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Hedging to rescue at CHH

By Nick Stride

Friday 18th July 2003

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Carter Holt Harvey's treasury department this week supplied the brave face on an otherwise dismal profit result.

New Zealand's biggest forest products company reported June first-half net earnings of $92 million, up from $73 million a year ago.

Chief executive Peter Springford characterised the result as "solid," citing the 88-day strike at the Kinleith pulp and paper mill, higher international freight rates and weak international log and wood products prices as factors holding earnings down.

What Carter Holt did not make explicit was that 40% of its $249 million of earnings at the ebitda (earnings before interest, tax, depreciation, and amortisation) level came from foreign exchange hedging.

Stripping out the $49 million of hedging gains, the company lost $8 million after-tax in the second quarter.

Analysts gave the company credit for cost-cutting initiatives that have produced hefty savings but said the shares could fall further.

"Carters is basically a market pulp play," said one analyst, who asked not to be named.

"The wood products market has peaked and in logs the recovery is still elusive. But if you look at how market pulp's performing, there's still downside."

"They're in a dreadful industry."

The company said that, if exchange rates were to hold at their current levels for the rest of 2003, the hedging benefit would be in the order of $180 million. That cover would fall to between $60 million and $70 million next year.

Despite the dollar's rapid rise against the US currency, foreign exchange issues are not expected to be a major theme of the upcoming reporting season.

Most listed companies, with the exception of Fletcher Challenge Forests, have good hedging cover and some, such as Sky Network Television, Telecom and Michael Hill International, will benefit from the strong dollar.

Carter Holt last year topped the list of shareholder value destroyers with a negative economic value return of $1.07 billion.

Its first-half bottom-line profit represented a return of 1.8% on its shareholders' funds of $5.01 billion and a 1.5% return on equity and net debt of $6.16 billion.

The company flagged a one-third or $900 million, reduction in the accounting value of its forest estates, which are on the books at $2.9 billion.

Chief financial officer Jonathan Mason said the adjustment would have little effect on the company's gearing, taking it from 19% to 22%.

Nearly half a million tonnes of cuts from sales of standing timber have already been made and a further half million are planned in a "medium-term adjustment" that is expected to last for two to four years.

Mr Springford said the cuts were from parts of the forests where the company was losing money on harvesting and would be positive for earnings before interest and tax.

He also said no new processing plants were on the drawing board despite predecessor Chris Liddell's prediction a year ago that four or five new plants would be needed to deal with the "wall of wood" coming on stream from maturing forests around New Zealand.

The strength of the dollar made it hard to justify greenfields investments, Mr Springford said. The company would wait to see what its main competitors in the US and Russia did. Carter's plans to build sales into China have been put on hold as Russian wood floods the market.

An accounting change has redesignated the Kinleith and Tasman mills as US dollar assets to take advantage of the differential between US and New Zealand interest rates. Mr Mason said the change would furnish a cashflow benefit of around $30 million a year.

Mr Springford said Carter recognised it was not delivering world-class performance but held out hope from the "diagnostic performance review" of 14 of its businesses.

A study of the Tasman mill had already delivered $39 million in cost savings and efficiencies.

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