Pactiv earnings hurt by raw material rises

Related tags Raw material Material Cost Pactiv

US packaging firm Pactiv has revised its 2004 earnings per share
outlook, another casualty of the dramatic increase in raw material
prices this year.

"Since our last earnings release, resin suppliers have announced substantial new cost increases"​ said Pactiv chairman Richard Wambold.

"It is difficult to determine how much of these increases will ultimately be realized, but we believe that in the current energy and chemical intermediates environment, raw materials are likely to rise beyond what the market envisioned 45 days ago."

As a consequence, the firm, which recorded a turnover last year of $3.1 billion and whose operations include 26 facilities throughout Europe, has revised its full year earnings per share excluding restructuring charges to a range of $1.40 to $1.45 from its previously announced range of $1.50 to $1.56.

Packaging manufacturers have been continually squeezed this year, with chemical firms passing on the costs of higher raw materials. Indeed, Pactiv has not been alone in blaming reduced margins on the spiralling costs of raw materials.

This has been an industry-wide trend. Chemical giant BASF this month announced further price rises for the plastic polystyrene, with costs set to be increased in Europe by €100 euros per metric ton.

Dow has also increased the prices of its packaging materials. "Our price increases in 2004 have not compensated for the tremendous rise in raw material costs during the first half of this year,"​ said Markus Wildi, commercial vice president for Dow's plastics portfolio in Europe, the Middle East and Africa.

The price of benzene, which is used to make styrene, has now reached historically high levels. Prices have been rising steadily since the start of the year, and are now double what they were six months ago.

"We buy benzene in order to make styrene,"​ BASF spokesperson Dr Sabine Phillip told "Benzene prices are affected by oil prices and also of course supply and demand."

A whole variety of raw material prices are hostage to the vagaries of global oil and natural gas prices. Natural gas - a starting point for the production of polyethylene - has shot up in price this year, with the effect that chemical giants have continually passed on the cost to packaging firms.

The international price for naphtha, which is extracted from petroleum and is also used to make polyethylene, has increased from US $222 a tonne in May 2003 to US $420 a tonne in August.

All this means that polyethylene (PE) producers now have the highest feedstock costs in the plastics producing world, and it is these high energy prices that have been the primary driving force behind most PE price increases.

The end result is that packaging firms such as Pactiv have had to shoulder the burden of these price increases, which has meant tighter margins and revised earnings per share outlooks. It is not clear when raw material prices will begin to curve, but the company expects the fourth quarter to still be impacted by higher raw material costs.

"Throughout this year we have raised selling prices several times to offset higher raw material costs, and we have announced additional pricing actions for implementation over the next few months,"​ said Wambold.

US feedstock costs are set to subside in the next few months. But US resin prices are still high because international traders are buying all reasonably priced resin, bringing new demand to the market and eliminating any surplus resin that might have been encouraged by high producer margins.

Nonetheless, Pactiv​ is confident that it can ride out the high raw material costs.

"We are confident that these pricing actions and our continued focus on productivity and cost control will begin to improve margins as resin costs plateau. Longer term, we expect the top-line growth we are seeing to be reflected in strong earnings performance."

There is certainly no cause for undue alarm. Half-term results for the firm's food service sector saw sales of $385 million rising eight per cent from $355 million last year due to volume growth in the base business and from acquisitions.

The segment postedsolid volume gains driven by strength in most product lines, particularlyfoodservice foam, agricultural products, and home meal replacement products.

This helped to offset higher energy-related costs. On the same basis, operating margin was 13 per cent compared with 14.1 per cent last year.

"We don't expect this (raw material price increases) to impactthe basic health of our businesses, which are enjoying excellent growth andstrong cash flow,"​ said the comapny in a statment.

"We are revising our free cash flow projections for the yearupward to a range of $230 million to $240 million including approximately$36 million of after-tax payments related to the restructuring, reflecting improved working capital management."

The global packaging industry is huge. In the US, packaging represents a quarter of the plastics market, worth $274.5 billion in shipments.

Europe on the other hand represents the world's largest packaging market, valued at $129 billion, and there remains considerable scope for growth. However, the recent fluctuations reveal how closely tied the industry is to the energy market.

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