The pulp, paper and packaging sector is often seen as staid and deeply cyclical. However, despite its seemingly unremarkable nature, medium to long-term earnings are trending upwards and global investor interest is on the rise.
Ninety One analyst, John Thompson, and SA Equity and Multi-Asset Deputy Head, Rehana Khan, interrogate what’s happening.
What is driving this momentum in an industry where companies are often considered price takers, producing commodity-like products? In a word, sustainability.
The packaging industry, valued at about US$1 trillion, is under increasing pressure due to concerns about waste, climate change, and sustainability. With food and beverages representing over 43% of the global packaging market and other consumer products accounting for 15%, global packaging demand is driven largely by shifts in consumer behaviour and preferences.
Consequently, regulators are acting, and consumer goods companies and retailers are committing to improve the sustainability of their packaging.
This shift, combined with the rise of e-commerce, is driving growth in wood-based consumer and industrial products. The impact on pulp and paper producers and their value chains will be significant. However, not all companies will be prepared for this shift. The sector is notoriously cost-sensitive, and companies that haven’t kept pace with investment may struggle to survive the coming changes.
In addition to these pressures, a return to trend demand growth in market pulp, fuelled in part by the substitution of plastics with fibre – is expected to drive sector profits. Higher pulp prices are positively correlated to sector profit growth.
Global pulp net demand (kt)
Source: RISI Fastmarkets.
The Ninety One Global Balanced Strategy is invested in the sector, holding positions in Smurfit Westrock, Mondi Plc. and Sappi. Each of these companies plays a distinct role: Smurfit Westrock specialises in recycled fibres and corrugated boxes; Mondi is a vertically integrated leader in packaging and sustainable paper solutions; while Sappi is involved in the production of dissolving wood pulp, paper and packaging. All three source wood fibre responsibly from certified plantations and have strict standards in place to ensure that all wood supplied to their virgin fibre mills meets the highest global ethical standards.
While each company is at a different stage in its business life cycle, they share two key factors: we expect single digit earnings revisions for all three over the next one to two years. And we expect EBITDA CAGR to average 14% (with a 11% to 19% range) through to FY26, from a FY24 base.
Of the three, Sappi stands out as the turnaround story. After heavily investing in the graphic paper market, the company had to change course when the rise of digital media led to a structural decline in demand. Burdened by high debt from M&A activity, along with slowing growth, earnings and returns, the stock experienced a significant derating.
In response, Sappi began transitioning away from the declining graphic paper market and it has recently accelerated these efforts. The company closed two high-cost mills in 2023, supporting cost improvement programmes, and mill conversions and new investments have increased the company’s capacity in packaging, specialty paper and board, and dissolving wood pulp (DWP). Over the past two years, Sappi’s debt burden has been reduced, lowering financial risk.
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