Sappi CEO Steve Binnie. Picture: BLOOMBERG
Sappi CEO Steve Binnie. Picture: BLOOMBERG

More fabrics crafted from dissolving wood pulp are likely to hit markets in the next few years as pulp and paper producer Sappi moves to extend its reach.

The company, which has traditionally made the bulk of its profits from graphic paper, expects to grow its dissolving wood-pulp producing capacity by at least 500 000 tons in an attempt to shield it from losses as the global demand for paper declines.

"There will always be room for paper but clearly [clients] are spending less on that and more on digital, so we are looking for ways to grow dissolving pulp further," said Sappi CEO Steve Binnie.

Cigarette filters

Sappi had projects under way locally to increase the production capacity of dissolving wood pulp by 60 000 tons within a year and aimed to produce an additional 500 000 tons within five years, Binnie said.

The company produces 1.3 million tons, or 17%, of the world's supply of dissolving wood pulp, mostly sold to manufacturers of viscose, a semi-synthetic fibre, and other textiles. It may also be used in the manufacture of pharmaceutical products, cellophane, spectacle frames and cigarette filters.

According to data collected by market intelligence service Hawkins Wright, the global demand for dissolving wood pulp is just under 7 million tons, of which textiles take 60%. It expects demand to grow to about 8.5 million tons by 2020.

"People usually don't know about it but you probably have seen it at Woolworths. It's a high-quality product that competes with cotton," said Binnie.

"We mainly sell to [manufacturers] in Indonesia, China and India."

According to Sappi's results for its third quarter, released this week, dissolving wood pulp accounted for 21% of its sales. Binnie said that was almost half of its profits.

"The specialised cellulose business delivered higher sales volumes and higher average dollar selling prices compared to the previous year, driven by healthy demand and higher viscose staple fibre prices in the Chinese market," he said.

Speciality packaging

Another growing area of its business is speciality packaging production, which now makes up 15% of its revenue. The company expects this to increase to 25% by 2020.

"We've converted a mill in Europe [for speciality packaging production]. The market is growing at about 3% to 4% per annum so we're doing two more conversions, in the Netherlands and the US," said Binnie.

Sean Ungerer, an analyst at Arqaam Capital, said this would be one of the biggest catalysts for the business in the short to medium term.

"They're phasing out lower-margin coated paper and increasing speciality paper packaging, where margins could be as high as two times coated paper."

Much of Sappi's speciality packaging was used for luxury items but there was also potential in the packaging of food, said Binnie.

Gryphon Asset Management analyst Cassie Treurnicht said changing attitudes to the use of plastics could lead to this area of the business soaring.

"Plastic has become synonymous with environmental destruction. There is a real opportunity here to replace plastic with paper," he said.

Equity analyst at Electus Fund Managers Mish-al Emeran said while Sappi's product mix had improved and lifted the company out of periods of difficulty, ithad to prove it could manage its capital expenditure.

The paper industry was evolving, with more players converting mills to produce alternatives that offered more favourable outlooks, Emeran said. But for Sappi, "it is not without risk, the process is time-consuming and capex-intensive, so management skill will be tested".

Emeran said although Sappi's balance sheet was much stronger than four years ago, with its debt to ebitda ratio now about 1.6, below the targeted figure of 2, and its decreasing interest bill had driven earnings growth, the company had to ensure its expansion plans would lead to efficient, value-adding growth and generate a return on capital greater than its cost of capital.

Risk of overcapacity

"Whilst short-term fundamentals are favourable, there is a real risk of overcapacity as [Sappi] and its competitors add capacity over the medium term, which will be negative for the market, weigh on prices and reduce return on capital," he said.

Packaging and paper group Mondi has outperformed Sappi over the past 10 years with its share price up 423%, while Sappi's has risen 5%. However, Sappi's share price has risen 550% from a low in March 2009.

When it came to dissolving wood pulp, Sappi's competitors were small and would face higher operating costs, said its head of corporate affairs, André Oberholzer.

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