Fitch Ratings said that higher pulp prices have played a very positive role in Latin American pulp, paper and forest products companies in generating strong cash flow in 2022. Although some of these companies have made a lot of investment, it still helps to control leverage.

Since the beginning of 2022, due to unexpected plant downtime, low inventory, strikes and logistics restrictions, the pulp market has been in short supply, resulting in a continuous rise in prices. Although the demand from the Chinese market has weakened, the demand of European and American paper makers is still very strong, because the growing demand for paper has led to a shortage of pulp supply, and the paper price has repeatedly hit record highs.

In terms of market price, the price of Bleached Eucalyptus Kraft Pulp (bekp) from Latin America to China rose from $600 / ton in December 2021 to $860 / ton in May 2022. However, increased supply from Latin American producers and weak demand from potential paper companies due to profit pressures may lead to lower pulp prices towards the end of 2022. The average price of Fitch project 2022 bekp was 700 US dollars / ton, compared with 677 US dollars / ton last year. Due to the insufficient supply of spot transactions, sales continued to maintain a strong momentum.

The rising trend of prices is not over yet, and another round of global price increases is expected to take effect soon. Mainly affected by the fundamentals of the supply market, Latin American bek suppliers announced new price increases in June, with a price increase of $30 / ton in China, $50 in Europe and $60 in North America. The rising price makes the new target price of bek pulp in Europe and North America US $1350 per ton and US $1580 per ton respectively.

Several toilet paper producers in Latin America did not have enough working capital to plan in advance when establishing inventory, so they lost the opportunity to buy pulp at a lower price. In Brazil, almost all pulp negotiations follow the European pix index of last month and the average exchange rate of that month, so the price will be higher in June after the recovery of the United States and the rise of global prices. However, only a few people can increase their inventory slightly, because many people have no cash.

The new hardwood pulp capacity in Latin America (about 6.3 million tons will be put into production by 2024) will lead to further pressure on Pricing in 2023-2024 and flatten the production cost curve. The next large-scale project to start production is Arauco’s mapa (1.3 million tons of bekp), excluding the shutdown of line 1. UPM Kymmene’s project (2.1 million tons) and cmpc’s Guaiba II (350000 tons) will be put into operation in 2023, while Suzano’s cerrado (2.55 million tons) will be officially put into operation in 2024.

However, cost pressure may lead to the closure of paper mills and the imbalance between supply and demand in the global market, which is similar to the situation in the past decade. At that time, due to the weak pulp price, about 2.5 million tons of pulp capacity was eliminated by the market every year.

Latin American pulp producers’ operating margins will remain strong in 2022, as they benefit from a low-cost base compared to many other peers, while rising prices partially offset inflationary pressures. They face the risk of rising oil and chemical prices, but electricity can be self-sufficient. Compared with producers in the northern hemisphere, a large number of plantations and low dependence on third-party timber reduce the risk of supply disruption. Therefore, compared with 2021, the EBITDA of all Latin American pulp producers rated by Fitch in 2022 is expected to be higher than that in 2021. However, due to the high investment of some companies, the generation of free cash flow (FCF) will be roughly the same.

Despite the high investment in cerrado, Suzano, the world’s leading commodity pulp producer, is expected to generate free cash flows of $1.5 billion and $1.2 billion in 2022 and 2023, respectively. Due to its size and high pulp prices, the company’s operating cash flow will be sufficient to support its capital expenditure while maintaining net debt below $11billion. The FCF of cmpc and Eldorado will also remain strong in 2022. Due to capital expenditure, the FCF of klabin and Arauco is expected to remain negative.

Klabin, Suzano and Arauco are implementing large-scale capacity expansion, and their leverage dynamics will follow a similar pattern: the rise in pulp prices in 2022 will help to keep leverage lower than originally expected, but the decline in prices at the end of 2022 will lead to an increase in leverage. Klabin and Arauco will soon complete their projects and add new income generating capabilities, so their credit indicators will not be under pressure. Suzano will build a new plant by 2024, but given the size of the company, these investments will not significantly affect its leverage.

Eldorado has no major capital expenditure projects and does not pay dividends – instead, it uses cash flow to repay its debts. Therefore, its leverage ratio is expected to decrease in the medium term. Cmpc also has no major capital expenditure plans, but it has been acquiring medium-sized toilet paper companies to expand in Brazil, and its leverage ratio is expected to remain at about 2 times. Latin American pulp producers are expected to maintain good liquidity, extensive debt maturity and conservative financial policies.