Domtar adding diaper making machines while searching for acquisition targets

MONTREAL – As it looks to expand its personal care business through acquisitions, Domtar is adding several new converting machines to expand output of its adult diaper business to gain market share and generate more profits.

The bulk of its more than US$260 million of capital expenditures planned for this year will be used to add new machines and make infrastructure upgrades at its facilities in Greenville, N.C., and Aneby, Sweden.

The company says the units, which each cost US$15 million to US$20 million, will be more efficient and boost production without reducing staffing levels.

The units will start arriving by the third quarter and be fully installed by June 2014, helping the Montreal-based company achieve its goal of doubling the personal care segment’s operating profit to US$150 million within five years.

“We should see a strong step up between 2014 and 2013 in terms of the earnings profile,” president and CEO John Williams said Friday during a conference call about year-end results.

Domtar’s (TSX:UFS) shares fell in Friday trading after it missed analyst expectations due to lower shipments and prices for pulp and paper driving down profit in the fourth quarter. The shares were down 6.7 per cent, down $5.57, to C$77.43 in trading.

The company says it earned US$19 million or 54 cents in the three months ended Dec. 31 — down from US$61 million or $1.63 per share a year earlier and US$66 million or $1.84 per share in the third quarter of 2012.

Adjusting for one-time items related to closures and downsizing, it earned US$46 million, or $1.31 per share, down from US$93 million or $2.49 per share in the prior year.

Analysts had expected Domtar would earn US$1.42 per share in adjusted earnings, according to estimates compiled by Thomson Reuters.

The company, a leading supplier of office papers used for computer printers, faxes and copiers which reports in U.S. dollars, said sales fell three per cent to US$1.33 billion.

Since entering the adult incontinence business in 2011 with the acquisition of Attends HealthCare, Domtar has added the European Attends business and last May bought U.S.-based EAM Corp., which develops and supplies the core material used in feminine hygiene products, baby diapers and puppy pads.

The acquisitions have enabled the personal care segment to double in size in the past year, contributing $13 million of profit on $111 million of sales in the quarter and about $450 million of sales for the year.

Williams said Domtar is only focused on the adult incontinence business — an US$8 billion global market growing five to six per cent annually even in developing markets like the U.S. and Europe.

The new machines will allow Domtar to maintain its market share by growing production.

“A few points of that growth are us filling out our range to make sure we have the appropriate products for the key markets that we serve, particularly the homecare market where we’re very strong and looking at the retail marketplace as well.”

In the long-run, the company believes the personal care business can deliver US$300 million to US$500 million in annual EBITDA through acquisitions.

EBITDA, a commonly used form of adjusted earnings, refers to earnings before interest, taxes, depreciation and amortization items that are included in net income under standard accounting practices.

Williams said the company has the financial flexibility to make a sizable deal because of its low debt, credit facilities and $661 million of cash on hand.

“If the right opportunity arose, we’d look at that $1.5 billion if it was very compelling, but there’s nothing that says we’re going to blow our brains out on something gargantuan.”

Meanwhile, he said its core paper and pulp businesses performed largely in-line with Domtar’s expectations from a sales standpoint in the fourth quarter despite a slowdown around Christmas.

Higher costs for fibre and energy and unexpected costs incurred at a pulp mill following a planned maintenance outage affected results.

“The fourth quarter rounded off a strategically important year for Domtar. While demand for uncoated freesheet was softer than prior years, our paper business performed well in 2012,” he told analysts.

Paul Quinn of RBC Capital Markets described the earnings miss as negative, with normalized EBITDA of $180 million, coming in below his forecast of $196 million and the $191 million consensus of analysts.

For the full year, Domtar earned $172 million, or $4.76 per share, compared to $365 million or $9.08 per share in 2011. Sales dipped $130 million to $5.5 billion.

Domtar returned $215 million to shareholders last year through dividends and share buybacks. It repurchased more than two million of its shares in the year, and nearly 8.7 million since May 2010.

Williams expects Domtar will slightly outperform the three to four per cent anticipated drop in market demand for uncoated freesheet paper in 2013 because of its exposure to stable specialty and packaging papers and added volume from its supply agreement with Appleton.