Business Context and Reporting Period
Company: Mercer International Inc.
Filing Type: Form 10-Q (Quarterly Report)
Reporting Period: Nine months ended September 30, 2009 (Unaudited)
Reporting Currency: Euros (€)
Operations: The Company operates three 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 operates as a single reportable segment: market pulp.
Key Financial Metrics
| Metric (in thousands of Euros) | Nine Months Ended Sep 30, 2009 | Nine Months Ended Sep 30, 2008 |
|---|---|---|
| Total Revenues | 454,687 | 548,295 |
| Operating Income (Loss) | (22,642) | 34,713 |
| Net Income (Loss) | (76,133) | (16,470) |
| Net Loss Attributable to Common Shareholders | (64,938) | (13,433) |
| Net Loss Per Share (Basic & Diluted) | (1.79) | (0.37) |
| Operating Cash Flow | 40,850 | 6,540 |
| Cash and Cash Equivalents (Sep 30, 2009) | 51,275 | 42,452 (Dec 31, 2008) |
| Total Debt (Carrying Amount) | 823,773 | 854,418 (Dec 31, 2008) |
| Working Capital | 70,163 | 154,374 (Dec 31, 2008) |
Material Changes vs. Prior Period
- Revenue Decline: Total revenues decreased 17.1% to €454.7 million, driven primarily by a 20.1% drop in pulp revenues (€422.4 million vs. €528.3 million) due to lower pulp prices. Average pulp sales realizations fell 22.9% to €380 per ADMT. Conversely, energy revenues increased 61.5% to €32.3 million due to higher biomass tariffs in Germany.
- Operating Loss: The Company recorded an operating loss of €22.6 million compared to operating income of €34.7 million in the prior year. This shift was caused by lower price realizations and increased scheduled maintenance downtime (33 days vs. 22 days).
- Net Loss Expansion: Net loss attributable to common shareholders widened significantly to €64.9 million from €13.4 million. This was exacerbated by an unrealized loss of €10.9 million on interest rate derivatives (compared to a gain of €4.5 million in 2008) and a €11.2 million loss attributed to noncontrolling interest in the Stendal mill.
- Cost Reductions: Operating costs decreased to €417.6 million from €447.1 million, and fiber costs decreased by 14.8% year-over-year due to weak demand in the European board industry and efficiency improvements at the Celgar mill.
- Cash Flow Improvement: Operating cash flow improved substantially to €40.9 million from €6.5 million, primarily due to a decrease in pulp inventories (providing €29.9 million in cash) and a reduction in receivables.
Guidance, Outlook, Risks, and Contingencies
- Market Outlook: Management notes that pulp markets strengthened in Q3 2009 due to low global inventories and strong demand from China, with list prices increasing. However, prices remain well below 2008 levels. Future performance is highly dependent on pulp prices and foreign exchange rates (USD/EUR and CAD/EUR).
- Debt Refinancing Risk: The Company is obligated to repay or refinance €46.0 million ($67.3 million) of subordinated convertible notes maturing in October 2010. An exchange offer in Q3 2009 expired with no notes tendered. Management intends to use cash on hand, operations, and credit facilities to refinance, but failure to do so could have a material adverse effect.
- Covenant Compliance: The Stendal mill is likely to be non-compliant with its "debt-to-EBITDA" covenant for the year ended December 31, 2009. Management intends to seek a waiver or amendment from lenders. While the facility has 80% government guarantees, failure to secure a waiver could lead to acceleration of indebtedness.
- Credit Ratings: Credit ratings have been downgraded significantly. S&P lowered the rating to "CC" with a negative outlook, and Moody's lowered the Probability of Default Rating to "Ca".
- Legal Proceedings: The Celgar mill faces charges under the federal Fisheries Act and provincial Environmental Management Act regarding a November 2008 spill. Management does not expect a material adverse effect but cannot assess potential fines with certainty.
- Capital Projects: The Celgar Energy Project (48 MW turbine) is underway. The Company received notification of eligibility for C$57.7 million in government credits but awaits a final contribution agreement. Completion is expected in July 2010.
Investor Verification Checklist
- Convertible Note Maturity: Verify the Company's ability to refinance or repay the €46.0 million convertible notes due October 2010.
- Stendal Covenant Status: Monitor the outcome of negotiations with Stendal mill lenders regarding the potential "debt-to-EBITDA" covenant breach.
- Pulp Price Sensitivity: Assess the impact of fluctuating pulp prices and foreign exchange rates on future margins, given the Company's high operating leverage.
- Government Funding: Confirm the finalization of the contribution agreement for the Celgar Energy Project and the actual amount of funding received.
- Derivative Exposure: Review the impact of unrealized losses on interest rate swaps, which significantly affected net income in the current period.