Morningstar DBRS Confirms Kruger Packaging Holdings L.P. Ratings at BB (high) With Stable Trends

DBRS Limited (Morningstar DBRS) confirmed the Issuer Rating and Senior Unsecured Notes rating of Kruger Packaging Holdings L.P. (KPH or the Company) at BB (high). All trends are Stable.

KEY CREDIT RATING CONSIDERATIONS
KPH's earnings and cash flows declined in 2023 compared with 2022 despite the price decline in average old corrugated container (OCC) costs as a result of lower price realizations and higher variable costs from inflationary pressure, resulting in contracted profit margin spread. This resulted in deterioration of overall credit metrics of the company in line with Morningstar DBRS' expectations. KPH generated 78% and 75% of revenue and EBITDA, respectively, in 2023 from its Containerboard, Paperboard & Boxes segment, with the remainder from the Paper & Pulp Products segment. EBITDA from the Paper & Pulp Products segment also deteriorated in 2023 because of lower price realizations. KPH has appropriately scaled down operations in this segment over the last several years given that North American demand for newsprint has been in secular decline for many years now. Morningstar DBRS expects KPH's 2024 EBITDA to decline year-over-year as a result of anticipated increase in OCC costs.

KPH's new greenfield box plant in Elizabethtown, Kentucky, became operational in 2022. The total capital cost for the project was USD 142 million, excluding start-up capital. The box plant will likely reach full capacity by 2027, and KPH expects the new plant to increase the forward integration for its linerboard production to about 69% by 2027 from around 50% currently.

Morningstar DBRS expects containerboard prices to improve in the latter part of 2024, thus resulting in average 2024 prices to be at par with average 2023 prices as a result of continued weak economic activity. As a result, Morningstar DBRS expects the adjusted debt-to-EBITDA ratio to increase to about 2.5 times (x) in 2024 compared with 2.1x in 2023.

CREDIT RATING DRIVERS
Morningstar DBRS may consider a positive rating action if there were a substantial improvement in the business risk profile of the company. While unlikely, a negative rating action would be possible if there were a significant deterioration in the financial risk profile of the company.

EARNINGS OUTLOOK
Since the beginning of Q3 2022, containerboard prices have started declining following lower demand in North America coupled with an incremental addition in the overall containerboard capacity. After witnessing a sharp decline in average OCC prices in 2023, Morningstar DBRS expects OCC prices to moderate and gradually increase over the next couple of years, which is likely to decrease the Company's overall profit spread and lead to lower earnings from the containerboard segment. The Paper & Pulp Products segment's earnings are also likely to decline slightly compared with 2023 as a result of the continued economic slowdown. This segment, however, is positioned to generate a steady level of earnings with a minimal level of investments. The Company also will continue to benefit from the Hydro-Québec 20% electricity rebate, which will be in effect until 2032.

FINANCIAL OUTLOOK
Morningstar DBRS estimates the average adjusted debt-to-EBITDA ratio will increase to 2.5x during the next couple of years as the margins continue to squeeze as a result of inflationary pressures resulting from the economic slowdown, partly offset by increased capacity utilization at the new Elizabethtown box plant.

CREDIT RATING RATIONALE
The credit ratings are underpinned by KPH's exposure to the less volatile paper packaging industry, stable, nondiscretionary end-market customers, and low-cost, efficient operations. The credit ratings are supported by a conservative financial policy and low leverage for the current rating category. However, the credit ratings are constrained by the Company’s lack of size and market position in the North American containerboard segment, lack of diversification in the broader paper and forest products industry, exposure to volatile input costs, and relatively low (albeit increasing) forward integration into its corrugated box plants. The Stable trends reflect Morningstar DBRS’ expectation that KPH's key credit metrics will continue to support the overall credit ratings.

ENVIRONMENTAL, SOCIAL, AND GOVERNANCE CONSIDERATIONS
There were no Environmental, Social, or Governance factors that had a relevant or significant effect on the credit analysis.

A description of how Morningstar DBRS considers ESG factors within the Morningstar DBRS analytical framework can be found in the Morningstar DBRS Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings (23 January 2024) https://dbrs.morningstar.com/research/427030/morningstar-dbrs-criteria:-approach-to-environmental,-social,-and-governance-risk-factors-in-credit-ratings.

BUSINESS RISK ASSESSMENT (BRA) AND FINANCIAL RISK ASSESSMENT (FRA)

A) Weighting of BRA Factors
In the analysis of KPH, the BRA factors are considered in the order of importance contemplated in the methodology.

B) Weighting of FRA Factors
In the analysis of KPH, the FRA factors are considered in the order of importance contemplated in the methodology.

C) Weighting of the BRA and the FRA
In the analysis of KPH, the BRA and FRA carry approximately equal weight.

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

Morningstar DBRS applied the following principal methodology:
-- Global Methodology for Rating Companies in the Mining and Forest Products Industries (15 April 2024)
https://dbrs.morningstar.com/research/431176/global-methodology-for-rating-companies-in-the-mining-and-forest-products-industries

Morningstar DBRS credit ratings may use one or more sections of the Morningstar DBRS Global Corporate Criteria (April 15, 2024), https://dbrs.morningstar.com/research/431186, which covers, for example, topics such as holding companies and parent/subsidiary relationships, guarantees, recovery, and common adjustments to financial ratios.
The following criteria has also been applied:
Morningstar DBRS Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings (23 January 2024) https://dbrs.morningstar.com/research/427030/morningstar-dbrs-criteria:-approach-to-environmental,-social,-and-governance-risk-factors-in-credit-ratings

The credit rating methodologies used in the analysis of this transaction can be found at: https://dbrs.morningstar.com/about/methodologies.

A description of how Morningstar DBRS analyzes corporate finance transactions and how the methodologies are collectively applied can be found at: https://dbrs.morningstar.com/research/431153.

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 under Related Documents or by contacting us at info-DBRS@morningstar.com.

The credit rating was initiated at the request of the rated entity.

The rated entity or its related entities did participate in the credit rating process for this credit rating action.

Morningstar DBRS had access to the accounts, management, and other relevant internal documents of the rated entity or its related entities in connection with this credit rating action.

This is a solicited credit rating.

The conditions that lead to the assignment of a Negative or Positive trend are generally resolved within a 12-month period. Morningstar DBRS trends and credit ratings are under regular surveillance.

Information regarding Morningstar DBRS credit ratings, including definitions, policies, and methodologies, is available on dbrs.morningstar.com or contact us at info-DBRS@morningstar.com.

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