Business Context and Reporting Period
Company: Mercer International Inc.
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: June 30, 2010
Reporting Currency: Euros (€)
Operations: The Company operates three northern bleached softwood kraft (NBSK) pulp mills (Rosenthal, Celgar, and Stendal) with a consolidated annual production capacity of approximately 1.5 million air-dried metric tonnes (ADMTs). The Company is a non-accelerated filer.
Key Financial Metrics (Six Months Ended June 30, 2010)
| Metric | Amount (€ thousands) |
|---|---|
| Total Revenues | 420,476 |
| Operating Income | 65,912 |
| Net Income (Loss) Attributable to Common Shareholders | 4,855 |
| Operating Cash Flow | 18,946 |
| Cash and Cash Equivalents (Ending) | 62,145 |
| Working Capital | 155,388 |
| Total Debt (Current + Long-term) | 869,181 |
| Operating EBITDA | 93,909 |
Note: Operating EBITDA is a non-GAAP measure defined by management as operating income plus depreciation and amortization.
Material Changes vs. Prior Comparable Period
- Revenue Growth: Total revenues increased 40.9% to €420.5 million from €298.5 million in the prior year period. Pulp revenues rose 44.4% to €399.4 million, driven by significantly higher pulp prices and a stronger U.S. dollar relative to the Euro.
- Profitability Turnaround: The Company reported an operating income of €65.9 million, a significant improvement from an operating loss of €22.1 million in the same period of 2009. Net income attributable to common shareholders was €4.9 million, compared to a net loss of €50.8 million in 2009.
- Cost Increases: Operating costs increased to €308.7 million (from €281.0 million) primarily due to higher fiber costs in Germany and scheduled maintenance at Stendal and Celgar mills. Fiber costs increased approximately 18.8% year-over-year.
- Non-Cash Items: Net income was impacted by aggregate non-cash, unrealized losses of €25.6 million related to Stendal interest rate derivatives and foreign exchange losses on debt. In contrast, the prior year included unrealized gains on these items.
- Production and Sales: Pulp production decreased slightly to 689,100 ADMTs (from 694,700 ADMTs) due to maintenance downtime. Sales volume decreased to 697,900 ADMTs (from 732,000 ADMTs).
Guidance, Outlook, Risks, and Unusual Items
- Market Outlook: Global pulp markets strengthened in the first half of 2010 due to supply shortages. However, management noted signs of reduced demand from China and a traditional summer slowdown, resulting in downward pricing pressure in July which may continue into the third quarter.
- Maintenance Schedule: The Rosenthal mill has scheduled maintenance downtime in the third quarter (12 days for the mill, plus an additional 51 days for the turbine). No scheduled downtime is planned for the fourth quarter.
- Capital Projects: The Celgar Energy Project (Green Energy Project) is ongoing. Remaining costs of approximately €9.7 million are expected to be funded by a Canadian government grant.
- Debt and Covenants: The Company is in full compliance with all debt covenants. Credit ratings were improved in Q2 2010 (S&P raised target to B; Moody's upgraded to B3).
- Unusual Items:
- Derivative Losses: Unrealized losses on interest rate swaps totaled €11.0 million for the six months ended June 30, 2010.
- Foreign Exchange: A foreign exchange loss of €14.6 million was recorded on foreign currency-denominated debt due to the strengthening of the U.S. dollar against the Euro.
- Debt Extinguishment: A loss of €0.9 million was recognized on the exchange of 2010 Convertible Notes for 2012 Convertible Notes.
Investor Verification Checklist
- Pulp Price Sustainability: Verify if the high pulp price realizations (€565/ADMT average) can be sustained given the noted demand slowdown in China and seasonal factors.
- Foreign Exchange Exposure: Assess the impact of the strong U.S. dollar on future earnings, as revenues are USD-denominated while costs are largely Euro-denominated, but debt service includes USD obligations.
- Derivative Valuation: Review the fair value of the €63.9 million unrealized loss on interest rate derivatives and the potential for future mark-to-market volatility.
- Debt Maturity Profile: Confirm the ability to service debt obligations, particularly the €8.1 million maturing in 2010 and the €24.3 million maturing in 2011, given the high leverage ratio.
- Government Grant Reliance: Verify the status and certainty of the C$40 million Canadian government grant required to complete the Celgar Energy Project.