Business Context and Reporting Period
Company: Mercer International Inc.
Filing Type: Form 10-Q (Quarterly Report)
Period Ended: June 30, 2008
Reporting Currency: Euros (€)
Operations: The Company operates three NBSK pulp mills (Rosenthal, Celgar, and Stendal) with a consolidated annual production capacity of approximately 1.4 million air-dried metric tonnes (ADMTs). The Company is an accelerated filer with shares listed on the NASDAQ Global Market and the Toronto Stock Exchange.
Key Financial Metrics
All figures in thousands of Euros unless otherwise noted.
| Metric | Six Months Ended June 30, 2008 |
Six Months Ended June 30, 2007 |
Three Months Ended June 30, 2008 |
Three Months Ended June 30, 2007 |
|---|---|---|---|---|
| Revenues | 349,686 | 346,134 | 170,585 | 176,603 |
| Operating Income | 24,859 | 25,420 | 6,216 | 10,943 |
| Net Income (Continuing Ops) | 3,740 | 4,433 | 871 | 3,340 |
| Net Income Per Share (Basic/Diluted) | €0.10 | €0.12 | €0.02 | €0.09 |
| Operating EBITDA | 52,635 | 53,267 | 19,800 | 24,998 |
| Cash and Cash Equivalents (End of Period) | 83,295 | 48,884 | 83,295 | 48,884 |
| Total Debt (Current + Long-term) | 822,030 | 849,855 | 822,030 | 849,855 |
| Working Capital | 169,484 | 168,743 | 169,484 | 168,743 |
Liquidity: Cash and cash equivalents were €83.3 million as of June 30, 2008. The Company also held €33.0 million in restricted cash for debt service related to the Stendal mill. The Company had not drawn on its €40.0 million Rosenthal revolving facility but had drawn approximately €21.8 million on its C$40.0 million Celgar facility.
Material Changes vs. Prior Period
- Revenue: For the six months ended June 30, 2008, revenue increased slightly (1.0%) to €349.7 million compared to €346.1 million in 2007. However, for the quarter ended June 30, 2008, revenue decreased 3.4% to €170.6 million. The primary driver for the variance was the weakening U.S. dollar against the Euro, which offset increases in U.S. dollar list prices for pulp.
- Operating Income: Operating income decreased 2.2% for the six-month period and 43.2% for the quarter compared to the prior year periods. The decline was attributed to the weak U.S. dollar and higher freight/warehousing costs due to shipment backlogs at the Port of Vancouver.
- Production and Sales: Pulp production increased to 717,700 ADMTs (6 months) and 356,800 ADMTs (quarter) in 2008, up from 673,600 and 326,400 respectively in 2007. Sales volume also increased, but average sales realizations per ADMT decreased due to currency fluctuations.
- Derivatives: The Company recorded significant unrealized gains on interest rate derivatives (€12.7 million for six months; €20.6 million for the quarter), which positively impacted net income but are non-cash items.
- Inventory: Pulp inventories increased by approximately 100% compared to the same time last year, largely due to shipment delays to China at the Celgar mill and customer purchase delays at the Stendal mill.
Guidance, Outlook, Risks, and Unusual Items
- Outlook: Management expects to meet debt service and working capital requirements through cash flow from operations and existing credit facilities. The Company anticipates increased revenue from surplus energy sales in Germany once amendments to the Renewable Energy Resources Act take effect on January 1, 2009.
- Unusual Items:
- Derivative Gains: Net income was significantly bolstered by unrealized gains on interest rate derivatives (€20.6 million in Q2 2008). These are non-cash and volatile.
- Minority Interest: Minority interest expense increased to €3.4 million in Q2 2008 (from €1.1 million in Q2 2007) due to the performance of the Stendal mill (70.6% owned).
- Risks and Contingencies:
- Currency Risk: The Company is highly exposed to fluctuations between the Euro, U.S. dollar, and Canadian dollar. A 14% decrease in the U.S. dollar value against the Euro since June 2007 materially impacted reported revenues.
- Supply Chain: Shipment backlogs at the Port of Vancouver have delayed revenue recognition for committed sales.
- Regulatory: Uncertainty remains regarding Russian government tariffs on wood exports, which could impact fiber costs in Germany. Additionally, the Celgar mill's collective agreement expired in April 2008, creating a risk of work stoppages.
- Capital Projects: The new energy project at the Celgar mill faces risks regarding permitting, construction delays, and achieving projected power generation.
Investor Verification Checklist
- Currency Impact: Verify the extent to which reported revenue and earnings declines are driven by the weak U.S. dollar versus actual operational performance.
- Inventory Build-up: Assess the risk of inventory obsolescence or further delays in revenue recognition due to the 100% year-over-year increase in pulp inventories.
- Derivative Volatility: Review the sustainability of net income given the heavy reliance on unrealized gains from interest rate derivatives (€20.6 million in Q2).
- Debt Covenants: Confirm compliance with the 9.25% senior notes indenture, specifically the minimum ratio of Indenture EBITDA to Fixed Charges (2.0 to 1.0), which restricts additional indebtedness and restricted payments.
- Stendal Restrictions: Note that the Stendal mill is currently restricted from paying dividends due to failure to meet prescribed financial performance ratios and debt service reserve requirements.