Australia | Jun 02 2009
By Chris Shaw
It appears to be a case of one step forward, two steps back for paper play PaperlinX ((PPX)). The company has completed the sale of its Victorian manufacturing operations to Nippon Paper, but at the same time the company has been hit by both substantial associated deal costs and a further significant decline in operating conditions.
As Credit Suisse notes, while the company sold the business for $676 million there will be $98 million in related costs and adding all this in means its loss on the sale has increased by around $150 million. As well, earnings guidance has been further downgraded by management, with divisional EBIT (earnings before interest and tax) now expected to be 30-35% below FY08 levels on the back of weaker merchant volumes in the current half.
As well, the broker notes currency movements have been unfavourable with the Australian dollar strengthening in recent months, meaning for the full year the company is now expected to report an operating loss somewhere between $40-$50 million in pre-tax terms.
JP Morgan summed it up by saying while the sale of the operations rectifies the group’s balance sheet issues, trading conditions have continued to deteriorate, meaning there is little reason to be in the stock at present given the existing macro headwinds.
The broker also takes the view the greatest potential source of upside for the company had been a return to profitability of the Australian paper business but with these operations no longer in the group, PaperlinX has become just a merchanting business. Such a business is of limited attractiveness given few barriers to entry and so little scope for good returns.
Post the earnings update from management, the broker is now factoring in a loss this year and a return to a modest profit in FY10. To reflect the revised earnings outlook, JP Morgan has downgraded the stock to Underweight from Neutral, a move matched by Credit Suisse and by Macquarie, the latter downgrading from an Outperform recommendation previously.
Going the other way was Citi as the broker upgraded the stock to a Buy rating as, in contrast to the JP Morgan view that the earnings outlook is a greater negative than the positive of a repaired balance sheet post the asset sale, Citi sees some potential valuation upside given gearing is now down to 20% and covenant waivers have been permanently extended.
Macquarie counters this by suggesting, with the downturn in earnings, the company is likely to remain under pressure with respect to debt obligations. On Macquarie’s numbers FY10 EBIT to net interest expense remains very tight at cover of just 1.1x, meaning the banks are still very much in a position of power. Add in the weak earnings outlook and the broker sees little to suggest the stock can outperform in the current conditions.
Post the update from the group, the FNArena database shows the stock is rated as Buy twice, Hold once and Sell/Reduce six times, with an average price target of $0.62. This compares to an average target of $0.76 prior to the trading update.
Shares in PaperlinX today are slightly weaker (in a rising market) and as at 12.10pm the stock was down 2.5c at $0.515. This compares to a trading range over the past year of $0.295 to $2.49.
