WRK - International Paper: Challenges Ahead

2023-04-07 11:36:53 ET

Summary

• We are looking at a good year despite ongoing challenges.
• There is still some modest destocking and new capacity is coming online.
• Positive megatrends are still here. IP is yielding > 5%. The company confirmed its 2023 guidance at BoFA's conference. Our buy rating is then confirmed.

Before commenting on International Paper's performance ( IP ), it is important to recap the latest RISI Fastmarket data. On February 2022, there was a surprising $20 cut on the corrugating ton price and the market was implying a further $50 decline in the following months. Many investors were surprised by the news (they were expecting a pause), and IP, WestRock (NYSE: WRK ), and Packaging Corporation of America (NYSE: PKG ) significantly fell off (as a reminder, all three companies have a buy rating target). In March, with the newest RISI data , the data provider indicated that prices were flat and there was no further volume pressure. In numbers, the corrugating price was unchanged and stood at $110 per ton as well as the boxboard price. This was key news after 4 consecutive months of price declines. Despite that, IP's stock price is almost flat.

Source: Seeking Alpha

Why are we still positive?

1. Despite the market is getting more competitive, International Paper has shown good cost discipline;
2. The market is also getting more sophisticated, and the large players started to compete on price. According to our information, International Paper cut on average its box prices by 7%. However, we should also recall that natural gas prices could provide some relief. As a reminder, the company generates approximately 75% of its energy;
3. In the next months, additional capacity is coming online but we believe that IP has a cushion to decrease prices (in line with its variable costs) and keep mills running. Having listened to the latest conference, the company signaled that it is not shutting down capacity, and it is comfortable operating at this low 85% operational level. Here at the Lab, we believe that this makes sense and this maneuver might force some high-cost players out of business;

4. Again, we won't be surprised to see a Q1 2023 volume decline in IP's Industrial Packaging segment. This was already emphasized by FedEx ( FDX ) CEO and reported in our previous publication called we double down . Recent data signaled that B2Cs are still cautious on discretionary purchases and won't be a piece of news if box demand remains weak. In addition, since the COVID-19 outbreaks, there is still some modest destocking; however, demand is more stable and, in our numbers, we estimate a box volumes decline between 3% and 5% (compared to the 6.2% recorded at the yearly level in 2022);

5. Well, on a negative note, we are not expecting that the Chinese reopening will be a needle mover;

6. At Bank of America's Global Agriculture and Materials Conference , the company management was particularly focused on big data, technology, and predictive analytics. Indeed, International Paper expects to be more productive and more flexible over time. Related to the technology advancement, the company announced a new software to facilitate approximately 40k tons/day of shipping to optimize client cost savings. Still related to costs, the company mentioned a focus on improving profitability thanks to central procurement (similar to PKG);

7. At the conference, International Paper confirmed its 2023 earnings guidance. The company remains comfortable with its existing EBITDA outlook at $2.8 billion. In addition, the management is also confident to maintain its shareholder remuneration in the current environment. At the price level, we are back to our double-down investment; therefore, we reiterate our buy rating target . We believe that IP's valuation is skewed to the downside, but all the positive megatrends such as the Plastic to Paper movement are still there. In the meantime, let's enjoy a tasty dividend yield of 5%.

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