Paper sector may show improvement in profit in H2 FY16

However, uncoated writing and printing paper segments continue to battle muted prices due to domestic overcapacity

The profitability of paper companies is likely to rise in the second half of the ongoing fiscal helped by the improved cost structure, says a report by India Ratings.

"The pricing environment in the paper sector did not improve in the first half of FY 2015-16 due to an unfavourable domestic demand-supply balance and a high level of imports. The profitability of the companies should show an improvement in the second half due to improved cost structure," India Ratings said.

The sector continues to face a muted pricing environment in uncoated writing and printing paper as the domestic overcapacity added in the past has not been fully absorbed.

This has also led to a spike in inventory levels.

The industry is facing import pressures in certain segments.

The realisation in the coated writing and printing paper segment has marginally declined, driven by the increase in imports from Asian countries such as China and Indonesia.

Dynamics in certain segments such as newsprint and coated paper continue to be driven by import price parity.

Imports at aggressive pricing could lead to further pricing pressure in these segments, it said.

However, the recent rupee depreciation is likely to help the companies withstand these competitive pressures to an extent.

India Ratings pointed out that the input pressures, primarily due to the increase in domestic wood prices faced by paper companies over FY 2012-14 have subsided.

Wood prices, which have almost doubled during the period, more or less stabilised in FY15.

Farm forestry by paper mills and high wood prices have led to the increased availability of wood in nearby areas, thereby reducing average procurement costs for mills.

Wood prices are likely to stabilise or reduce from the current levels.

In addition, lower fuel costs are likely to be beneficial for paper companies.

The paper makers have been focusing on improving operational efficiency through capex or process improvement during the downturn.

However, they have in the past been squeezed both on the pricing and cost fronts and as such could not really gain from the operational efficiencies developed.

An improved cost structure along with relief on the cost front would help improve the profitability of sector companies, even with muted demand growth, the report said.