3Q24 earnings largely in line with our expectation

Sun Paper announced its 1-3Q24 results: Revenue was Rmb30.98bn and attributable net profit was Rmb2.46bn. In 3Q24, the firm's attributable net profit fell 21% YoY and 13% QoQ to Rmb0.7bn, and recurring attributable net profit was Rmb0.77bn, in line with our expectation and slightly beat market expectations, mainly due to stable net profit per tonne beating expectations.

P&W paper: We estimate that net profit per tonne of the P&W paper business fell by more than Rmb100 QoQ in 3Q24 due to a slight QoQ rise in pulp cost and a slight decline in product prices. We expect new industry- wide production capacity to exceed 1mnt in 2025, putting upward pressure on supply and implying limited upside potential in P&W paper prices. We think net profit per tonne of the P&W paper business could be weak.

Packaging paper: We think net profit per tonne at the Laos production site recovered slightly in 3Q24 due to falling prices of old corrugated cardboard (OCC) from the US. Domestic demand was not strong in the peak season, but structural improvement continued at the Guangxi production site. We think domestic production sites recovered steadily.

Dissolving pulp: Thanks to favorable supply and demand conditions, the price of dissolving pulp stayed above Rmb7,000/t in 3Q24, and did not fall sharply along with pulp prices. Overall profit per tonne of this business segment remained high. The firm's dissolving pulp production site in Shandong reached full capacity and we think sales volume grew slightly QoQ. The firm announced that it started the relocation of a 200,000t dissolving pulp production project from Yanzhou to Beihai in October, and it expects upgrades of the project to be completed in 2Q25. We note that the relocation of the project may slightly reduce production of this business segment, but the firm's Beihai production site has clear advantages in pulp production and location, which should further boost the profitability of the firm's dissolving pulp business.

Other pulp products sold to external parties: Market-wide pulp prices have fallen from high levels since 2Q24. However, this business segment of the firm mainly sells pulp to the group company with pulp prices stable and less volatile than market prices. We think net profit per tonne of pulp for this business segment changed little QoQ in 3Q24.

Solid quality of balance sheet; asset impairment losses still a drag. In 1-3Q24, the firm's non-current asset disposal gains and losses totaled -Rmb187mn, including Rmb100mn of loss provisions for asset disposal in 3Q24, mainly due to the disposal of fixed assets at the Nanning production site. In 1-3Q24, the firm's operating cash flow was Rmb5.8bn, its capex was Rmb3.9bn, and its debt-to-asset ratio was 46%.

Trends to watch

Upbeat on recovery of net profit per tonne in 4Q24. We think the inventory of low-price pulp could drive stabilization and recovery of profit per tonne for the firm's paper products in 4Q24, but the relocation of the dissolving pulp project may weaken the firm's profit in the short term. As the firm put a 1mnt packaging paper production project into operation in 2023 and started trial production for a 150,000t household paper project in 3Q24, we expect its full-year sales volume to grow more than 10% YoY.

In Nanning, the firm plans to add 400,000t of specialty paper production capacity, 350,000t of chemical pulp production capacity, 150,000t of chemical mechanical pulp production capacity, 1.2mnt of high-end packaging paper production capacity, and 150,000t of household paper production capacity. In Shandong, a 37,000t specialty paper-based new material project and the Phase II of a 140,000t specialty paper project have started construction. In Beihai, the firm is relocating a dissolving pulp production project from Yanzhou to Beihai. We expect the firm's capex to remain high in 2024-2025, and we think the firm needs to reserve sufficient cash for its organic growth.

Improving forest-pulp-paper integration. Sun Paper's paper plus pulp production capacity now exceeds 12mnt. It is the only company in the domestic market that has integrated forest-pulp-paper production capacity and covers all types of paper products. The firm has demonstrated its ability to look far ahead and aim high, expand businesses during industry downturns and maintain cost advantages through cost reduction. In the medium term, we are upbeat that the firm will continue to solidify its cost advantages, backed by its strong presence in Shandong and Guangxi, and abundant forest and high-quality fiber resources in Laos.

Financials and valuation

We keep our 2024 and 2025 net profit forecasts unchanged. The stock is trading at 12x 2024e and 11x 2025e P/E. We maintain an OUTPERFORM rating and target price of Rmb18, implying 16x 2024e and 15x 2025e P/E, offering 31% upside.

Risks

Disappointing demand; sharper-than-expected fluctuations in costs; disappointing new production capacity.