International Paper: Looking At The Russian Exposure (NYSE:IP)

International Paper (NYSE:IP) was one of the first companies to report during the earning season with the Q4 and FY report published at the end of January 2022. We already commented on the company’s performance, to quickly recap we were expecting a challenging first quarter due to labor and supply chain impacts, higher maintenance costs and an ongoing energy price crisis. During the Q&A, IP was forecasting a raw material price normalization through the year and price increases to support margins beyond the first quarter. We rated the company with a neutral rating highlighting the long term investment thesis based on:

1. The positive global trend in e-commerce;
2. Plastic bans;
3. ESG player with all the movements from Plastic to Paper.

Today, our main focus is to check the impact of one of the IP divisions, being a Joint Venture in Russia. According to IP, Ilim Group is the country’s largest integrated manufacturer of pulp and paper and it is accounted as an equity investment.

During Q4, Ilim’s JV earnings were positive for €66m compared to the previous year’s quarter at $53m. Compared with the Q3 results, at operating level, Ilim’s earnings decreased due to lower export sales prices in the softwood & hardwood pulp.

At the year level, we can clearly see the positive performance of the Russian JV with positive results of $311m compared to the $48m posted in 2020.

In March, IP declared “its intention to explore strategic options, including the possible sale, of its 50% ownership interest in Ilim Group.” Confirming also that it “has no intention to seek suspension of operations or initiate any liquidation or bankruptcy proceedings with respect to Ilim Group.” As we can see below in the FY results presentation, management was still estimating a positive impact of $80m in equity earnings.

Looking at the last 5 years, we checked how the Ilim Group had influenced IP earnings. Currently, after the slight decrease in dividend due to the Sylvamo spin-off, IP is paying a total of $200m in dividends per quarter. The Ilim dividend is usually paid in the second quarter and over the period taken into consideration, it had almost paid 1/4 of the IP dividend. Now we have two key questions: what’s going on with pulp demand in Russia? And what’s happening with the cash repatriation?

Even if the pulp demand in the region stays the same and no pulp is exported in Europe (Russia accounted for 8.6%), we know that companies such as Mondi (OTCPK:MONDF) and other important players are exiting the country and they no longer are producing. Relating to the future dividend payment, we don’t have visibility on where the cash is deposited and if it can be transferred back.

Conclusion

We previously valued IP with a target price of $55 per share based on the average between:

1. An 8.0x EV/EBITDA on our 12-month forward estimates,
2. A DCF analysis in which we assume a 10% cost of equity and a terminal growth rate of 2%.

Aside from the ILIM Group operations and cash repatriation issue, we are pretty worried about the ongoing energy price effect. After adjusting our internal numbers and despite our long-term buy, we are lowering the target price to 50 dollars per share. Risks are equally important to the downside and we confirm our neutral rating.

If you are interested in our previous coverage on IP, please have a look at our recent publications:

1. International Paper: Long Term Thesis Intact But Not Without Short Term Turbulence
2. International Paper: COVID-19 Resiliency With Long-Term ESG Thesis