Domtar Q3 adjusted profit beats estimates, company cautious on Q4 outlook

MONTREAL – Domtar remains bullish on the long-term prospects of its diaper business but rising acquisition costs may delay achieving growth targets, the company said Thursday in reporting higher than expected earnings that sent its shares soaring on the Toronto Stock Exchange.

Chief executive John Williams says the pulp and paper producer can achieve its goal of earning between US$300 million and US$500 million in EBITDA from its personal care business over time, but won’t overpay for an acquisition just to achieve the target more quickly.

“We want to be a prudent buyer … I’m determined not to blow my brains out in terms of an acquisition,” Williams said Thursday in a conference call with analysts after the company reported third-quarter results.

Domtar (TSX:UFS), which reports in U.S. dollars, realized US$96 million in adjusted EBITDA (pre-tax operating earnings) at the personal care division in the first three quarters of its fiscal year, up from $80 million in all of 2013.

During the third quarter, earnings in the division that makes adult incontinence products and infant diapers grew to $30 million from $22 million a year earlier. Revenues increased to $234 million from $175 million.

The results were a little softer than the second quarter, however, because of the seasonality in its European business and a weaker euro. Williams said he expects a strong improvement in the division in the coming quarter and into the start of the new fiscal year.

The company said it lost a couple of customers, something that masked progress in the quarter, including the addition of new equipment that will produce cost savings by using less raw material.

Earlier Thursday, the company beat expectations by posting $281 million of net income or $4.33 per share in the quarter ended Sept. 30 compared with $27 million or 41 cents per share a year earlier. The results were helped by more than $220 million worth of tax-related credits and improved operating earnings.

On TSX, the company’s stock closed up $4.56 or more than 11 per cent at C$45.15.

Excluding the impact of fuel tax credits and $2 million of restructuring costs in the quarter, the Montreal-based company earned US$61 million or 94 cents per share, up from $41 million or 63 cents per share in the third quarter of 2013, while revenue improved to US$1.4 billion from $1.385 billion.

Analysts polled by Thomson Reuters had, on average, forecast adjusted earnings of 81 cents per share on revenue of $1.45 billion.

The quarter included a $204 million deferred tax credit for the settlement of U.S. tax audits, mainly related to alternative fuel tax credits. It also recognized $18 million of deferred alternative fuel tax credits.

The pulp and paper segment’s adjusted EBITDA was US$148 million on $1.19 billion of revenues, compared with $145 million on $1.2 billion of sales a year earlier.

Analyst Leon Aghazarian of National Bank Financial lowered his target price for Domtar to $50 from $55 even as the issue moved higher in trading Thursday.

“We believe that today’s stock price performance is warranted (with more upside remaining), (but) we trim our target to reflect a more cautious near-term pulp outlook,” he wrote in a report.

Domtar said it expects paper shipments will decrease in the fourth quarter due to seasonality.

Meanwhile, it is conducting a feasibility study to determine if it will seek U.S. government permission to establish a master limited partnership for some of its operations — a structure several forestry products companies are evaluating in a bid to lower taxes and boost their share price.

Chief financial officer Daniel Buron said the company first needs to determine if income generated from producing uncoated free sheet paper from virgin fibre can qualify under Internal Revenue Service rules about MLPs.

“If the answer to the question is no, obviously the rest is useless,” he said.

North America’s largest producer of uncoated freesheet, or office printer-copier paper, has been adjusting to a three to five per cent annual reduction in paper use by transforming some mills and expanding its personal care business.

Since 2011, it has completed five acquisitions of adult incontinence and infant diaper companies.

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