Description

Description: 

We believe that Westrock (WRK) represents an attractive investment after its recent transformation and strong positions within consolidated industries.  WRK is a leading North American integrated manufacturer of corrugated and consumer packaging that has undergone a massive reorganization that should result in substantial value creation. In the past year, the company initiated a spin-off of their specialty chemical business (Ingevity: NGVT), sold their home, health and beauty segment for ~$1bn to Silgan (SLGN), purchased Multi Packaging Solutions (formerly MPSX) for ~$2.3bn and have made a few purchases in the corrugated packaging space.  These recent deals follow the two main transactions that formed the base of the company operating today (Rock-Tenn purchasing Smurfit-Stone in 2011 and then merging with MeadWestvaco in 2015).  The company is now focused in two attractive packaging segments that have strong supply and demand outlooks.  While some of this is priced in, we still see material upside on an out-year basis.  

WRK operates in two separate segments: 1) Corrugated Packaging and 2) Consumer Packaging.  They also currently report a segment entitled “Land and Development” but this land is in the process of being monetized for proceeds that should end up somewhere around $200-300mm.  Corrugated packaging is essentially what most people refer to as “cardboard” and is what the majority of your amazon orders arrive in.  The Consumer Packaging division generally produces thinner cardboard packages such as cereal boxes but also includes higher value add products such as ice cream cartons.

The company recently completed an acquisition of Multi Packaging Solutions, which was added to the company’s consumer packaging division and resulted in company-wide mix closer to ~50/50 between corrugated and consumer.  MPSX is a producer of consumer packaging and large consumer of SBS (solid bleached sulfate), which is board used for consumer packages (think candy or cigarette boxes, for example). WRK is long SBS and the deal allows them to vertically integrate. WRK purchased MPSX for ~$2.3bn, which valued the company at ~10.5x TTM EBITDA.  However, WRK has identified at least $85mm of synergies that should bring the PF multiple to ~7.5x.  WRK is long SBS and the deal allows them to vertically integrate.   

Both corrugated packaging and consumer packaging industry fundamentals are strong and should remain so barring recession.  Demand is growing and both industries have become very rational following heavy consolidation.  In terms of industry consolidation, the top 5 North American containerboard producers control ~75% of the market today vs. ~43% 20 years ago.  The North American SBS market is even more consolidated with the top 5 controlling over 90% of the market.  Increased consolidation has led to supply discipline vs. the fight over volume that used to occur during price downturns.  Also, the industries have had a much easier time passing along price increases when encountering higher commodity prices. 

Management is strong and has successfully navigated the company through many large transactions.  The have been very shareholder friendly and have engaged in large capital returns to investors in addition to acquisitions.  We think there is upside to the synergies on the MPSX deal and we also think the market is not fully appreciating the increased levels of integration the company is gaining through this and the recent smaller deals on the corrugated side. 

The company’s 2017 will be a bit messy due to the recent divestitures and acquisitions.  However as we look out to 2018 and 2019, valuation becomes very compelling.  In 2019, we see the company earning ~$2.9-3bn in EBITDA.  After FCF generation (without share buybacks and after paying current dividend of $1.60/share or 2.8%5 yield), we think the company is trading at less than 7x EBITDA.  We think the company will become more aggressive on share buybacks as the company moves below its 2.25-2.5x leverage target range over the next year or so.  Incorporating share buybacks would result in the company earning over $4/share in earnings (~14x EPS).  However, the company should produce FCF in excess of earnings and could produce over $5/share in FCF.

The company does operate in a cyclical industry and, even with consolidation, there will be downturns.  However, we think downturns will be less severe than in the past due to industry rationalization.  These industries have already shown that they can stand together behind price increases that are needed to overcome elevated commodity prices (due to the lag in these price increases vs. input costs, quarter-to-quarter numbers can be volatile and near-term market reaction can provide opportunities).  

Catalyst

- Update on guidance and synergy targets

- Containerboard price increases