ASX Code: PGH
Security price: $4.99
Industry: Packaging
Forecast distribution: 21.5c per share
Pact Group is Australia’s leading manufacturer of rigid plastic packaging, operating out of 70 sites throughout Australia, New Zealand and Asia.
The majority (70 per cent) of Pact’s revenues are derived from packaging for fast-moving consumer goods such as chilled food, dairy and beverages and other household consumables.
The remaining 30 per cent of revenues are derived from industrial packaging and materials handling, which includes waste handling, construction and commercial printing. The above product categories typically display low, non-cyclical demand and grow in line with economic thematics such as population growth, GDP growth and inflation.
In Pact’s case, other key drivers of profitability include ANZ dairy production volumes, and plastic resin prices. As signalled in August, weakness in the NZ dairy market will likely translate to weaker NZ dairy packaging demand. Pact’s diverse product and customer mix will soften the impact of weaker dairy demand, particularly with a hot summer contributing to stronger consumption of chilled foods and dairy in the first half of FY16.
However, Pact’s key driver is its ability to execute on its consolidation strategy. Given the low-growth, defensive sector it operates in — Pact was originally part of the Pratt group — organic growth is slow and constrained.
One of the primary reasons for listing Pact was to pay down debt and free up the balance sheet for future acquisitions. Pact had clearly shown an ability to make synergistic, earnings-accretive acquisitions by buying smaller, lower-margin packaging companies, and stripping out costs to realise efficiency gains.
Through consolidation, Pact has already gained a superior scale position in ANZ, which it has leveraged to achieve higher margins relative to its peers.
Moreover, Pact’s higher profitability is sustainable, assuming it continues to focus on making smart acquisitions and improving efficiency. With an estimated $200 million balance sheet, Pact is likely to make further acquisitions in FY16.
Pact’s superior profitability translates well into strong cash flows which, means higher dividends. Pact’s forecast dividend yield of around 4.7 per cent compares well to domestic peers, particularly as it offers higher franking (65 per cent) than many of its peers. We view fair value for PGH as $4.72 in FY16 (against a current stock price of about $4.99) with value growing at 9-10 per cent per annum over the medium term.
Though Pact faces some short-term headwinds to production volumes due to a weaker NZ dairy market, it remains a well-run, highly cash generative and high-yielding company, with defensive and well diversified revenues. Assuming it continues its consolidation strategy in a disciplined and opportunistic manner, Pact’s emergence as one of Asia Pacific’s leading packaging companies should continue unabated.
Written by Damen Kloeckner, Associate Analyst