Sappi Limited (SAP) Earnings Call Transcript & Summary

Thank you, operator, and good day, everybody. Thanks for joining us on the call. As always, I'll take you through the investor presentation, calling out the page numbers as I move through the deck. And I'm going to start on Page 3, which has some of the highlights for the quarter. I'm pleased to say that the recovery that we've experienced from the loss of COVID last year continued into this quarter, further improvement. There are still certain challenges related to COVID, which I'll talk a little bit more, but we continue the recovery, and I'm pleased with the progress. Firstly, a strong performance from the packaging and specialties, and then dissolving pulp continued to ramp up. What I would say on dissolving pulp is that prices improved significantly during the quarter. But I just want to stress that there is a lag impact related to our contractual pricing, and much of that benefit will be felt in future quarters. The graphic papers in Europe continue to be under pressure. And a lot of that was linked to COVID itself, and the second wave came along and renewed lockdowns. We -- particularly in January and February, we saw demand softening a little bit, once again, not back to the old levels of the middle of last year, but certainly a slowing of the growth. Subsequent to that in March, we did see things starting to get a little bit better once again. We did have the challenges of shipping, which is not unique to our industry. It's cutting across many industries across the globe, and that caused some delays and some cancellations and impacted our performance. I'm pleased to say that the new covenants for our debt were renegotiated, and those will commence from our Q1 2022 financial period, and we have comfortable headroom incorporated into those new covenants. So pleased with that. Overall, the EBITDA was $112 million. That was up from $98 million in the prior quarter. Moving to Slide 4. The earnings bridge quarter-on-quarter to last year -- sorry, quarter to last year. And last year, we still made $131 million, but that was still pre-COVID. Sales volumes down predominantly in graphics and predominantly in Europe, and I've talked already about the slower recovery there. The price box is -- you can see here, is close to 0, but there's -- underneath that, dissolving pulp prices started picking up. I've already mentioned that much of the benefit will come in the future, but we started to see some benefit in this quarter. Packaging down, but this was specifically in Europe, and it relates to -- a lot of that business is priced on an annual basis. And at the time when the last set of prices were agreed, pulp prices were substantially lower. So it's the impact of historically low prices. Obviously, subsequent to that, we've announced price increases, and we would expect them to go up going forward. And then graphics, again, once again, down a little bit, but predominantly linked to COVID, and once again, historically low pulp prices, we have announced price increases here as well. On the cost side, some of the higher pulp costs starting to come through. Fixed costs, some nice savings coming through. And then on the exchange rate, once again, netting off close to 0, but underneath that, sales revenue, positive. And the reason for that is that you have a bunch of your sales in Europe and out of South Africa, which are denominated in domestic currencies, which strengthened obviously, against the dollar. Offsetting that is the fact that similarly, costs, those same costs in those regions get translated into dollars and specifically in South Africa. Obviously, the rand has strengthened, and that's -- in dollar terms, pushes up your cost curve, giving you the $112 million EBITDA. Slide 5 has the product contribution. It's on a last 12-month basis. It's obviously distorted significantly because of COVID. So it still has packaging as by far, the largest. Obviously, in time, dissolving pulp will go back to what it was and beyond pre-COVID times and graphics still has to make a recovery. At the moment graphics, on sales volume, represents about half of our volumes, but that's coming down all the time, and we would expect the growth in our growth segments to increase and increase the contribution overall. Slide 6 has the segmental volumes and margins. And just talking about each briefly. Graphics, you can see sharp recovery initially after the first wave of COVID, coming back a little bit because of Europe's second wave, but I would expect it to start recovering further as the vaccines take hold and Europe comes out of lockdowns. Packaging held up pretty well and margins nicely as well. And once again, when we get the higher selling prices out of Europe, the margins will continue to be healthy. Dissolving pulp, initial -- obviously, nice recovery from the lows of COVID. Going backwards a little bit in this quarter, but that's purely because you've got the higher exchange rate and then higher selling prices have not kicked in yet. Clearly, in Q3 and beyond, that line will go up sharply. Turning to Slide 7. The debt leverage and you can see now it's peaked at the 6.5, and that's to be expected because now we're carrying the 4 quarters related to COVID with the further improvement in profitability expected in the next quarter and beyond, the leverage ratio now will start to come down quite sharply. Slide 8 has our maturity profile of our debt, and I think a lot of great work has been done here over the last few months, refinancing the '23 bonds. We refinanced the securitization. And really, all major maturities are now '24 or beyond. So it really looks good and gives us a clear runway as we continue our recovery. Slide 9 has the CapEx. And similar to what we had in the last quarter, we're saying CapEx this year of about $400 million, a bit higher than we initially said at the beginning of the year. But just to remind you, that is currency-related, and there was a wee bit of a delay related to the cycle expansion, which was COVID-related, but I'll talk about that a little bit more now. Moving ahead. Turning to the geographical segments and firstly, in Europe, on Slide 11. It's fair to say that Europe has lagged the rest of the world in terms of recovery. In terms of our markets, we obviously initially saw Asia starting to rebound and then North America and some of our other export markets, but Europe has lagged the rest, and it's specifically had an impact on graphics. And although we've recovered, the second wave slowed that somewhat, and we were forced to take 115,000 tons of downtime. Export markets, which I had spoken about in the previous quarter as lagging a little bit, they have now improved and we are more upbeat about the prospects there. And in fact, the logistical challenges that we had actually slowed some deliveries to those regions down a little bit. Otherwise, it could have been a little bit better. The paper selling prices were lower, as I talked about, because of the lower pulp prices. Overall, the markets for graphics, coated woodfree and coated mechanical are down about 20%, but it is progressively getting better. And as I said, hopefully, as the lockdowns are eased on Europe, that will continue to improve. In the packaging segment, paperboard demand was good, and certain of the kind of essential and health-related products was good, but other nonessential categories also impacted by the lockdowns. Our costs up quarter-on-quarter, we're starting to obviously see the higher pulp prices. Just to remind everybody, our European business is about 55% pulp-integrated. So we have to buy pulp, and obviously, pulp costs are going up. So we have to offset that by implementing selling price increases. They don't occur immediately. We have to take time to execute on them, but we would expect prices to go up -- selling prices to go up to offset that. Moving to Slide 12. North America, a very good quarter. The performance improvement across the board. The U.S. economy has rebounded out of COVID, and our businesses continues to strengthen. Packaging volumes up a 56% year-on-year, and quarter-on-quarter an improvement. What I would call out to you is that, as you all know, we converted Somerset PM1 couple of years back. And now we're getting -- we're basically full now on the packaging grid. So extremely successful for us. But what it does mean is that you're not going to see that same pace of growth continue because obviously, we don't have the same capacity to enable us to do that. On pulp, DP prices going up. Similarly BCTMP, which we sell-out of our Matane Mill, very favorable pricing and continuing to rise. That acquisition that we made now has been very successful for us. And with the pulp prices going up, the profitability continues to improve. Graphics was only 85% of last year. But what I would call out to you is that, that is related to the fact that we were transitioning from graphics to packaging. Our machines were completely full. So very successful for us. Costs, negatively impacted by the delivery and logistics costs and higher pulp prices coming through, but once again, we have implemented selling price increases, and it does -- and we have been successful there. Slide 13, South Africa. Once again, very pleased with the performance. DP, obviously, we've talked about a couple of times, partially impacted by the oxygen issue that we talked about on the last quarter, 23,000 tons. Obviously, the higher selling prices will come through in future quarters. Packaging, very strong as well. And I'm sure many of you have been reading about the higher fruit exports out of South Africa, and we obviously benefit from that. Some of the other smaller categories impacted negatively that are focused in domestic markets, but those are not material. Our big segments are doing very well. Once again, higher raw material costs starting to come through and similarly, the higher freight that I referred to. Moving then to the markets for us, product segments. And firstly, Slide 14, dissolving pulp, it's been a remarkable rise in prices and demand has been very strong. Prices surged to up $340 in the quarter. I would call out to everybody that, that's obviously the starting price to the end price. The average will be somewhere between those numbers. And our contractual pricing is based on averages. So you can't expect our selling prices to go up $3, $4, $8 in the next quarter. It's the average. What is contributing to the positive? Well, huge restocking, a lot of capacity had come out, inventory levels were lower across the supply chain. We saw prices for alternative fibers rising, paper pulp pricing. Everything very, very positive. And at the moment, as we indicated in our results announcement, prices are $1,100 a ton. That's as high as we've seen in many years. I think to summarize, the short term still looks positive. It may not stay at these elevated [Audio Gap] The short-term factors continue to be positive. And even if you look beyond the short term at the next couple of years and the market balance, it's still positive. I said it on the last results call that I don't expect the prices to remain at $1,100 forever. No. The prices will come back. And at the time, I said, probably somewhere in the 800s. But even at those levels, the margins are still good. The BC -- sorry, dissolving pulp was impacted by the oxygen, which I talked about. And in BCTMP, which is the pulp sold out of Matane, like dissolving pulp, has also surged the pricing and looking very good, and production has been good at the moment there. Offsetting that somewhat is the logistical challenges, it caused delays out of our South African mills in terms of exporting. Not worried about the volumes per se, it's just a timing difference. And then the exchange rate, obviously, the rand has been stronger, so that squeezes your margins a little bit, and that was what you saw in the earlier graph. Turning to Slide 15. And packaging really very strong in North America and South Africa at the moment. Europe, more challenging, but volume demand is picking up. And as we implement selling prices, we will start to see improvement in margins there. And once again, it's linked to COVID. And as those lockdowns are eased, we're confident about that. Graphics, the recovery that we -- the progressive recovery we saw over the last few quarters did slow, and I think there's a graph a little bit later, you'll see it kind of month-by-month out of Europe. And you'll specifically see this is the impact of the second wave of lockdowns. The European market is down approximately 17%, and interestingly, the U.S. down 24%. But what I would call out to you on both of these, the substantial capacity came out of the market. In the U.S., it was more than 25%. So actually, the market is in balance and Europe continues the recovery. I would -- it's difficult to estimate exactly now what the haircut is going to be because of COVID because we still got some more recovery to occur. I've talked in previous quarters about -- perhaps about a 20%. It's starting to look like it may actually be a little bit less than that if the markets can recover further as the full economy opens up. And specifically, in Europe, the higher costs will impact in the short term, but we will implement selling price increases. Slide 17, I've touched on. It's been a successful quarter on the funding side. We refinanced our '23 bonds with the '28 bonds. Demand was very strong, which enabled us to get a very good rate under -- of 3.625%. We've renegotiated the new covenants. So really that smooths the path now as we continue our recovery, and I think a tremendous job done there. The CapEx at Saiccor is going well. We are substantially complete. A few things, obviously, still to be done. Some delays and some cost increases linked to COVID predominantly, but we're still confident of commencement in Q4. The CapEx numbers that I referred to are obviously in the CapEx schedule that was on an earlier slide. Just a couple of slides on the recovery itself. And specifically in Slide 19. On the left side is the change in retail clothing sales out of the U.S. There's many different graphs we could have shown you out of other markets or even big retail sellers and the like. And what they show is a rapid recovery, a little bit of a hiccup as the second wave came on and then renewed growth thereafter. The positive out of this is that the market is strongly recovered, but there's even still a little bit to go as the final lockdowns are eased in the big markets. On the right-hand side, you have the dissolving pulp versus viscose pricing. We just -- we show you that just to show you the strong correlation. And you can see viscose prices have risen rapidly. In the last few weeks, they've come back a little bit, but they're still at relatively high levels. Slide 20, we like to show you just to kind of just put the dissolving pulp price evolution into perspective. And you can -- the red lines has the average CCF prices, hardwood prices. And just looking at a couple of the numbers, you can see that the Q1 average jumped sharply into Q2. And then similarly, up to the $1,100 that it's currently. We're obviously 1 quarter in arrears. So the nice pricing that occurred during Q2, we'll see in Q3. And similarly, obviously, if prices stay at these elevated levels, we'll see that benefit in Q4. Slide 21 just shows you the coated woodfree in U.S. and in Europe. And you'll see that there was a rapid recovery after the lows in the middle of last year, a little bit of a pause in January and February and then renewed upwards, sloping in March and hopefully beyond. Slide 22, everybody's read about the delays, and it's not just affecting our industry. It's across many industries, and it was exacerbated by the whole Suez Canal situation. But in all the major routes, big delays. And what that's meant is that our South African exports and our European exports, there have been delays. In Europe, specifically, it's actually meant we've had some cancellations. It's -- it has impacted on our performance. The challenges are still out there. And again, many people are talking about this, not just in our industry, but we are hopeful that we'll start to catch up as we move through Q3. Slide 23 has our 4 pillars of our strategy. I've talked about in the past, so I don't intend going into any great detail in this discussion, but just to call out a couple of things. Firstly, on sales growth, our focus is on growing our growth segments and in time, obviously reducing exposure to graphics in line with the market declines. Our financial health has come a long, long way in the course of the last few quarters from the lows of the middle of last year. And I showed you some of the numbers earlier. Operational excellence naturally would be a focus of our attention, efficiencies and costs, further savings targeted this year of $69 million. The Saiccor Mill expansion will enable us to lower our costs further at our largest DP mill. And then at the bottom, enhancing trust, and that's ultimately why we're in business with all our stakeholders. We're committed to science-based targets. We're following the Task Force on Climate-related Financial Disclosure recommendations and we've got a rigorous supplier code of conduct looking at where all our raw materials come from. Slide 24 talks about -- just summarizes the strategy and just to repeat, in the short term, our focus is on the balance sheet, paying down the debt further, driving up the margin improvements, getting the earnings back to normalized levels. We will continue to do work on potential longer-term opportunities, but we're certainly not going to commit to any big CapEx at this point in time. We have to get our balance sheet back to where we want it to be. Slide 26. Sustainability is a big part of our strategy, as you would expect. And obviously, with the science-based targets and the kind of climate change goals and legislation that's coming out, it's a bigger part of our business moving forward. We just felt it was appropriate just to demonstrate our commitment to sustainable growth. One of the strong aspects is ratification of our forests, and that gives us a competitive advantage. The science-based targets will -- in time, we'll go public with those, and that will have our emission targets for up to 2030, and we're obviously committed to that. And then on the BEE side, tremendous work done, and we have a level 1 contributor there, and that's all been certified, so proud with that progress. Turning to the outlook on Page 28. In summary, DP very good. I've talked about it, very positive. The lag will come through and profits will pick up. The packaging continues to be very strong in North America and South Africa. Europe lagging. But as those selling price increases start to take effect, the margins will recover there. Graphics, again, I'll link it back to COVID, and I know that Europe has been lagging, but based on our experience in other parts of the world, as lockdown are eased, we do expect recovery in time. But it does take time to implement the selling price increases. The logistics challenges are still with us, but hopefully, those will start to be eased as we move forward. In terms of our earnings guidance, we're saying that Q3 will be further improvement on Q2. However, Europe will be lower due to those rising pulp costs and the fact that it takes a bit of time to implement selling price increases. So operator, that's me gone through the deck. I'm going to hand it back to you for questions.

[Operator Instructions] The first question comes from James Twyman of Prescient Securities.

Could you just talk about Saiccor in terms of what sort of run rate it was running at last quarter, whether that's changing this quarter with oxygen problems? And whether in Q4, how quickly you can get up to the sort of flat out rate that you would hope to be getting to, whether is it at the beginning of the quarter or the end of the quarter? Because obviously, that's a big quarter for prices. And then secondly, we've seen a coated fine paper price increase for April. Just wondering in May, whether you think you've seen any further increase and whether specialties are seeing an increase too, to reduce the squeeze you're seeing there?

Yes. Thanks. Just in terms of dissolving pulp and specifically, well, just one thing on the oxygen challenges. It didn't actually impact on Saiccor. It was actually the Ngodwana Mill. In terms of Saiccor and run rates, we are -- we've got the big shut in this quarter. But because you got the lag related to the shipping delays, the sales volumes for this quarter are pretty at normalized levels close to Q2 levels. Obviously, beyond that, we'll complete the cycle project, and then there'll be a ramp-up period, and then you'll start to get the higher volumes after the ramp-up period. So I think in summary, James, to your question, the volumes should be reasonably in line with what you saw in the last quarter. The coated selling price increases, I'm going to pass you -- I'll give you an initial comment, and then I'm going to briefly pass you to Mike in North America and Marco in Europe, just to briefly talk about their experiences. But we've announced, obviously, a series of price increases across our product categories. We've been pretty successful so far. Europe, a little bit slower. However, we are getting some traction. And that's across, obviously, the graphics and in the packaging space. In the packaging space, it's a little bit more challenging because of these annual contracts, and Marco can just refer to you a little bit about the timing of when those contracts annualize. So I'll go to Mike first. Just Mike, briefly, just -- you want to just talk about pricing?

Sure, Steve. In North America, we've implemented price increases that went into effect May 1 on most of the grades across North America. So we have not realized that latest price increase in this last quarter. Obviously, as Steve stated, some of our contracts do have -- do require implementation over time. So it's not a cut-and-dry average the price increase across all the tons, but we'll be implementing that price increase. And to date, with the assets full on coated free sheet -- or excuse me, high operating rates in North America, we expect to realize the majority of that over the course of the remainder of the year.

Great. Thanks, Mike. And Marco?

Yes, Steve. Similar to North America, we have announced our first round of price increases as well as of April, which we are realizing right now. This is the first quarter -- fiscal quarter 3, that we will see price improvement. Momentum is building towards a second necessary price rise in June, July, and that's for both the mechanical publishing as well as for the commercial print woodfree business. As said, with the recovery that we hope to see going forward, we hope that we're cautiously optimistic that, that will support this second price rise in June and July.

Thank you, Marco. James?

Yes. So there was a pricing -- the data we've seen shows, there was a 2% price increase in Europe in April. So the implication is that you've achieved the same again in May? Or is it better than that? And how much is the total that you sort of are expecting in the next few months?

Marco, I don't think you can talk to month-by-month, but just broadly.

Yes. The range we're looking at, this is somewhere between 3% to 5% over a quarter, and that will be -- we will try to repeat that from June, July onwards. You need to take into account that Steve was rightly saying that some of the contracts run over multiple quarters, and we've got different phase-outs of these 6 and sometimes 12-month quarter. So there is some disturbance from contractual obligations that we have.

The next question comes from Mikael Doepel of UBS.

Just starting off with DWP markets and the dimensions that you see there. So I'm wondering if you could talk a bit about that. I mean, what are the growth rates in the markets currently? And what's driving that? When I look at the retail coating sales, it's essentially only China that has recovered. So other regions are still down clearly. I'm just wondering if situation in Xinjiang a major driver. And if so, do you expect any changes to that? So if you could talk a bit about the demand trends you see in the market in terms of growth rates and the dynamics, that would be great.

Yes. You've got to talk about the short term and the longer term. And obviously, longer term, we've consistently -- based on all our estimates, we consistently believe that the market will continue to grow at about 5% per annum. Obviously, in the short term, we've had the whole COVID impact. And what happened last year was that everything just stopped, and viscose producers stopped producing. There was force majeure declared. Inventory levels right down the supply chain all the way through to the retail side, dropped considerably. So when lockdowns were initially eased, you had a major restocking going on. And whilst you're right that the volumes of coating sales are not back to pre-COVID levels, they're about, what, 80% or so, that's still a substantial recovery. And with inventories being so low, it just pushed up the demand for pulp. At the same time, on the supply side, obviously, you had temporary curtailments and -- including ourselves. And that meant that it took time for the supply side of the market to get going once again. And then you had -- that combined with the restocking, it drove up prices very, very sharply. Mohamed, do you just want to talk about a little bit about the demand side and what you're experiencing at the moment?

Yes, Steve. I would just add 2 points that the other part of the demand side is coming from strong growth in nonwovens, where the value of wood-based cellulosic fibers is a very good one, especially the biodegradability. And then two, as you highlighted, Steve, I think there's just been this huge restocking that has pulled through a lot of demand for viscose. And also, you ended up in a situation up until very recently, where the relative price position of viscose to cotton and polyester encouraged a greater usage of wood-based cellulosic fibers in the textile markets.

And Mikael, just to what we were saying, you are right that obviously, textile and clothing sales are not at pre-COVID levels, but that gives us further comfort, the fact that there's still a little bit of way to go for demand to get back to pre-COVID levels. So that's going to help underpin pricing in the short term as we look forward.

And in terms of Xinjiang, has that been a major factor in the market or not?

Sorry, you broke up there in terms of what?

In terms of the cotton production in Xinjiang in China, has that been a major factor in the market and the demand for VSF or not?

Mohamed, do you want to talk about the cotton side of it in China?

Yes. It certainly, I think, has influenced the sentiment, especially for the major retailers outside of China that relied on garments and textiles coming from China. And I think that did encourage a swing towards more viscose. And also, I think it encouraged a swing towards production of garments outside of China, which benefited places like Indonesia, for example, where there's a big production of viscose staple fiber.

Right. Right. Okay. That's clear. And then just a follow-up on the supply side mentioned briefly before. I guess there was a lot of the Chinese [ DBP ] capacity was more or less shut down last summer. Just wondering if that is now back on the stream and what you're seeing in terms of swing mills in the market and maybe also you could talk a bit about the new capacity and what do you expect for the next couple of years. Just to get a feel for the supply side of the equation, if that has increased or changed in any way recently.

Yes. Looking at the supply side, you're right, there is a bunch of Chinese swing producers. What we've seen in recent months is that some of it has swung back, not all of it, but some. But at the same time, paper pulp prices are also rising significantly as well. And so there's probably no need necessarily in the short term for prices to -- sorry, for them to swing back. The second part of your question related to the new capacity coming on board, I mean, obviously, we know about the 2 big projects in Brazil from Lenzing and RGE. And we know they are both integrated suppliers and they're making up for their own use. In terms of market producers, we are not really aware of any other material projects planned for the next couple of years. Mohamed, anything you want to add there?

Just one comment. There was a public announcement by a company based in Finland, where they made an announcement that they would be exiting the dissolving pulp supply into the viscose market. So they're not a very big supplier of viscose-grade pulp but a meaningful supplier to some producers in China, and that also should help provide some sort of offset in terms of supply.

The next question comes from Brian Morgan of RMB Morgan Stanley.

Just on your -- the first part of your strategy is the balance sheet management and the degearing. Could you just chat to us a little bit about that? Are you thinking about it on an absolute or relative basis? Just DWP prices don't have to do much to de-gear the balance sheet pretty quickly. And then basically, that first leg of the strategy is done. And then related to that, are you thinking about the -- reinstating the dividend at some point?

Yes. On the leverage, our primary target is a leverage itself. And we've always said that we want to get it below 2. I think on this results call last time, I was asked about would you want to go below 2. And certainly, with the -- the fact that we're in a cyclical business, it is likely that we would take it down further. Last time, we took it down to about 1.6x. And obviously, the market turned. So I suspect we would take it down further, but through the cycle, 2 would be our maximum that we would desire it to be. Dividends, I'll be honest, Brian, it's not something that we've contemplated at this stage. Our primary focus, obviously, was on recovering from COVID and getting our leverage and profitability back to normalized levels. You are right. Once -- if we can generate the profitability that we all think we can make in the next 12 or 18 months, the leverage goes down very, very fast. But we would have to be confident that we can maintain that leverage ratio below our target before we would pay the dividend.

Fine. And you spoke about Stora Enso putting out of the DWP market, supplying into the Chinese market. Does that mean that we could see a bit of a squeeze in the DWP spot market with those viscose mills had to hit the spot market now to replace that DWP, do you think?

Brian, what I would say is it's certainly a positive. As you look at all the dynamics that are underway, there are a number of short-term positives, and that adds to the positive. And obviously, on the negative side, a little bit is -- you've seen viscose prices come off a tiny amount in recent weeks. But broadly speaking, taking to the point you make, plus all the other positives and hopefully, Europe coming out of lockdowns in the next month or 2 in retail sales picking up further, all of those give us cause to believe that in the short term, things continue to be very positive.

The next question comes from Tim Clark of SBG Securities. My apologies. We seem to have lost Tim there. Tim, if you're still on line, you're welcome to queue in again. The next question comes from Wade Napier of Avior Capital Markets.

I would just like it if you could give us a little more color on your pulp purchasing dynamics within the sort of graphic paper business. I mean, obviously, you've seen paper pulp prices, the index prices, in particular, sort of shoot up in the last 3 months. And -- but I assume you're sort of -- your average pulp purchasing costs would not have reflected those index price moves yet. So can you maybe just give us a little bit of color as what your sort of average pulp cost maybe went up in this past quarter and potentially what you could see that increase be in the third quarter? And maybe just give us an indication on how much pulp you buy in the quarter? My estimate is around 200,000 to 220,000 tons of pulp, if that's correct?

Yes. On an annual basis, based on the current levels, we are approximately, and I'm rounding. It's approximately about 800,000 to 900,000 in Europe and 150,000 to 200,000 in North America. The -- we don't give the specific pulp increases. Obviously, we buy on the market. So it is linked to market prices. You are correct that we haven't seen the full extent of the increase yet. Some of it came through in Q2, but the rest like the rest of the pulp markets will flow in this quarter. And as for that reason, I -- we did call down Europe would be less than the current quarter, albeit that we are implementing selling price increases to offset the higher costs. So we -- my guidance to you would be, use the market prices as a proxy and I have given you volumes.

Okay. Great. And then maybe just a follow-up question on the downtime taken at Europe. The 115,000 tons, could you potential guide us with a split between woodfree and mechanical grades? And I mean do you think that it may be necessary to sort of reconsider what your sort of supply looks like at this point in time, potentially over the next 12 months?

Sorry, I'm just filling out a schedule now, just to give you that split. Apologies, just give me a sec. It's approximately -- it's about 80,000, about 80,000 is graphics. And the balance is coated mechanical. The second part of your question, sorry, just repeat, Wade.

Just considering your capacity at the moment, whether you think you may need to sort of take permanent capacity reductions potentially in the next 12 months or so?

Look, Wade, it's a difficult question because our demand for graphics continues to pick up as things are eased and the lockdowns are eased, we don't want to take a decision too soon. We need to assess where this market is going to be as things normalize. I have no doubt there is a haircut. We initially, as you know, talked about a 20% haircut. We're actually starting to believe that it may be less than that. And with all the capacity that's come out of the market, both in the U.S. and in Europe, Europe, I think it's about 18%. And in the U.S., it's over 25%. And if the demand does continue to recover, and I'm talking specifically in Europe, then that may enable us to fill up our machines, and we won't need to close capacity in the near future. But it's still a risk because COVID is still with us.

Great. And then maybe a final question on the strategy. You spoke quite positively about DWP markets and sort of talked about Lenzing and RGE, sort of their DWP capacity really just integration and other than that and coupled with Stora Enso leaving the market, you don't necessarily see much market supply coming on board. I mean when do you think Sappi needs to sort of consider its next large investment in dissolving with pulp capacity expansion? And I mean, would the Board prioritize potentially a dividend with, let's say, within the next 2 to 3 years ahead of potentially investing in a DWP expansion longer term? Because, I mean, if we go back probably 3 or 4 years ago now, if Sappi was quite close to pulling the trigger on a big DWP investment and pulp prices kind of ran away from the business at that point of time, and you kind of missed the boat, would you not want to repeat that mistake again? How are you thinking about that?

Yes. Well, I mean unfortunately, our priority in the short term is on the balance sheet and getting it down to the levels that we need it to be. As I've indicated earlier, once we're confident, we can get it below those levels. We would consider resuming a dividend. In terms of prioritizing that against the pulp investment, that's a hypothetical question. I -- we would obviously have to assess the market at that point in time. But as we sit here today, our priority would be on debt reduction and then on a resumption of dividends. I -- your comment is quite an interesting one about us making a mistake. If we were having this conversation 6 months ago, everybody would have been saying that what a great decision not to invest in dissolving pulp a couple of years back. So it is a cyclical business. And what's very important is we need to see through the cycles and make a rational decision based on what we believe will be normalized pricing and normalized returns. That's not our priority at the moment. Our priority at the moment is on debt reduction.

The next question comes from Ross Krige of JPMorgan.

Just a couple from me. Firstly, on graphic paper in Europe. It sounds like potentially the price hikes that you talk about in June and July could be premised on demand improving further. So I just wanted to check if that's the correct read. And then maybe if you can -- and commenting on that, talk a bit about where industry operating rates are in Europe. And then secondly, just on dissolving pulp, just more a modeling question, if you could comment on what the average price was for actual dissolving pulp in the quarter versus BCTMP.

Yes. On graphic paper, I mean, clearly, clearly, if demand is -- then it makes it easier to implement selling price increases. So I would argue that as demand continues to pick up and resume that upward path, it is going to make the implementation of the next selling price increase easier than the last one. So yes, I would confirm that. In terms of operating rates at the moment, but bear in mind, the numbers are going up. This is historical. At the moment, a coated [ wood ] industry operating rates are in the mid-80s. But if that demand curve can get higher relative to what it was pre-COVID, then if we can get operating rates back above 90%, then the markets back in balance once again. Ross, just your last question, were you asking about the link of BCTMP prices to DWP?

No, Steve, sorry, just to -- we know the volumes, we know the revenue for DWP segment. I'm just trying to work out what the actual realized price was for the BCTMP volumes versus dissolving pulp volumes?

We don't specifically give that, Ross. But what I would say is that BCTMP, on a relative basis, those prices are increasing by as much as dissolving pulp. So you can almost think about it collectively.

Okay. Can I just follow-up on the graphics side? So I understand the logic. I'm just -- I mean we're talking about a demand improvement that has not yet been realized. So I mean you talked about the fact that you expect demand to improve once [indiscernible] and Europe opens up. But as we sit today, we're not seeing that. So at this point in time until we see that, is it fair to say that we shouldn't see those extra price items?

Look, Ross, what I can say is that we look at this on a day-by-day basis. And you can see from that one graph in the presentation, March was much better. And we obviously know what happened in April. So you're looking at it collectively for the quarter. January and February were tough, but March and April have been better, and that's going to help us with our selling price increases.

The next question comes from Sean Ungerer of Chronux Research.

Quick one from myself. In terms of -- just to carry on or labor on Ross' point about, I guess, graphic paper demand in Europe. So I mean, obviously, the exit run rate for March still in the negative, but obviously considerably improved. I mean can you maybe give a little bit more color, I mean, on April or maybe order books for May, shall I say, versus what we compared with last year? And then just sort of on current market conditions, I mean, obviously, normally Q3 is seasonally weakest for Europe, but I think, obviously, like-for-like with COVID last year, that will distort things quite a bit. But as we stand said right now, will you guys be needing to take any commercial downtime in Europe? That's it.

I'll let Marco just add to what I say. But we're obviously measuring ourselves now against 2019 because the base of 2020 is completely distorted. And based on what we're seeing in the market, the recovery is now heading above 80% in the market. But on top of that, obviously, substantial capacity has come up. So in terms of market balance, we're getting closer to -- we always talk about getting it above 90%. Marco, do you just want to just talk -- and without giving too specific, but just generally about the order book in the last -- you don't have to do it month-by-month, but just broadly on the last couple of months, how the order book is looking?

Yes, Steve, I think you make a very valid comment that comparing it to April last year, it is not the right comparison base, but to 2020 -- 2019, we're indeed seeing better numbers than we initially said. That was around the 20% mark less than 2019. That seems to be slightly better. April, May and June, the coming quarter, we see every week and thereby every month, an uptick in absolute volumes. You're right. That quarter 3 is usually not our strongest quarter, but it certainly further supports the momentum that has been ongoing for the last 2 months. Maybe to add, Steve, that -- to the previous question, that part of the pulp price increases will still need to be absorbed in our variable costs. So it is the increased demand that certainly will support, but it's also the necessity of increased -- further increased variable costs in the coming quarter that makes the price rise so necessary.

And then just in terms of -- based on sort of current market conditions, is it fair to say that there's no downtime or sort of required -- commercial downtime levers?

Yes. It will be -- based on where we're currently standing, it will be substantially less than Q2 in Europe, but we're still anticipating about -- yes, I can't give a specific number, but it will be substantially less than Q1 -- than Q2.

The next question comes from Bartek Pastwa of Schroders.

If I may sort of trying to recapture it maybe what's been said on your graphics papers and for you to sort of give some online color. With all you said and your input costs seem to be routing really, really strongly and your price increases only 3%, 5%, can we expect EBITDA section of your graphics? I'm looking at Page 20 of your presentation. For this current quarter sort of to be even positive? Or is this really dipping into negative in one quarter here? That's first question, plus another one [ still ].

Are you talking specifically segment or the region?

Yes. Yes. Just looking at your Page 20 where you break it down by segments. I've got another one on dissolving wood pulp, but just to get the graphics out of the way first.

No, we're not anticipating it to be negative, the graphics. No.

All right. Okay. The -- secondly, on your -- on dissolving wood pulp, just looking at that, the increase in prices is dramatic. That would suggest you would overshoot the prior kind of year probably above $100 million for your dissolving water pulp in the quarter. Looking back to -- just looking at difference in prices, but looking back to '18 and '19, similar volume, similar prices, and you only made $90 million, $80 million, $80 million, $90 million on dissolving wood pulp, has anything changed in the business since then so dramatically that -- or am I doing something wrong with my rough calculations?

Yes. Look, it obviously depends on the average prices. But yes, your logic is not -- it takes time for the prices to pick up, and it's a quarterly in arrears. But if the averages are the same, your logic holds true. I just -- just to recap earlier, and I said it in my presentation, that the prices moved up was about $340 a quarter. It's an average increase. So you've got to -- obviously, the average will come through in Q3 and then the balance in Q4. The other factor at play, obviously, as you look back on Slide 20 is exchange rates. And obviously, the rent in recent quarters has strengthened. So that does offset some of the benefit.

The final question comes from Warren Riley of Bateleur Capital.

Just a question on your South African packaging business. The volumes there at plus 28% looked really strong. You do flag the strength in agriculture. But can you just talk to some of the other dynamics you're seeing there and perhaps some comments on current market conditions, if you're taking market share and tightness in the containerboard market, just some more color overall there, please?

Yes, you're right. It's been very strong. And I've got Alex here with me. Just he can talk about the market a little bit more detail.

Yes. Thanks, Steve. And certainly, agricultural growth, very strong on the back of our exports. I think more demand for fruit in the world. And then certainly, I think the whole movement from plastics to a more green economy is driving the demand for packaging. And we're seeing that certainly on the containerboard side. We have grown market share by roughly 4 percentage points in the virgin containerboard side.

Thank you. Gentlemen, that was the final question. I'd like to hand over back to Mr. Steve Binnie for closing comments.

Thank you, operator. I just want to thank everybody for joining us on the call today, and we look forward to discussing our results at the end of Q3. So thank you.