• Liquidity over profitability means Q3 20e EBITDA is likely to disappoint: We estimate EPS of at least -USD 0.10/share with EBITDA down at least 66% y/y to USD 40m. We expect a slight uptick in net debt to USD 1,899mn (CapEx and FX), with net debt/EBITDA of 3.8x (trailing 12-m).    
  • Q3 is Europe’s seasonally weakest quarter; however forecast risk is higher than usual: We estimate an EBITDA margin of 4.0%, comprised of Graphic Paper at 0% (volumes -38% y/y; pricing -2% q/q) and Packaging & Specialties of 12.0% (volumes: +5% y/y; pricing -2% q/q). SAP would have weighed up the benefits of furlough and unwinding coated paper inventories (USD 1m EBITDA loss = USD 2m liquidity boost).
  • North American EBITDA margin of 1.2% may be optimistic: We assume that SAP has swung max DWP to HW pulp (40kt/quarter) to reduce pulp purchases and facilitate DWP downtime. Based on this, we expect US DWP volumes (excl. Matane) to decline by 39% y/y to 44kt. In terms of CFS, we pencil in a 37% decline y/y with pricing +1% q/q. Looking forward, the potential closure of Verso’s Wisconsin Rapids mill remains a key catalyst for the segment and could mean SAP’s CFS volumes rebound to pre- COVID levels.
  • Despite the ZAR weakening by -18% q/q, SA EBITDA to come under pressure: With Lenzing and Birla (combined account for c. 90% of SAP’s DWP sales) signalling revenue drops of 30-50%, this would have forced SAP to idle one line at Saiccor and swing Ngodwana to HW pulp and increase packaging volumes. It will take time for the global textile chain to normalise and based on recent trading updates from the likes of H&M, we expect DWP demand to recover from the back end of Q2 next year.
  • Delivery of tangible fixed cost savings will be key: Based on SAP’s guidance, we estimate that up to USD 90m could be shaved off in fixed costs in H2. This equates to USd 16.5/share pre-tax savings. We note that this excludes government relief in Europe and North America (up to USD 10m per quarter).
  • Gearing likely to peak in Q2 21e: Our base case assumes that SAP’s net debt/EBITDA peaks at 5.5x by the end of Q2 21e (31 March 2021), with CapEx of USD 330m in FY 21e. Importantly, we expect net debt/EBITDA to be just below 4.5x by the end of Q3 21e (30 June 2021), the date at which SAP’s debt covenants are re-instated. We expect SAP to be below 2.0x (internal target) by FY 23e.
  • In our view, a material re-rating is capped in the ST until DWP dynamics improve: We value SAP using a SotP EV/EBITDA. On this basis, we set a 1-yr TP of ZAR 31.39/share, implying 8.0% upside. We remain NEUTRAL.

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