Description

Stora Enso - SHORT

Overview:

Stora Enso Oyj is a Finish paper company that trades on the Helsinki stock market. It has a market cap of 10.7 Billion Euros and Net Debt of about 2.6 Billion Euros.

The company provides packaging, biomaterials, wood, and paper industries worldwide. The company generates around 35% from Consumer Packaging and Board products, another 21% from Paper and the rest from Biomaterials and Wood. About 90% of sales originate in Europe.

Terminology and classification

Terminology and classifications of paperboard are not always uniform. Differences occur depending on specific market. In general, the following are often used:

BoxBoard or CartonBoard = Paperboard for folding cartons which are used in Consumer Packaging and Board products. We will refer to all as folding box board or “FBB”.

Production Chain:

The end product is used for the packaging industry, the production chain is made up of the following:

The fiber material (which can either come from fresh (virgin) sources or from recycled paper) is turned into pulp and bleached, to create one or more layers of board, which can be coated for a better surface and/or improved visual appearance.

Virgin Fiber from Trees, or Recycled Fiber -> Paper Grade (Stora Enso) -> Convertors or Product OEMs -> End Usage

Competition from the Asian producers:

We believe that Stora Enso is facing immense structural headwinds from rising competition from China, that is yet to be felt in full force in its home markets in Europe. There is massive growth in supply coming from China for Consumer Packaging and Board materials – in fact until 2012 China was a net importer of paper grades used in making packaging and boards and since then has become a net exporter.

Asian share of world BoxBoard production in 2014 was 43% while the whole BoxBoard industry worldwide demand was ~56.6Mt. APAC production of SBS and FBB grew from approximately 2.5mm tons per year in 2007 to approx. 11mm tons per year. Importantly, imports from China into Europe have been growing at a 25% clip over the last 3 years, with signs of acceleration. The result is that the market in Europe for Consumer Packaging paper for local manufactures has been flat. As the share of Chinese imports expands from low single digit levels (in 3 years from virtually nothing prior), we will start to see volumes decline at local manufacturers.

Market overview – Europe:

Stora Enso is the second biggest folding boxboard producer in Europe with 23% market share of production capacity with approximately 750,000 tons/year. Initial signs are already evident in declines in price in the spot market and deceleration in volume growth at Stora Enso and others. Price has declined from approximately USD 1,640 per ton in 2011 to around USD 1,260 per ton in 2015.

FBB Prices:

As more capacity comes online in China in the next few years, this pressure will intensify.

We believe Stora Enso (and others) have been masking this trend by shipping product abroad, to the USA and elsewhere. However, there is a limit to this growth engine as the cost of shipping from china is coming down with the decline in oil prices. Furthermore, in 2019 we expect the FDA to allow Ivory grades from China to be used in packaging for medicine, which is currently off limit to Chinese product. Once this happens European regulators will follow, and about 30-40% of the value in the market will open up to competition incrementally.

Supply and Demand in Europe:

According to CEPI.org: Carton Board "CB" consumption in Europe in 2015 was 5,891 kt 2.6% Growth over 2014. Production in 2015 was 8,710 kt 1.9% Growth over 2014.

CB Consumption is 7.4% of total paper & board Consumption in 2013 and 7.6% in 2015.

CB Production is 9.41% of total paper & board production in 2013 and 9.585% in 2015.

According to Stora Enso North America and Europe are both mature markets with average grow of demand in the U.S of about 0.4% and in Europe around 1.8% on average for annually basis until 2020, while in 2015 Europe demand grew by 1% and North America demand for CartonBoard decreased by 2%. Stora Enso’s board deliveries decreased by 3.6% between 2014 to 2015 and production decreased by 2.7%.

Supply:

The main players in the local European market are (by total capacity):

1.       Mesta Board (METSAB):

a.       Capacity of 1,320kt/yr of 3FBB. 75% (~990kt) of it is delivered to EMEA markets.

b.       MB is responsible for 41% of total Europe market production capacity.

c.       MB plans to have 1Mt available for the European market.

2.       Mayr-Melnhof

a.       Capacity of ~380kt/a of FBB.

b.       Mayr-Melnhof is responsible for 11% of total Europe market production capacity.

c.       85% of company's sales in general are in Europe.

d.       Virgin Fiber based board capacity grown from 232kt in 2011 to 331 in 2015 (CAGR 7.37%).

e.       Main source of income for the company is "packaging segment".

3.       International Paper

a.       Capacity of ~270kt/a of FBB.

b.       International Paper is responsible for 8% of total Europe market production capacity.

c.       13% of the company's revenue came from "Consumer Packaging" (3rd revenue engine) (~2.9b in net sales).

d.       66% of Consumer Packaging sales are in N.A and 11% in EMEA.

e.       International Paper focus on SBS (Solid Bleached Sulphate)

4.       The Holmen

a.       Capacity of ~220kt/a of FBB.

b.       The Holmen is responsible for 7% of total Europe market production capacity

c.       The Holmen is the largest SBS producer in Europe.

d.       Consumer Board is the main EBITDA number for the company.

Together, the above companies supply 81% of the demand in Europe. The remaining demand is supplied by imports (19%). Together, the above companies are responsible for 89% of total production capacity in European market.

Total supply in the European market is fulfilled by Local European Producers and Imports. The net results are continued erosion in. As imports from China have expanded rapidly, the available market for local European suppliers such as Stora Enso has been shrinking:

Competitive Landscape:

a.     Capacity of 1,320kt/yr. of 3FBB. 75% (~990kt) of it is delivered to EMEA markets.

As Stora Enso realizes its European market is under threat it has embarked on a plan to expand in China. This appears to us to be an illogical move, since China capacity continues to ramp up (with expectations for further capacity additions into 2021).  We therefore see Stora Enso's decision to invest 800mm Euros in a Folding Boxboard plant in Beihai in China as a sign of pressure. We expect the plant to destroy value as fierce competition in the local Chinese market will erode margins and Stora Enso will miss its targets for the venture.

Summary:

Combined, the above factors suggest to us that sell-side estimates for Stora Enso to grow revenues at about 30bps per year from 2016 to 2018 are unrealistic. In fact, we expect revenues to decline by 300-400bps per year going forward. We also see margins contracting from 2015 going forward as opposed to consensus expectations for 75bps of total margin expansion from 2015 to 2018 As a structurally declining business, we ascribe a multiple of 5.5X TEV/EBITDA for Stora Enso and expect the stock to trade for half its current price in two years.

Catalyst

Growing supply from China.

FDA Approval for Chinese producers.