2020 Q1 Industry Insights: Packaging
Upcoming Industry Events
AWA Global Release Liner Conference, February 27-28 (Presentation Available upon Request)
AIMCAL Executive Conference Webinar, April 9
Packaging M&A Webinar, May 18
International Sleeve Label Conference, November 2
PACKAGING M&A OVERVIEW
As of this writing, we are in the early stages of “lock down” as a result of the COVID-19 outbreak. While we cannot be certain of either the severity or duration of the impact, it is safe to say that no one in our Industry is immune to COVID-19’s effects. Anecdotally, within the last two weeks:
A client serving the retail market is adjusting its customer mix as the shift from brick-and-mortar to online shopping accelerates in the near term
An overseas client is deferring strategic acquisition plans until the impacts of the virus become clearer
A packager of household cleaners is enjoying record volumes and is now seeking to acquire capacity
A packaging equipment client is reassessing timing of capital needs following the postponement of an industry conference to 2021
Overall, Packaging should be less impacted than many other sectors of the market, as (i) it is largely a “local business” with relatively less cross-border or cross-region shipping and supply chain reliance, and (ii) large portions serve cycle-resistant markets such as food & beverage, healthcare, and personal care. Given this, we suspect that Packaging – and the transaction market behind that – will rebound quickly as the virus subsides. In the interim, we expect deal flow to slow substantially as uncertainty hinders decision making.
Please note that the following data is largely “pre-COVID-19” – the impact of the virus will largely be exhibited in data beginning in March 2020. Nevertheless, it can be used by Buyers and Sellers to understand underlying transaction dynamics for when the market returns.
Before the onset of COVID-19, Mazzone highlighted three key trends impacting Packaging companies’ performance and transaction prospects in 2020:
A benign raw material pricing environment is providing margin tail winds for many converters. Among plastic resins, most all packaging grades fell meaningfully in 2019, with many grades continuing this trend into Q1-2020. Paperboard and Linerboard inputs, while not witnessing the same level of decrease, generally enjoyed flat to slightly down pricing. A softening demand (COVID-19 impact) and decreased energy/freight prices (OPEC/Russia price war) could prolong this environment. Buyers are intensifying their due diligence to ensure that current margins are sustainable in the event of (a) a rebound in raw material costs, and (b) demands from customers to pass along these cost decreases.
The search for more sustainable packaging options has created uncertainty regarding the future of certain packaging formats, most notably single use plastics. This uncertainty was amplified in 2019 as state lawmakers introduced no less than 95 bills related to the regulation of plastic bags alone. The inconsistency of state and municipal regulation (and the ability to effectively enforce them) has added further confusion to the market. Investors are seeking to understand the full extent of the shift, so that they can identify the winners and losers among various packaging formats.
2019 saw continued high leverage among packaging companies. Among public packaging companies, Net Debt / EBITDA continued to inch up, reaching 3.7x versus its three-year average of 2.8x. Among Leveraged Finance Transactions (LBOs), average leverage exceeded 5.0x among all disclosed US transactions (not packaging-specific). This heightened level of leverage is manageable in an environment with both low interest rates and a growing economy. As the latter is now greatly at risk, highly levered companies may find themselves capital constrained and/or exceeding covenants as we enter Q2 and Q3 of 2020.
DEAL VOLUMES & PRICING
As the graph below illustrates, global transaction volumes among industrial companies entered a decline well before COVID-19. In the previous cycle, the prior deal volume peak (2007) fell by 30% in 2009 but rebounded in 2010, generally following changes in GDP. Our most recent industrial deal volume peak, however, was in 2015. Transaction volumes have since fallen in each year despite an overall growing economy (and before any COVID-19 impact). Packaging resisted from this trend. In fact, deal volumes have grown year over year including a 14% increase in deal volume from 2018 to 2019.
2020’s early volumes indicate that this may no longer be holding. Volumes for the first two months of 2020 are down 30% from 2019 – with this is largely pre-dating any impact from COVID-19. While we suspect that this gap may narrow as more data comes in, we believe that COVID-19 will reinforce this negative trend as we enter March and April. Nevertheless, we believe that Packaging deal volumes will suffer less than overall deal volumes given that Packaging is overall a more recession-resistant segment of industrials.
Pricing (as determined by transaction multiples) increased by a half turn of EBITDA over 2018’s levels, with median multiples of 9.1x EBITDA and 1.5x Revenue for 2019. Factors continuing to support high levels of pricing include accommodative leverage, a high level of interest from both financial and strategic buyers, ongoing consolidation in those segments of packaging which remain relatively fragmented, and the underlying attractiveness of an industry that consistently offers resilient margins and GDP+ growth. The sustained healthy pricing in this Seller’s Market may also have contributed to lower transaction volumes in early 2020, as buyers wait for more conducive deal metrics (a Buyer’s market).
DEAL VOLUME BY TARGET SIZE
There is a healthy market across the spectrum of company sizes, but the greatest activity remains among the smallest companies. Almost two-thirds of disclosed transactions were targets of less than $50 million in revenue, with the majority of these at or below $20 million. While certain sectors such as Glass and Cans have essentially consolidated, there remains tremendous consolidation activity among other sectors, with these smaller tuck-in deals common among paper-based, labels, flexibles, rigid plastics, machinery and distribution companies.
Our analysis indicates that for Pricing, size does matter. Smaller deals (target revenue under $100M) trade at a 1x discount to the overall median of 9.1x. Larger deals, those of targets with revenues above $100 million, trade at a 1x premium (10x+). This differentiation by deal size supports consolidation strategies, as Consolidators seek to arbitrage the multiple expansion to enhance investment returns.
BUYER & SELLER ANALYSIS
Private Equity investors, including both new buyouts and add-ons to existing platforms, accounted for 48% of 2019’s transactions, with Corporate Buyers accounting for 28% and Private Company buyers 24%. These splits are consistent with data from the last five years. We attribute the high participation rate for Private Equity Buyers to:
stable growth and profit margins providing a “defensive investment,”
availability of leverage,
relatively low capex compared to cash generation (particularly in private equity-favored sectors such as Flexibles), and
ability to leverage add-ons and arbitrage size multiples upon exit.
Among Sellers, Private Companies comprised 65% of all transactions, with Corporates and Private Equity splitting the remainder. Private Equity exits are largely to other sponsors, with these secondary transactions accounting for 58% of private equity exits.
As it regards Pricing, 2019 data runs counter to the orthodox view that industry incumbents are better placed to pay higher prices due to their ability to extract synergies from an acquisition. As compared to their corporate and private competitors, financial sponsors pay an additional turn+ of EBITDA, not only for add-ons but also for new platforms. We see this as evidence of their need to deploy capital in a strong seller’s market. The same pricing disparity between Private Equity and other parties exists when the exit their investments, i.e., while Private Equity buyers pay a premium, that same premium exists when they sell (often in secondary buyout to another private equity sponsor).
DEAL MOTIVATIONS
To better understand the drivers for transactions, we identify apparent motivation(s) of the Buyer in Packaging M&A, grouping them into four general categories. The most common motivation is Consolidating Market Share, followed by Product/Market Expansion and Geographic Expansion, and lastly, by Financial (which includes not only Private Equity Platforms, but also IPOs, private investor acquisitions, etc.). Please note that due to multiple potential motivations for a given transaction, the total exceeds the 270 transactions noted for 2019.
The highest valuations include those driven by Financial Motivations (as echoed in our Buyer Analysis for Private Equity acquisitions) and in Product/Market Expansions, which we interpret as the most compelling strategic transactions. Those sectors seeing the most consolidation activity are the Paper, Flexibles, Distribution, and Labels sectors.
SUMMARY
Overall, volume and valuations remained robust in the Packaging M&A space through the end of 2019. Furthermore, several transformative acquisitions have closed/are anticipated to close in 2020:
In Rigid Plastics, Clearlake’s secondary buyout of Pretium Packaging from Genstar Capital
In Flexible Paper, Hood Packaging’s acquisition of TC Transcontinental’s Paper & Woven Polypropylene Packaging operations
In Rigids + Flexibles, Liqui-Box Holdings (Olympus Partners) acquisition of DS Smith’s Plastics Division (as well as the acquisition of certain Rapak operations by TriMas as a regulatory condition of Olympus’ transaction)
In Folding Cartons, Graphic Packaging Holding’s pending acquisition of Greif’s Consumer Packaging Group
In Flexibles, Partner’s Group pending secondary buyout of Schur Flexibles from Lindsay Goldberg
In Rigid Plastics, Silgan’s pending acquisition of Albéa’s Dispensing Business from PAI Partners
In Other Rigids, the pending acquisition of Owens-Illinois Australian and New Zealand operations.
Through 2019 and into early 2020, we continued to see sustained interest in the packaging industry from both strategic and financial investors, as buyers seek to consolidate segments and diversify geographies, markets, and technologies. While the current environment is unsettled, we believe that the underlying trends in in the Packaging space will bring acquirers back to the market as soon as later this year.
