Industry Reports

Deutsche Bank Reports Summaries

080415 Deutsche Bank Report - Newsprint Quarterly

Deutsche Bank - Equity Research

* 4Q results: bottom of cycle

4Q results represented the bottom of the cycle.  Prices began to turn around during the quarter, and average prices were flat with 3Q levels.  4Q was the first quarter since 3Q06 that prices were not lower q/q.  However, results still deteriorated q/q because of higher input costs.  The C$ was the biggest cost factor, as it spiked to well above parity in the middle of the quarter and averaged parity with the US$ for entire the quarter.

* 1Q results should improve

The rebound in prices that started in November accelerated in the first quarter.  The industry fully implemented a $60/mton price hike – phased in $20/mton increments each month.  All major producers are now out with an identical price hike initiative for 2Q.  If fully implemented, the hike would take newsprint prices 25% higher than the $560/mton of last October.  Cost issues may be mixed.  The C$ eased slightly from 4Q levels, but energy costs remained high, and continuing closures of lumber mills made residual wood chips scarce.

* Demand continues to decline at a brisk pace Consumption at the U.S. dailies for the first two months of 2008 fell 11.6% y/y, compared to 10.8% y/y in the same period last year.  Part of the issue is that newspaper widths continue to drop, with 44" widths now becoming common.  However, a bright spot is that the 7.2% y/y decline in total U.S. consumption for the first two months is noticeably less than the double digit declines seen in the first half of 2007.  Also, overseas exports showed strong growth in the first two months of 2008 – up 25.1% y/y. Overseas exports made up 21.1% of total shipments during the period.

* Consolidation

AbitibiBowater agreed to sell its Snowflake, Arizona mill to Catalyst Paper for $161MM in cash.  We felt that the price was disappointing, given the cost and market position of the mill.  The low price was likely the result of a very limited pool of buyers for the mill. With this, the top 5 producers – AbitibiBowater, White Birch, Kruger, Catalyst Paper & Norpac account for over 80% of the market. We think further consolidation is essential to sustain margins at acceptable levels.

* Valuation/risk

We base our valuation on our estimate of Normalized EPS, with a discount applied for the possibility of financial distress. We estimate that ABH will reach Normalized EPS in 4 years and generate $275MM in free cash flow at that time. We place an 8x multiple on this and discount the result over 3 years. We then apply a further discount for the possibility of financial distress. Risks: downside: near-term liquidity, continued decline in newsprint demand; upside: potential refinancing of near-term maturities, the improvement of credit markets, capacity rationalization leading to higher prices.