DBRS Confirms Canfor Corporation at BBB (low), Trend Changed to Negative

DBRS Limited (DBRS) has today confirmed the Issuer Rating and Senior Notes rating of Canfor Corporation (Canfor or the Company) at BBB (low) and changed the trend from Stable to Negative. The confirmation is supported by a modestly improved business risk profile (see below) and a still-acceptable financial risk profile for the current rating. The negative trend reflects concerns about the deterioration of all credit metrics at Canfor in 2015, which, if not reversed within the next six to 12 months, would lead to a one-notch downgrade. Conversely, the trend would be changed to Stable if Canfor could make solid progress to return its coverage metrics toward the 2014 levels, either by lowering debt levels or stronger lumber results or a combination of both.

The Company’s business profile, with a modestly improved market position, continues to be the key support of the current rating. Canfor has steadily grown its presence in offshore markets, particularly China, notwithstanding the decline in 2015, which offers higher price realization and lessening its dependence on the United States and Canada. Recent acquisitions in the U.S. South have also increased its lumber production capacity and expanded its product range, especially in higher-margin value-added products and geographical diversification, as well as high-quality fibre supply.

However, recent debt-financed acquisitions have sharply raised Canfor’s leverage. This, coupled with the disappointing results at the lumber business, has led to a sharp deterioration of its coverage metrics. Lower export volume and prices due to soft offshore markets have knock-on effects on the U.S. market, Canfor’s largest. Slower than expected growth in demand and higher production has further added to supply/demand imbalance in North America, pressuring pricing. Despite higher shipments from newly acquired sawmills in the U.S. South and a weak Canadian dollar, Canfor reported sharply lower earnings in 2015, well below DBRS’s expectations. Furthermore, mostly debt-funded acquisitions in the last two years have led to a steady rise in leverage. All debt coverage ratios have deteriorated due to lower earnings, higher debt levels and higher interest expense.

Near-term, DBRS expects stronger demand from increased construction activities in the United States to ease the supply/demand imbalance and the pressure on pricing. Contributions from recent acquisitions and capacity expansion would add to earnings. However, the Softwood Lumber Trade Agreement, which expired in October 2015, is likely to be reinstated, though the impact of the “new” agreement is uncertain. Additionally, the recovery in U.S. housing construction, which has been disappointing, may not live up to expectations. Unfavourable outcome from these events would delay Canfor’s credit metric recovery. Moreover, Canfor may incur more debt to fund committed acquisitions in the next two years. The Company’s financial profile does not have the capacity to absorb further negative development.

Notes:
All figures are in Canadian dollars unless otherwise noted.

The related regulatory disclosures pursuant to the National Instrument 25-101 Designated Rating Organizations are hereby incorporated by reference and can be found by clicking on the link to the right under Related Research or by contacting us at info@dbrs.com.

This rating is endorsed by DBRS Ratings Limited for use in the European Union.

The applicable methodology is Rating Companies in the Forest Products Industry, which can be found on our web site under Methodologies.

For more information on this credit or on this industry, visit www.dbrs.com or contact us at info@dbrs.com.