is mostly on contract would reprice at a 90 day lag and represent another $16mm benefit. Prices are down $20-30 in August so this dynamic is certainly under way. In q1 (feb fiscal yr) the higher pulp prices entirely offset the positive impact of CLU raising prices in nonconverted end products. Next quarter, with pulp falling and price increases still filtering through, margins should start to expand nicely. Additional price increases of $50/ton on tissue hardrolls, machine-glazed and away-from-home tissue effective July 1 will keep this dynamic alive into q2 and into the foreseeable future.
Increased converting capacity will drive much higher earnings power
CLU produces 330k tons in total and 1/3 is converted to value-added product. Each converted ton garners a premium of $100 relative to nonconverted rolls. Another 50k tons of converting capacity is coming on in the next 2-3 years which will utimately translate into an incremental $10mm in ebitda or .50/share pretax. These will come into the pnl in pieces as the 4 new converting lines are brought on. CLU wants to grow the 108k tons of current converted capacity by 10-15% a year, which implies 15k tons in yr 1 or $3mm in incremental EBITDA with equal to slightly higher increments in the following two years.
The respective EBITDA/ton garnered for each product type breaks out as follows:
Machine Glazed $134/ton
Parent Rolls $233/ton
Converted $394/ton
Valuation attractive
Although CLU will generate little to no FCF this year based on the capex budget for the increased converting capacity, the incremental EBITDA from the project as well as lower pulp costs and lower capx should set up a nice jump next year. The math is roughly as follows
2011e 2012e
EBITDA $77-85 (guidance) $107
WC (9) (6)
Capex (32.5) (30) Maintenance capex is $20-25mm/yr
Cash interest (28.0) (27)
Debt amortzation (1.0) (1.0)
Cash Taxes (7.5) (11.0)
FCF $(1.0)-7.0 $32.0 ($1.50/share)
So we are paying 5x FCF out a year. The following chart illustrates the comparable valuations. Relative to comps CLU trades at a discount to the group of more cyclical companies on an EBITDA basis and inline with the average on an earnings basis. Despite the low liquidity in the stock, CLU has more growth potential, upside and optionality than most if not all of these comps.
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Current |
Market |
P/E |
P/E |
EV/EBITDA |
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Price |
Cap |
2010e |
2011e |
2011e |
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|
|
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|
|
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| IP |
INTERNATIONAL PAPER CO |
$19.97 |
8,727 |
10.4 |
7.6 |
4.2 |
| WY |
WEYERHAEUSER CO |
$15.55 |
3,291 |
68.8 |
25.0 |
6.0 |
| MWV |
MEADWESTVACO CORP |
$21.58 |
3,686 |
15.1 |
13.0 |
5.2 |
| TIN |
TEMPLE-INLAND INC |
$15.75 |
1,697 |
14.4 |
7.2 |
3.8 |
| PKG |
PACKAGING CORP OF AMERICA |
$22.30 |
2,311 |
13.3 |
9.6 |
5.0 |
| UFS |
DOMTAR CORP |
$58.72 |
2,520 |
6.8 |
9.8 |
3.7 |
| RKT |
ROCK-TENN COMPANY -CL A |
$48.09 |
1,873 |
11.3 |
8.3 |
5.2 |
| SSCC |
SMURFIT-STONE CONTAINER CORP |
$16.76 |
1,525 |
15.3 |
6.5 |
3.0 |
| CLW |
CLEARWATER PAPER CORP |
$66.83 |
767 |
13.3 |
12.2 |
3.5 |
| CLU |
CELLU TISSUE HOLDINGS INC |
$7.63 |
154 |
14.8 |
8.0 |
4.3 |
| TIS |
ORCHIDS PAPER PRODUCTS CO |
$14.43 |
108 |
14.1 |
9.5 |
5.6 |
| GLT |
GLATFELTER |
$10.12 |
464 |
11.1 |
8.0 |
4.3 |
| BZ |
BOISE INC |
$6.72 |
570 |
8.3 |
6.0 |
3.8 |
| WPP |
WAUSAU PAPER CORP |
$6.33 |
310 |
13.2 |
9.5 |
3.7 |
If the combined benefits from lower pulp, higher share of converted products and organic growth of 2-3% (lower than historical) in private label tissue all materialize, there is some $30mm in EBITDA improvement off of a base of $77-85mm in guidance within two years. With no multiple expansion, that gives us an upside scenario of $15 without accounting for any debt reduction (which likely happens if these benefits accrue).
Private label tissue is gaining share over branded product CLU and CLW have grown volumes even during the worst part of the economic downturn. Private label tissue in total has grown at a compound annual growth rate of 7.9% over the last five years versus 2.4% for branded tissue. See page 15 of the same presentation referenced above.
Not paying for any rising prices for tissue....guidance assumes zero increase Kimberly Clark, Proctor and Gamble and Georgia Pacific control 65-70% of the branded market and they are the price leaders. Hitherto, despite the big move in pulp, they have unexpectedly not raised branded tissue prices which has affected CLU's ability to maintain margin as they are price takers. They have cut back on roll sizes which is a stealth prices increase but you get less bang for the buck with these moves. With pulp falling now, it is unlikely that the branded players will raise prices anytime soon. History dictates that large tissue concerns will ultimately raise prices to recoup higher RM costs especially if, contrary to our thesis, high pulp prices do persist. In that cas, margin will ultimately benefit but may take longer to materialize.
Balance sheet in good shape
First maturity is in 2014. Paying down debt is nicely accretive at 12.485 interest cost. Each $10mm in debt paid down is $.04 accretive to EPS. That process should begin next year once the converting capex program is completed.
Well-respected managment team
Inside ownership-over 8%, and 49% owned by Weston Presidio
Risks
-Customer concentration in dollar store space; Dollar General is 10% of revenue
-KMB, PG and Georgia Pacific continue to hold prices and pulp does not decline
-illiquidity fails to attract incremental investors