The Navigator Pulp & Paper / Portugal Reuters/Bloomberg: NVG.LS / NVG PT May 23, 2017 Navigating into new business segments and geographies - Initiating coverage Rating Buy with a Buy rating vs. previous NR We initiate coverage on The Navigator Company (NVG), a leading pulp and paper producer, with Target8.0 Price (€/sh.) 4.75 a Buy rating and a target price of EUR 4.75/share, implying a 23.1% upside form current levels. Current7.0 Share Price* (€/sh) 3.86 Despite the volatility in pulp and paper prices, the company has been able to maintain an average *18 /05/ 2017 EBITDA margin of above 24% over the last 6 years reaching 25.2% in 2016 (+120bps y-o-y) on the 6.0 back of volume sales growth, high capacity utilization (leveraging on a modern and efficient asset base), and good access to raw materials. Stock5.0 Data Market Cap (€m) Pulp and paper prices are expected to remain relatively stable in the short term as (mainly) 2,765.5 4.0 demand from Asia should help counterbalance new capacity coming online. At the same time, the EV (€m) 3,383.2 company has been able to extract additional capacity, increasing volume sales, expanding exports Free 3.0Float 30.6% into higher-growth developing markets, while further efficiency efforts should support the Num. of shares (m) 717.0 profitability of the pulp & paper divisions. 2.0 Still, for the medium-to-longer term the main driver of growth is expected to come from group’s Performance1.0 1m 3m 12m new divisions, namely pellets and primarily tissue paper. These divisions are catering to markets 5.6% 12.7% 46.3% Absolute (%) with substantial growth potential. Cumulative revenues, over the next five years, from tissue and 0.0 pellets are expect to amount to EUR 735m and EUR 305m, respectively. 3.7% 10.3% 6.1% PSI 20 (%) EBITDA and Net income to increase slightly between 2017 and 2021 Group revenues are estimated at EUR 1.6bn in 2017 (+2% y-o-y), while for the period 2017-21 are Trading Data EDP RENOVÁVEIS S.A. PSI-20 Index (Rebased) forecasted to grow at a 2.1% CAGR, on the back of additional pulp capacity and the new revenue Daily volume (1y avg)* 55 streams (tissue and pellets). Group EBITDA is seen at EUR 398m in 2017 (stable y-o-y), while the estimated 2017-21 CAGR is 1.5%, as NVG should benefit by operating leverage as well as its 12M high (€/sh) 4.05 integrated production model. 2017-21 EPS CAGR is expected at 1.8%, following a 22.9% decline to 12M low (€/sh) 2.40 EUR 168m in 2017 from EUR 217.5m in 2016 because of higher taxation (the company had *000’s shares enjoyed tax benefits over the last 4 years that come to an end) as well as higher depreciation and amortization charges from 2017 due to increased investments. 8.0 7.0 6.0 5.0 Attractive dividend yield estimated at c.6.1% in 2017 and 5.8% in 2018 4.0 3.0 Navigator remains a very attractive dividend payout story. The payout has remained very high 2.0 over the last few years, the proposed dividend for 2016 totals EUR 250m (payout ratio of 115%), 1.0 0.0 while according to company’s guidance, this strategy will be maintained. In our model, we EDP RENOVÁVEIS S.A. PSI-20 Index (Rebased) incorporate a dividend payout ratio of 100% for the period 2017-2021, which translates into an accumulated distribution of EUR 843m over the 5-year period. Dividend yield estimated at c.6.1% in 2017 and 5.8% in 2018. The Navigator Company, S.A. manufactures and markets pulp and paper products worldwide. It 23.1% upside potential-initiating with a Buy provides printing and writing, décor, tissue, office, Our valuation exercise results in a target price of EUR 4.75 per share. Based on our estimates the offset, and special papers, as well as bleached company currently trades at EV/EBITDA for 2017-18 of 8.8x, after gaining 43.6% over the past 6 eucalyptus pulp. The company offers its products months. under the Navigator, Discovery, Inacopia, Soporset, Explorer, Pioneer, Target, and Inaset brand names. The stock is up c.18.1% ytd vs. PSI20 index that is up by 8.4% for the same period. The sectoral In addition, it generates electricity from biomass, a index STOXX TMI Forestry & Paper is up by 5.8% ytd. renewable source of energy. The company was formerly known as Portucel, S.A. and changed its EUR m 2014 2015 2016 2017E 2018E name to The Navigator Company, S.A. in February 2016. Revenues 1 542 1 628 1 577 1 609 1 647 EBITDA 328 390 398 398 394 Shareholding structure: Semapa 69%, Zoom Net Income 181 196 218 168 162 Investments 2%, BPI Pension Fund 4% and Norges Net Debt 274 654 641 718 721 Bank 4% P/E 12.04 13.14 13.50 16.5 17.3 EV/EBITDA 7.5 8.3 7.4 8.8 8.8 Analysts Net Debt/EBITDA 0.83 1.68 1.84 1.81 1.83 Maria Almaça, CFA FCF yield 14,1% 4,9% 12,3% 6,2% 6,0% [email protected] Dividend yield 20,2% 6,6% 10,7% 6,1% 5,8% +351 21 936 4447 Source: AXIA Research Axia Ventures Group - Avenida da Liberdade 240, 4th floor, Tel: +351 219364444, Fax: +351 966049598, Web: www.axiavg.com Please refer to the last page for disclosures and analyst certification The Navigator Company - Initiation of Coverage Table of contents Section Page Investment Case 3 Valuation 6 Company Overview 9 Premium pricing and cost-competitiveness remain key for the Navigator 13 strategy Pulp & Paper business: steady flow of profitability 17 New growth areas: Tissue (mainly), Pellets & Mozambique 24 Capex, Capital Structure & Dividend Policy 30 Assumptions and Forecasts 33 Detailed Financials 36 Disclosures 38 AXIA Research Page 2 The Navigator Company - Initiation of Coverage Investment case We initiate coverage on Navigator, a leading producer of Pulp & Paper, with a Buy rating and a target price of EUR 4.75/share, implying a 22.1% upside from current levels. With an expected relative stability of pulp and paper prices in the international markets in the short term, the company should continue to benefit from its strong position in high quality paper production in Europe, with margins supported by the integrated pulp production capability. More importantly, applying this integrated approach to the lucrative new business segment, tissue paper, we expect margins to head higher as revenues from this division are bound to increase. Since the beginning of the year, the NVG’s share price has recovered from the decline registered in 2016 (-9.1%) that resulted from the concerns over the economic developments in Portugal but also the negative trend exhibited by paper prices. We believe the NVG continues to present an interesting investment case given the significant free cash flow the company is generating especially following to completion of the current investment cycle in 2018. FCF compound growth for the period 2016-2019 is forecasted to come in at 25%, vs. -0.1% expected for its international peers. At the same time the payout should remain at 100%, based on the demands of the company’s largest shareholder (Semapa). For 2016 the dividend payout ratio is expected to stand at 115% with a dividend yield (at current price levels) settling at 6.1% in 2017. Leadership position in the EU premium paper market The Navigator Company is among the global leaders in the pulp and paper business with these two divisions accounting for 85% of group sales (2017 estimates). Beyond the EU paper market (that represents 63% of the company’s sales) the Navigator exports to 123 countries over the five continents. Demand in the developing markets for paper is expected to grow faster over the next years vs. the developed ones, while the Navigator maintains a strong position in a number of these markets, (i.e. Turkey generates c.6% of paper sales in 2016). Paper prices should remain relatively stable in the near term as the expected increased supply in the market should be counterbalanced by global demand (especially from Asia). This, plus production efficiency gains and the optimization of pricing discounts is expected to continue to allow the group to enjoy healthy margins. In addition, the Navigator’s leadership in the premium paper segment, where it attained a market share of more than 50% in Europe in 2016, provides the company with pricing power and, consequently, offers further support to margins. Tissue paper, a new line of growth Management’s strategy to diversify operations by entering into the higher growth market segments of tissue paper and pellets started in 2015, while by 2021 these two segments are expected to come to represent 16% of group sales. In Europe the tissue market is forecasted to grow between 1% and 2% p.a. Sales from the tissue segment are estimated to grow from EUR 67m in 2016 to EUR 205m in 2021, boosted by investments aiming at increasing pulp that will be used towards higher tissue paper production. The strategy for this segment also targets more value-added segments allowing for increased pricing power. The construction of a pellets factory in the US was concluded in September 2016 and will start to contribute with increasing results in 2017. The company has already contracted the sale of 40% of the mill’s production capacity at fixed price (above current levels) over the next 10 years.