Fitch Assigns Initial 'BBB-' IDR to Klabin S.A.

; Outlook Stable
Policy 18 Jun 2012 10:07 AM (EDT)

Ratings Endorsement

Fitch Ratings-Chicago-18 June 2012: Fitch Ratings has assigned an initial 'BBB-' foreign and local currency Issuer Default Rating (IDR) to Klabin S.A., as well as a national scale rating of 'AA (bra)'. The Rating Outlook for Klabin is Stable. Klabin's ratings reflect the company's high levels of liquidity, modest levels of leverage and strong cash flow generation. The ratings also take into consideration Klabin's leading position in the Brazilian packaging sector and its large forestry base that provides it with a low production cost structure. Further considered is the company's high degree of vertical integrated that enhances its product flexibility in the competitive but fragmented packaging industry. Credit concerns include the uncertainty surrounding a potential pulp projects and the prospects that it could be constructed in the midst of prolonged weak pulp prices. Other credit constraints include the volatility of results in the paper and packaging industry, as well as the company's vulnerability to a strong Brazilian real. Robust Liquidity and Manageable Debt Amortization Schedule Klabin maintains a robust liquidity position. As of March 31, 2012, the company had BRL2.9 billion of cash and marketable securities and BRL1 billion of short-term debt. This level of liquidity is consistent with historical levels. For the period between 2007 and 2011 the company's average annual cash to short-term debt position was 2.6x. Cash is also high in relation to EBITDA, averaging 2.6x during this same five-year period. The company's debt maturity schedule is evenly spread and manageable. Klabin faces debt amortizations of BRL953 million in 2013, BRL808 million in 2014 and BRL796 million in 2015. Fitch expects Klabin to continue to maintain a comfortable liquidity position, conservatively positioning the company to face the price and demand volatility inherent to the packaging industry. Leading Position in the Brazilian Packaging Segment Klabin's vertically integrated operations and leading position in the packaging segment in Brazil support the ratings. Klabin is the leader in the Brazilian corrugated boxes and coated board segments, with market shares of 16% and 29%. It is the sole producer of liquid packaging board in Brazil and is the largest producer of kraftliner and multi-wall and industrial bags in the country. The company's competitive advantages are viewed to be sustainable in the medium term, as it is supported by the productivity of the company's forest plantations, which give it access to low-cost fiber. Klabin's size and high level of integration relative to many of its competitors is an advantage, allowing it to adjust sales between coated board, industrial bags, kraftliner, and corrugated boxes depending upon market conditions. Strong Free Cash Flow Allows Deleveraging Klabin generates strong cash flow from operations. This allows it to quickly deleverage after its investment cycle. Following the expansion of Monte Alegre during 2007 and 2008, Klabin's cash flow from operations (CFFO) averaged more than BRL700 million per year and its free cash flow after dividends and capital expenses averaged in excess of BRL200 million annually. This level of cash generation enabled Klabin to reduce its net debt from BRL3.8 billion at the end of 2008 to BRL2.7 billion as of March 31, 2012. Key investments are currently being made to debottleneck the Monte Alegre pulp mill and expand the company's corrugating, sack kraft and recycled paper capacity. These investments should lower costs and increase output, further improving Klabin's CFFO and free cash flow generating capacity. For the last-12-months (LTM) ended March 31, 2012, Klabin generated BRL1.1 billion of EBITDA. This compares with BRL2.7 billon of net debt, resulting in a net debt/EBITDA ratio of 2.3x, which is below the company's five-year rolling average ratio of 3.2x. For 2012, Fitch projects that Klabin will generate more than BRL1.2 billion of EBITDA and its net debt/EBITDA ratio will be 2.2x.

Volatile Operating Margins and Exposure to Brazilian Macroeconomic Conditions During the LTM ended March 31, 2012, Klabin reported net revenues of BRL3.901 billion and an EBITDA of BRL1.129 billion. The company's 28.9% LTM EBITDA margin is higher than the range of 23.4% and 27.6% achieved by the company between 2006 and 2011. The LTM revenue and EBITDA figures also compare favorably with those generated by the company during 2011 and 2010. During 2011, revenues were BRL3.889 billion while EBITDA was BRL1.070 billion. For 2010, these figures were BRL3.663 billion and BRL933 million, respectively. The volatility of margins is not only due to changes in demand and prices, which are closely correlated with the performance of the Brazilian economy, but is also affected by energy and recycled fiber costs. Exchange rates also play a key component in changing the company's cost structure and affecting the demand for imported goods in Brazil. Despite the aforementioned volatility, Klabin's EBITDA margin range is more predictable than that of the pulp companies in the regions, whose margins have vacillated between 25% and 45% during the past five years. Sales to the domestic market accounted for 78% of the company's revenues in the LTM. This ratio is higher than most of the large pulp and paper companies in Brazil, making the company's performance more directly correlated with local market conditions. Latin America is the most important market for exports, representing nearly half of the company's export sales. Leverage Should Increase due to Pulp Mill Klabin is likely to construct a pulp mill within the state of Parana in next couple of years that would have 1.5 million tons of annual production capacity. The decision to go forward with this project is contingent upon global economic conditions and the outlook for the pulp market, which can be difficult to predict in this current environment of high uncertainty. Due to the company's large pine and eucalyptus forests in this state, the mill would be capable of producing both hardwood and softwood pulp. The softwood pulp would be destined for the Brazilian market, which currently relies upon imports. The BEKP hardwood pulp will primarily be exported. To finance the new pulp mill, Klabin is expected to seek a minority partner. The project will likely be financed with about USD2 billion of equity and USD1.8 billion of debt. Klabin's equity contribution will primarily consist of its forest plantations. If 50% of the debt and EBITDA are consolidated in Klabin's future results, Fitch projects this would increase net leverage to about 3.1x during the construction phase, before declining to about 2.4x once fully operational. If Klabin jointly and severally guarantees all of the project's debt, Fitch projects that Klabin's net leverage ratio could reach about 4.0x before falling below 3.0x times after construction (consolidating 100% of project debt and 50% of EBITDA). Forestry Assets Are Key Credit Consideration Further factored into the credit ratings of Klabin is its large forestry base, which assures it of a competitive production cost structure in the future. As of March 31, 2012, the company had 243,000 hectares of planted eucalyptus and pine forests on 506,000 hectares of land it owns. The accounting value of the land owned by the company is about BRL1.9 billion and the value of the biological assets on its forest plantations is BRL2.7 billion. The ratio of Klabin's net debt to the value of its biological assets at the end of 2011 was 1.0x. This ratio is slightly weaker than Arauco's ('BBB+', Rating Watch Negative) forestry leverage ratio of 0.9x and CMPC's ('BBB+', Outlook Stable) 0.8x ratio. Klabin's forestry leverage ratio compares favorably with that of Fibria and Suzano, which are rated 'BB+' and 'BB', respectively. Fibria's ratio of net debt to the value of its biological assets at the end of 2011 was 2.8x, while Suzano's was 2.3x. Potential Rating or Outlook Drivers Klabin's ratings could be negatively affected by a significant reduction in the company's robust liquidity position or an increase in leverage beyond projected levels. The former factor would most likely be due to a change in management's philosophy regarding liquidity management and could be driven by lower interest rates on cash held in Brazilian banks. The second factor, leverage higher than projections, would likely result from a large debt financed acquisition, a delay in the startup of a new pulp mill, or a sharp and prolonged downturn in the Brazilian economy. A positive rating action is not expected to occur until the company's new pulp mill is operational and the associated debt for the project is reduced. Maintenance of a strong liquidity position and commitment to conservative leverage levels during periods of low investment would also be crucial to consideration for an upgrade or change in the Outlook to Positive, as would a positive outlook for the Brazilian economy. Contact: Primary Analyst Joe Bormann, CFA Managing Director +1-312-368-3349

Fitch Inc. 70 West Madison Street Chicago, IL 60602 Secondary Analyst Fernanda Rezende Director +55-11-4504-2618 Committee Chairperson Dan Kastholm, CFA Managing Director +1-312-368-2070

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