Graphic Packaging: Kicking Into A Higher Gear (NYSE:GPK)

The Quarter:

Graphic Packaging (GPK) reported another excellent quarter for Q4 2021 this morning. The conference call was structured more like a townhall meeting with management going into serious depth and breadth about the entire business now that the AR Packaging deal has closed.

The basics of the quarter were adjusted EPS of $0.31/share versus $0.29 thanks to $1.99 billion of sales versus $1.91 billion, which included organic sales growth of 2%. As you can see from the image below, cost inflation continues to weigh on EBITDA margins, but pricing is starting to catch up with it and volume/mix improvements plus other cost improvements are helping overwhelm it.

source company Q4 Presentation

We see similar numbers for the entire year 2021 although the price increases really didn’t start until Q3 so there is a lagging effect versus cost inflation. I discussed this issue in depth in my Q3 write up of the company.

source company Q4 Presentation

2022 Guidance:

While the fourth quarter was important, guidance for 2022 is far more impactful especially given the closing of the AR Packaging deal in Q4, a transformative acquisition for the company, and the opening of the new Kalamazoo, Michigan paperboard plant. The guidance numbers put my estimates of $1.525 billion of EBITDA and $690 million of free cash flow that I used in my last write up square in the middle of the range.

source company Q4 Presentation

I believe the company is conservative here and will hit the upside of these numbers if not exceed them as it assumes little benefit from volume mix and a pretty small net benefit from Kalamazoo.

source company Q4 Presentation

The company will see a nice spike in earnings thanks to this EBITDA growth, particularly when excluding the amortization resulting from purchase accounting impacts of the AR Packaging deal.

source company Q4 Presentation

Inflationary Impacts:

The company is always very good about laying out their inflation impacts and projecting the benefits of pricing they have already taken while excluding pricing they might take. As I mentioned above, price increases made in mid-2021 as inflation really started kicking in are finally starting to catch up with and can now exceed inflationary cost pressures.

source company Q4 Presentation

Valuation:

I think the company is being too conservative on its numbers given margin opportunities here. I’m going to leave revenue alone, but bump up my EBITDA and cash flow estimates for 2022 and use the top end of company guidance. Please note the company has guided that cash taxes are lower than GAAP tax expense. Also note there is a slightly higher share count than my last write up and company guided debt is higher than I last used.

source author estimates based on company projections and conference call Q&A commentary

Valuation:

source Author estimates based company projections and conference call Q&A commentary.

I will also add that the company updated its Vision 2025 of where it expects to be in three years. It implies over $2 billion of EBITDA which would mean well over $1 billion of free cash flow and EPS excluding amortization of $3.25/share.

Risks:

Those of you who follow this company carefully will remember when the stock dropped in December when a swedish company BillerudKorsnäs (OTC:BLRDF) announced a deal to acquire Verso (VRS). The concern was capacity additions would hurt pricing in paperboard. I wrote that I believed that drop was an overreaction then and I still believe it now. That said, pricing and capacity can always be issues.

Inflationary cost pressures continuing or even growing is another risk.

Conclusion:

Valuations have come down across the industry so GPK no longer sports a major discount from International Paper (IP), Clearwater (CLW), or Westrock (WRK). That said, none of those companies has the benefits of AR Packaging and a massive new plant like Kalamazoo at their back either. On an absolute basis, however, I think a company that is going to grow earnings ~90% this year, and is projecting to grow earnings at 25-30% rates for the next several years after that, shouldn’t be trading at 9-10x EPS, it’s too cheap. I am upping my target to $30 implying 15x EPS and ~50% upside.