Who’s box­ing clever?

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In­vestors who chose to back the pack­ag­ing sec­tor at the start of 2015 have had out­comes rang­ing from out­stand­ing to dis­as­trous. It all de­pended on the com­pany they picked.

Had they gone for Nam­pak, once up there with the bluest of blue chips, they would have watched the out­come in hor­ror, as its share price went on to slump more than 60%.

Mpact would also have given them lit­tle rea­son to re­joice. Though its share price did rise ini­tially dur­ing the first nine months of 2015 it later dived, and ended al­most 40% down on its Jan­uary 2015 level.

The pack­ag­ing com­pany to have backed at the start of 2015 turned out to be Mondi, the global heavy­weight with an an­nual rev­enue of €7bn. It re­warded its share­hold­ers with a dou­bling of its share price.

Mondi, which is fo­cused on pa­per pack­ag­ing and is dual listed on the Lon­don Stock Ex­change and JSE, has earned its strong mar­ket fol­low­ing by de­liv­er­ing con­sis­tent growth. Over its past four fi­nan­cial years, up to De­cem­ber 2017, Mondi de­liv­ered EPS growth of 12% a year in the face of what were un­til re­cently ad­verse mar­ket con­di­tions.

Div­i­dend per­for­mance over the four years was even bet­ter, com­ing in at 15% a year. In its past year Mondi added a spe­cial div­i­dend of €100c to the €62c or­di­nary an­nual div­i­dend.

Mondi’s suc­cess has been built on a clear strat­egy that has been in place since its un­bundling by An­glo Amer­i­can in 2007 — to shift away from com­modi­tised goods and fo­cus on high-end prod­ucts where it could gain an ad­van­tage based on ef­fi­ciency and in­no­va­tion.

This strat­egy has en­abled Mondi to lift its re­turn on cap­i­tal em­ployed from 13.6% in 2012 to 19.7% in 2017.

In the past five fi­nan­cial years alone Mondi has pumped €2.6bn into capex, and €1.4bn€1.6bn more is ear­marked to be spent in 2018 and 2019.

“Our as­sets give us a clear cost ad­van­tage and a plat­form for strong fu­ture growth,” Mondi CEO Peter Oswald said at a re­cent pre­sen­ta­tion.

Mondi finds it­self in a strong po­si­tion to ben­e­fit from what ap­pears, fi­nally, to be a sus­tain­able mar­ket re­vival, par­tic­u­larly in its key Euro­pean mar­kets. Based on the lo­ca­tion of cus­tomers, West­ern Europe ac­counted for 38% of rev­enue in Mondi’s past year, East­ern Europe for 22% and Rus­sia for 10%. North Amer­ica ac­counted for 11% of group rev­enue and SA, where Mondi orig­i­nated, for only 9% of rev­enue.

Things are go­ing very much Mondi’s way in Europe. The EU’s GDP grew by 2.4% in 2017 — its strong­est show­ing since 2007 — and the Euro­pean Com­mis­sion pre­dicts that it will grow by 2.3% in 2018 and 2% in 2019.

Con­sumer con­fi­dence in the EU has also moved ahead strongly of late and in the first five months of 2018 has been at lev­els not seen since 2007.

The eco­nomic re­vival and stronger de­mand in Europe has pro­vided Mondi and other sec­tor mem­bers with some­thing they have lacked for many years: pric­ing power.

In its re­sults re­lease for the first quar­ter of 2018 Mondi noted: “The strong pric­ing envi-

Mondi’s suc­cess has been built on a clear strat­egy: to shift away from com­modi­tised goods and fo­cus on high-end prod­ucts

ron­ment con­tin­ues in a num­ber of our key prod­uct seg­ments.”

It was clearly ev­i­dent in pack­ag­ing pa­per, a seg­ment which in 2017 ac­counted for a third of Mondi’s rev­enue and 47% of its €1.02 op­er­at­ing profit. In Mondi’s first 2018 quar­ter the pack­ag­ing pa­per seg­ment’s op­er­at­ing profit came in 21% up year on year.

It helped lift group EPS 15%, well ahead of the to­tal 8% rise recorded in 2017.

The con­sen­sus fore­cast of 17 an­a­lysts pro­vided by Mondi is for its EPS to rise by 11.7% for the full year. The high­est fore­cast is for a 17.7% rise.

The con­sen­sus puts Mondi on a not-too-de­mand­ing for­ward p:e of 14.2.

While Mondi has been forg­ing ahead, Nam­pak has since 2015 been bat­tling a se­ries of crises that have played havoc with its prof­itabil­ity.

Some of Nam­pak’s prob­lems have not been of its own mak­ing. Oth­ers tell a story of poor cap­i­tal al­lo­ca­tion, not least

the ex­pan­sion of its glass bot­tle op­er­a­tion, which turned in a R55m trad­ing loss on rev­enue of R720m in Nam­pak’s six months to March.

Nam­pak’s glass woes be­gan in Oc­to­ber 2014, when it com­mis­sioned its third glass fur­nace. Built at a cost of R1.26bn, it proved to be a tech­ni­cal chal­lenge Nam­pak could not han­dle. “Skills avail­abil­ity in SA is a ma­jor prob­lem,” says An­dré de Ruyter, who has been Nam­pak CEO since April 2014.

“We also lost the tech­ni­cal sup­port of our Ger­man part­ner [Wie­gand-Glas] in 2012.” Nam­pak bought out Wie­gand-Glas’s 50% stake in its glass op­er­a­tion in 2012 for R935m.

Nam­pak has fi­nally ca­pit­u­lated on glass, a prod­uct it had al­ways viewed as a core part of its busi­ness — so core that in 2015 it re­vealed plans to build glass fac­to­ries in Nige­ria, Ethiopia and An­gola.

“We have not yet started the sales process of our glass di­vi­sion but have al­ready had nine se­ri­ous ex­pres­sions of in­ter­est,” says De Ruyter.

But the glass di­vi­sion has been a mi­nor ir­ri­ta­tion for Nam­pak com­pared with the huge dis­rup­tion caused by the col­lapse of the oil price in 2015.

It sparked se­ri­ous for­eign ex­change short­ages in what are by far Nam­pak’s big­gest nonSA mar­kets, An­gola and Nige­ria. Un­able to repa­tri­ate funds from the two coun­tries, Nam­pak was left high and dry. While the sit­u­a­tion in Nige­ria has largely been re­solved, An­gola is still im­pos­ing dra­co­nian for­eign ex­change rules. And adding to Nam­pak’s woes is a dire for­eign ex­change short­age in Zim­babwe.

Nam­pak does not pro­vide pre­cise fig­ures, but it is clear that An­gola is by far its big­gest money spin­ner. Over­all, Nam­pak’s non-SA African op­er­a­tions lifted trad­ing profit 27% in Nam­pak’s year to Septem­ber and con­trib­uted 64% of trad­ing profit of R2bn. This con­tri­bu­tion was up from just 15% in 2011, when Nam­pak com­mis­sioned its An­golan bev­er­age can plant.

Nam­pak’s prob­lem in get­ting ac­cess to its cash is wors­en­ing. Cash tied up in An­gola stood at R2.78bn at the end of March, up from R2.19bn in Septem­ber. Cash in Zim­babwe rose from R654m to R816m. The cash build-up is driven by prof­its, says De Ruyter.

Nam­pak is also fac­ing a prob­lem of an­other type: the end of tax hol­i­days in Nige­ria and An­gola. Nam­pak’s tax hol­i­day in Nige­ria ended on De­cem­ber 31, with tax in the first year kick­ing in at twice the nor­mal 30% cor­po­rate rate. It is not a com­plete dis­as­ter, how­ever. De Ruyter says Nam­pak can write off five years of wear-and-tear al­lowances and cur­rency de­val­u­a­tion losses.

In An­gola the tax hol­i­day ends at the end of April 2019, when tax will kick in at the nor­mal 30%. It could mean a big chunk of prof­its go­ing to An­golan tax au­thor­i­ties.

The mar­ket is look­ing to a sub­stan­tial re­cov­ery in Nam­pak’s prof­itabil­ity, for which there is cer­tainly huge scope. A dis­mal 2.5% re­turn on equity and head­line EPS (HEPS) which are less than a quar­ter of their 2013 level re­flects this.

But with Nam­pak, trad­ing on a strato­spheric 43 p:e, any re­cov­ery ap­pears fully dis­counted.

For in­vestors look­ing to back a pack­ag­ing-sec­tor re­cov­ery sit­u­a­tion, Mpact, on a more mod­est 15.4 p:e, would ap­pear to be a sounder bet. Though still fac­ing dif­fi­cul­ties, there is a lot of room for re­cov­ery from Mpact, which in its two years to De­cem­ber 2017 recorded a drop in HEPS of 55%. It was a ma­jor re­ver­sal of for­tunes for the pa­per-and­plas­tics pack­ag­ing group, which in its three years to De­cem­ber 2015 had al­most dou­bled HEPS. The com­pany was un­bun­dled by Mondi in July 2011.

Nu­mer­ous nega­tive fac­tors were at work in the past two years, in­clud­ing big and on­go­ing startup losses in a new PET plas­tics scrap re­cy­cling plant.

But the most se­ri­ous prob­lem, one largely be­yond man­age­ment’s con­trol, was a rapid rise in the price of old con­tainer car­tons (OCC) scrap, of which Mpact con­sumes more than 660,000t a year.

OCC is the key source of raw ma­te­rial for Mpact’s con­tainer board di­vi­sion, which ac­counts for about 85% of group trad­ing profit. OCC makes up about half of the group’s to­tal vari­able costs.

The global OCC mar­ket has faced huge un­cer­tainty, cre­ated by China’s de­ter­mi­na­tion to crack down on the im­port of con­tam­i­nated OCC. The mar­ket’s first re­ac­tion was to send the price of clean OCC soar­ing.

In late 2017 China’s pol­icy took an­other turn, when it shifted to the use of im­port per­mits favour­ing large pa­per in­dus­try play­ers.

“It has re­sulted in the clo­sure of be­tween 400 and 600 smaller pa­per plants,” says Mpact CEO Bruce Strong.

China’s move has thrown the OCC mar­ket into a sur­plus po­si­tion. It is a good de­vel­op­ment for Mpact, which should ben­e­fit in the lat­ter part of 2018 and in 2019, says Strong.

But there is an­other risk in the short term. It comes from the drought in the West­ern Cape which has dev­as­tated fruit crops.

“The sec­tor ac­counts for a third of our plas­tics di­vi­sion’s busi­ness,” says Strong.

Mpact holds the prom­ise of a strong re­cov­ery. But as with Nam­pak, there are still risks and un­cer­tain­ties. For the in­vestor want­ing pack­ag­ing ex­po­sure with a high de­gree of cer­tainty, Mondi has to be the stand­out choice.


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