UPM-Kymmene Oyj

Jussi Pesonen - Chief Executive Officer, President and Director Tapio Korpeinen - Chief Financial Officer and Executive Vice President, UPM Energy

Robin Santavirta - Carnegie Harri Taittonen - Nordea

Ladies and gentlemen, welcome to UBM’s Second Quarter 2018 Result Webcast. My name is Jussi Pesonen, I’m CEO of UPM and I am hear with Tapio Korpeinen.

Good afternoon, everyone.

Let’s get and start it. Q1 was another successful quarter of earnings growth for UPM.

Our second quarter sales grew by 5% and our comparable EBIT increased by 24% from the same period last year. This was the 21st consecutive quarter of earnings growth.

Customer demand of our products continue to be strong and we achieved higher prices in all our businesses. This enabled us to expand our sales margins and recover the impact of the clearly higher input costs.

During second quarter, we carried out for significant maintain shutdowns. This held back our operating profit by EUR 90 million during the quarter through higher maintenance cost and lower production.

Tapio will later on comment these topics. On the other hand, the weather related challenges in the wood harvesting and logistics were sold in during the first quarter and no longer material impact on our performance in Q2.

Looking at our business performance in Q2, there are mainly two main messages. First, demand was good in all our businesses.

For communication papers, demand continued to decrease but even there demand that was tight. We were planning quite flat out.

Secondly, we succeeded in increasing sales prices in all businesses compared with the last year and in all businesses except energy also compared with Q1. This enabled us to offset the higher raw material costs.

But ladies and gentlemen, at this point, I will hand over to Tapio for some further analysis of the results. Tapio, please.

Thank you, Jussi. So here we have the comparable EBIT development by business area.

And looking at this starting from the top left hand corner, Biorefining increased EBIT from last year. Customer demand was strong for pulp, for biofuels and for sawn timber as well and sales prices increased.

The average pulp price in the euros was 22% higher than last year or 7% higher than in the first quarter. However, as Jussi, we had maintenance activity by refining Biorefinings, second quarter EIBT and volumes were held back by on usually high maintenance activity.

Scheduled maintenance shutdowns were carried out at the Fray Bentos and Kaukas pulp mill and in the Lappeenranta biorefinery, we had the first major so called turnaround shutdown during the quarter. All this increased maintenance cost during the quarter and impacted production of both pump and biofuels significantly.

Communication papers was able to grow its top line and EBIT compared with both Q2 last year and compared to first quarter this year. The business area achieved high operational efficiency and increased prices.

And in communication papers, the sales margins increased despite significantly higher raw material prices particularly concerning cost for pulp. Specialty papers enjoyed good market demand and increased prices during the quarter.

Unlike communication papers however it was not able to fully offset the higher pulp costs in the second quarter. As a result, its sales margins and EBIT decreased.

Raflatac performed well in the second quarter and managed to get back to growth track in terms of EIBT. In the first quarter, Raflatac increased sales prices to offset rising raw material costs, but then gave up some volumes in the process.

Market demand has continued to be strong and in the second quarter Raflatac's volumes started to recover. Energy business area increased its earnings from last year due to higher electricity prices and higher volumes as well.

Average electricity price increased by 12% compared to second quarter last year, but decreased by 7% from the winter first quarter. Electricity generation was 15% higher than last year but decreased compared to the first quarter due to the annual maintenance shutdown at the oracle the Olkiluoto nuclear power plant.

Plywood had a steady performance in a good market situation. It succeeded in offsetting the higher wood cost with increased prices.

And here in the waterfall chart on the left hand side you can see the EBIT bridge by earnings driver and there clearly price increases across all businesses had a large positive impact. The price increases also had a large enough impact to increase our group level margins i.e.

they exceeded the significant negative impact of higher variable cost and unfavorable currencies as well. The four large scheduled maintenance shutdowns in the second quarter also resulted into higher fixed costs and lower deliveries as seen in this chart explaining the negative variances.

On the business area level on the right hand side, five out of six business areas increased. Their EBIT with Communication Papers and Biorefining being the biggest improvers.

This Page 6 summarizes the timing of large scheduled maintenance shutdowns and their impact on our Q2 performance. Here, we list the significant events such as pump mill Biorefinery or nuclear power plant maintenance shutdowns which may have a noticeable impact on UPM short term performance.

A large maintenance shutdown such as leaves [ph] us obviously two main impacts on the short term financial performance. Increased fixed cost in terms of the maintenance work and then lost production during the shutdown.

First, there is a cost associated with the maintenance. The maintenance cost for one large pulp mill or also the cost of a turnaround shutdown at the Lappeenranta Biorefinery is typically some EUR 10 million to EUR 15 million.

And then second, again obviously there's no production at the unit during a shutdown and the value of the lost production depends on the sales margin of the unit at the time of the maintenance work and the duration of the shutdown. As Jussi mentioned, the four significant maintenance during the second quarter held back our operating profit by EUR 90 million.

Of this, the incurred maintenance cost itself was EUR 40 million and that is reported in the fixed costs. And then the impact of the lost production was about fifty million euros, which is visible as negative volume development.

And as you perhaps remember, there were no large maintenance events in the first quarter. So the Q2 EBIT variance from maintenance compared to the first quarter was the same EUR 90 million.

On the other hand in our first quarter performance, we did have EUR 30 million impact or challenges in hood harvesting conditions which we no longer had in the second quarter. In the second quarter last year, we had two maintenance events and obviously lower sales margins at that time as well, so the EBIT variance from maintenance year-on-year between that due to figures was EUR 60 euros.

In the third quarter, we have scheduled no significant maintenance shutdown, so everything else being equal, the EBIT variance from maintenance should be EUR 90 million positive compared to the second quarter. Today our pulp mill maintenance is 18 months, Lappeenranta biorefinery is expected to take turnaround shutdown every three to four.

The Olkiluoto maintenance cycle is 12 months. Then going on to Page 7, this shows our cash flow and net debt.

Our operating cash flow was EUR 329 million in the second quarter, increasing from the EUR 269 million figure last year. Working capital increased by EUR 20 million in the second quarter and cumulatively EUR 162 million during the first half of the year driven by seasonal factors and by the impact of increased prices of UPM products and raw materials.

During the second quarter, we paid the dividend of EUR 613 million and then at the end of the quarter, net debt was EUR 401 million, EUR 645 million less than one year ago. And here we have the summary.

Our outlook for 2018 [Technical Difficulty] which happened in this second quarter and the weather related wood harvesting limitations which took place in the first quarter. And the combined total impact was a negative EUR 120 million euros of these two areas during the first half.

In the second half of the year, we only have one scheduled significant maintenance shutdown in the fourth quarter of Pietarsaari pump mill in Finland. And therefore that scale maintenance shutdown one can expect an impact of EUR 20 euros in round figures.

We expect normal operations in our wood harvesting during the second half of the year. We do see some further variable cost increases as we have experienced during the first half of the year.

For example for pump, for the paper businesses but also for wood and some other raw materials. But we have been able to increase prices and expect some price increases going forward as well, so therefore our expectation is that we are able to maintain good and stable sales margins in the second half as compared to the first half.

At this point, I'd like to hand back to Jussi for some further comments on our growth projects.

Thank you, Tapio. Page 9 reminds you about our current focused investment and growth projects.

As you know in UPM's language focused projects are small to medium size high return investments that help us to develop our market position and maintaining growth and earnings overtime. Here you see three projects that have been successfully completed recently but are not yet fully visible in our figures.

The Kymi and Kaukas mill expansion have increased our annual capacity by 200,000 tons. With less maintenance and improved wood harvesting conditions, we should be able to resume growth in pump deliveries in the second half of the year as we speak.

Plywood is currently running at the very high capacity utilization, limiting its volume growth and therefore and Chudovo mill expansion will enable it to grow and the deliveries and with the very highly competent way latter part of 2019. The rest of the growth projects you see here are for specialty packaging materials businesses Raflatac and specialty papers two of the projects report, Raflatac growth both in standard paper products and in higher added value specialty products.

Three of the projects report, specialty paper growth in attractive release liner or segment in Europe, Asia and North America. The Nordland PM2 conversion from fine paper to release liner and the Changshu expansion where announced during the second quarter.

Then summarizes our transformative prospects, these prospects provide us with the unique and exciting opportunities for significant long term earnings growth. As you know, we are preparing for a possible new pulp mill investment in Uruguay, a possible first biochemicals refinery investment in Germany and a possible scale up of the biofuels business with the second biorefinery in Finland.

Preparations for these projects are proceeding as planned and explained. We spent a fair amount of time of discussing these prospects and their importance or our recent Capital Market Day at the end of May.

If you missed that event or you would like to refresh your memory or what was presented, you can find the recorded webcast and presentation materials on the UPM website. Ladies and Gentleman, our target is to grow our profits and improve our shareholding value.

On UPM CMD also, in our CMD day also we discussed about the spearhead for growth all these three elements with they are summarized here in the Page 11. In the coming years, UPM seeks a significant growth in pump specialty packaging materials and molecular businesses and bio products.

Demand growth for these, all these products is supported by global mega-trends and UPM has a unique competitive position in all of them. All of them provides a sustainable solution for growing and changing consumer demand.

As already discussed, our current list of focused growth of project is very much about growing in the specialty packaging materials. The new pulp mill in Uruguay would be large growth step for our pump business and for whole UPM and its earnings.

The molecular businesses, biofuels and biochemicals could provide a large new unique growth platform for UPM for the coming decades taking us well beyond limits of the traditional fiber based forest industry innovating for a future beyond for size. Ladies and gentleman, I would like to finally talk about you know our long term future.

Finally, today UPM in better shape and standing better than ever. We truly energized and inspired by the renewable bio for reason that we have, we are in the businesses of delivering renewable responsible solutions for our customers.

We aim higher and we work hard and innovate for a future beyond size. Our targeting – and we are targeting superior shareholder returns with strong performance and earnings growth.

UPM’s market based operating model differentiation in our business strategies as well as disciplined and effective capital allocation are the core of the today’s and future value creation. Today also innovation and responsibility are more fundamentals of our competitive advantage than ever before.

We will see the world going beyond for size and UPM is going to be part of that change. Ladies and gentlemen, at this point of the presentation, we are end with and we are now ready for the questions.

Dear operator, we are ready for the Q&A session.

Hello. Thank you for thinking my questions.

Now, first of all you guide for sales price increases to all weight that variable cost inflation in H2 or so, you guide for improving sales margins but what about volumes, you state that volumes are expected to grow but is that versus H1 this year are compared to H2 last year-on-year?

Well, as I said we expect that if we look at sort of on one hand for the cost increases first half and second half and then let’s say what we expect on the sales process side than we expect that we’ll continue to sort of have the sales margins at the level where we have them last this first half I mean being able to increase prices more than costs went up and therefore improving our sales margins clearly. Considering the volumes, there of course one difference comes again from the fact that we will be no longer held back by the maintenance work as we did have during the first half and then the second quarter which is combined for the fuels and pulp in by refining about 120,000 tons.

So that will be impacting our volumes in positively and by refining and then seasonally it will have better demand for communication papers as well. And then on top of that in the first quarter, we lost some volume to the wood, logistics challenge as you remember and that sort of limitation is no longer there which impacted in Finland particularly our pulp production once again.

So those factors sequentially will improve our volumes as we expect now compare the first half into the second half of this year.

All right. Good, thanks.

And then relate to this decision, impacting H1 earnings, so if I understand correctly you had 90 million of maintenance related costs but volumes and higher costs and that was 90million together and then you have 30 million negative impact from the short itself with raw material. Now do I understand you correctly that as it stands today, you look for no basically negative impact from wood raw material supply for H2 and then you look for 20 million impact from the Pietarsaari pulp mill maintenance stop.

Yes, that is correct. So we don’t expect any curtailment because of wood as we did have in the first quarter.

We believe that we will have a normal situation in the second half as our sort of pipeline has normalized in terms of wood logistics and harvested the mills here in Finland. So in that sense again the 120 million that we had in the first half is not there.

We do have the Pietarsaari shutdown which would be 20 million impact. So the net effect from those factors alone would be then about 100 million.

Maybe adding on that that you know the wood market in Finland has been working pretty well, if I remember correctly we are for the first half a year in whole Finland something like 15% to 18% higher in volume. So the wood market is functioning?

Sure. Thanks.

Could you just remind me on the maintenance related cost you had last year in Q4, I think you had the Kymi pulp mill and perhaps some something else, was it more than 20 million that year in Q4 your maintenance stop?

It was about equal.

All right. That’s clear.

And then the final question from me. The communication paper margins is now in Q4 extremely high.

I assume your operating at rates are very high at the moment. What is exactly driving?

What is the sort of key drivers there? Is it improved demand in Europe and the closures of capacity, or is it also sounds that the volumes going overseas or that is tied to any of market in communication papers in Europe?

No, communication papers has been pretty tight market you know and if you are looking the statistics you know the decline has been pretty normal around 4%. But the market has been tight in all of the paper grades and that is causing the situation that we have been running even Q2 quite high operating rates bearing in mind that the mid-summer shutdown is affecting us of course the kind of shutdown that you have to have.

But other than that we have been having high utilization rates and the prices have been improving.

Would you mind to comment what that utilization rates in Q2 which seasonally is a bit weaker quite normally what has been now?

We have not been commenting those.

All right. Thanks, that’s all for me.

Yes, hi, good afternoon. Harri Taittonen, Nordea.

Have you sort of changed your view at all in any other cost items believe three months ago you were still saying that cost inflation is quite modest and that most of that inflation was at the beginning of the year, but now that the year has evolved, are you sort of looking anything differently from then?

I would say that let’s say the bigger jump was in the beginning of the year perhaps the overall cost increase is somewhat higher than what we expected. But let’s say so that if you look at this waterfall charts that we have on a quarterly basis, we have now shown on a year-to-year comparison.

So if 100 hundred million plus impact from variable costs as compared to the same quarter one year ago for each quarter and obviously that is more than what we had in the same analysis in 2017 as compared to 2016. But I said at the same time also we have been able to increase our prices by more than that.

So therefore sales margins have been going up. And then in terms of what to expect for the full year as such expect that we’ll sort of continue to see these sort of same kind of figures in the next couple of quarters when we compared to the previous year’s third and fourth quarter sequentially from first half to second half perhaps more moderate but still increased variable cost but again as I said we also expect to increase sales prices, so therefore the sales margins will be good also going through the second half.

So no sort of surprises from there expected.

Okay, that’s great. Well related to that that was the second quarter I had in mind on the prices that you mentioned that you expect them to increase.

As it related to that kind of paper price increases which have been more or less kind of reported and communicated in the trade press for the magazine news print fine papers which are happening in Q3 or do you see some other areas we have of course – sorry prices having potential to be raised?

Harri that is correct but also when it concerns our other businesses that are bit smaller like Raflatac and plywood, we are seeing also price increases and energy has been of course on that tract as well.

Okay, okay. The final sort of third question is about Raflatac and the kind of scalability and the volume upside there, as you said you lost a bit of volume in Q1 then sort or regained volume in Q2, but where are we in terms of like the performance potential or the volume potential in that business areas in Europe?

Raflatac is different, too many other businesses I guess that we have lot of potential when it comes to volume development and but I said you know the profitability is the kind of main factor for us you know like we during the first quarter or end of the last year and first quarter, we actually had a view on rather margin than the volumes but potential is there.

Fantastic, thank you.

Okay. Ladies and gentlemen, I think that we are – we have done the work for the day and thank you for joining us and see you later.

Thank you for being with us. Thank you, bye.