Shares in packaging firm DS Smith (SMDS) shot to the top of the FTSE 100 leader board in early trade on Monday 4 June after unveiling a bold agreement to buy peer Europac. The share price is currently more than 3% higher at 580p, the highest they’ve been in 30 years on the stock market.
You might not have heard of DS Smith but you will certainly know its customers, which include Amazon, ASOS (ASC:AIM) and Next (NXT). The company provides the corrugated cardboard packaging that protects the books, CDs, clothes and thousands of other products bought online.
Europac provides similar packaging materials mainly in Spain, Portugal and France.
This is a bold cash takeover worth a fraction more than €1.9bn, roughly equivalent to £1.67bn, which will involve DS Smith raising £1bn from its own shareholders via a rights issue. The rest of the outlay will be covered from borrowing facilities.
OLD FRIENDS
‘We have a long-standing relationship with Europac, which is a company we have long admired, given the quality of their assets, employees and customers,’ says Miles Roberts, chief executive of DS Smith.
His view is that the tie-up will strengthen DS Smith’s market position as a leading global supplier of sustainable packaging solutions, while also adding value to what it can offer customers in Western Europe.
Roberts sees this part of Europe as ‘a key packaging growth region,’ where there is clear indicators of rising demand for the sort of high-quality and sustainable packaging solutions the company provides.
STRIKING WHILE THE IRON IS HOT
‘On one hand, DS Smith is using its strong position in the market to mop up competitors, increase its position in certain geographies and further strengthen its global supply chain,’ says Russ Mould, investment director at AJ Bell.
Given today’s share price response there is clearly firm support among investors for the deal. Presumably, there will be cost savings to be had from operating synergies on top of any accelerated growth potential, although Shares has yet to see any updated forecasts.
That might be because takeover must be voted on by Europac’s own shareholders. But we would expect little issue there, especially since about 42% of the company is family-owned.
SLEW OF DEAL-MAKING
But the spate of packaging buyouts and mergers in recent months might give investors pause for thought. DS Smith has been as busy on the industry consolidation front as any, today’s agreement following last summer’s purchase of an 80% stake in US business Interstate for £642m, plus last month’s deal to buy corrugated packaging company CCC.
Add to that further M&A excitement stemming from recent interest in Smurfit Kappa (SKG), also a FTSE 100 company. It had caught the eye of US-based International Paper, although no deal has so far been agreed ahead of a 6 June deadline.
Sudden surges in takeovers often signal the euphoria of company management’s presuming the current good times will go on. DS Smith has been enjoying a prolonged spell of trading clover, with about five years of unbroken growth in revenue and pre-tax profits, give or take.
But it is not untypical for such optimism to get a sudden and sharp reality check. Based on current consensus earnings estimates of 30.8p per share for the year to 30 April 2019, DS Smith stock is now trading on a price to earnings multiple of 18.8-times.
That’s pretty racy by sector averages in the low teens, although there is decent income yield backing of about 3%.
Investors will be keeping their fingers crossed that DS Smith isn’t rushing to make deals without proper due diligence and consideration for how it will create value in the future.
