SCA’s Disposal of Packaging Operations Is Credit Positive

SCA’s Disposal of Packaging Operations Is Credit Positive

Last Tuesday, Sweden’s Svenska Cellulosa Aktiebolaget SCA (SCA, Baa1 review for downgrade) said it had sold its packaging business, excluding the kraftliner assets, to DS Smith (unrated), a UK-based maker of recycled packaging, for €1.7 billion on a debt-free basis. The transaction, which is subject to approval by DS Smith’s shareholders and the relevant antitrust authorities, is credit positive for SCA.
The company can use the proceeds to cross-fund its recently announced €1.32 billion acquisition of the European tissue business of Georgia-Pacific LLC (Baa3 stable), thereby reducing the expected debt-burden associated with that deal once it closes. Although SCA’s Baa1 rating is under review for downgrade, it will likely be confirmed with a stable outlook if the companies obtain all the necessary approvals for the deal and the transaction structure does not change materially from what the two companies have announced.

The latest transaction, which follows the non-binding offer for Georgia-Pacific’s European tissue business last November, is well in line with SCA’s strategy to strengthen its consumer products operations. In addition, the disposal of these assets, together with SCA’s recent sale of 50% of its Australian hygiene operations to a financial investor for €360 million, will allow the group to retain healthy debt protection metrics that are well in line with a solid investment-grade rating, such as a debt/EBITDA ratio below 3x. In addition, SCA can use proceeds not used to reduce net debt to further expand its footprint in both its hygiene and personal care businesses, including organic expansion, building on recent acquisitions, a further roll-out of the existing product portfolio, and bolt-on acquisitions.

By disposing of its packaging operations, SCA, which recorded sales of SEK106.5 billion (approximately €11.6 billion) for the 12 months ending 30 September 2011, will reduce its exposure to cyclical end markets. We estimate that, after the transaction, SCA will generate approximately 80% of its sales in the hygiene and personal care segments, for which demand tends to be relatively stable owing to the non-discretionary nature of many of these items. In our opinion, the growth opportunities presented by these in-demand segments outweigh the reduction in product diversification that will result from the sale of the packaging business.

The sale of the packaging operations is also likely to enhance SCA’s profit margins, as these assets have consistently recorded profit margins that are lower than the group’s average as a result of their commodity-like character. Excluding the two Swedish kraftliner mills, the packaging division, which includes SCA’s recycling, testliner and corrugated activities, accounted for approximately 23% of group sales and 17% of its operating profit based on figures for the 12 months ending 30 September 2011.