Bemis Company, Inc. (BMS) is a global manufacturer of packaging products and pressure sensitive materials. The company derives nearly 65% of their revenues from customers in the food industry. It also conducts business operations in consumer products, medical and pharmaceutical
1. Low long-term profitability
The industry that BMS operates in is highly competitive due to low switching costs and low entry barriers.
Due to the commoditized nature of the products in the industry, customers are often able to switch from one supplier to the other rather easily. Moreover, low switching costs also lower entry barriers as new entrants require lesser marketing expenses.
Besides that, low entry barriers also arise from the fact that knowledge for production of packaging is so widespread that many new entrants can acquire them easily and at a low cost. High plant, property and equipment costs may have kept some new entrants at bay, but with a wide array of financing programs from banks and the government now easily available, costs of starting a small factory operation have greatly been lowered - especially so in today's low interest rate environment.
This economics is reflected very clearly in BMS's low long-term net margins
03 to 07
08 to 12
Ave. Net margin
There are, however, companies, which keep their margins low on purpose.
Packaging is a major cost component to all consumer products. Packaging costs can be further split into 2 portions: Designing and manufacturing. Companies are often inclined to spend more money on designing as it assists them in their differentiation efforts; while trying to keep manufacturing costs as low as possible.
Therefore, based on this premise, a winner in the packaging manufacturing industry will have to be the one with the lowest cost and thereby be one of those that offer the cheapest packaging services in the industry. A company that accomplishes this would see very high asset turnovers. Furthermore, being one of the cheapest providers comes with switching costs as a bonus. Most of the buyers of packaging have razor like margins and henceforth will find it difficult to switch to other more expensive suppliers as they would risk eroding whatever margins they are left with.
However, BMS fails this test judging from its low and decreasing asset turnovers of which can be seen in the table below.
03 to 07
08 to 12
Ave. Asset Turnover
Below lists a few trends that further caps the profitability of the company:
a. Pricing pressures
Brands and retailers have always been reining in on costs due their low margin, high turnover nature. This is exacerbated by the slowdown in the global economy in recent years. This problem is further compounded by: the highly fragmented industry that BMS is in which gives them very little bargaining power; consolidation in its buyer's industries; and the move towards central purchasing by packaging buyers.
b. Increasing costs
BMS mainly depend on plastic resins as raw materials, which is derived from oil. Henceforth, as oil prices climb over the years, costs of these resins have risen together with it as well. As oil prices are expected to continually increase in the long term due to increasing demand and decreasing supply, it can be expected that prices for these resins will continue to escalate. This is especially negative for BMS as resin costs are their main costs contributors, further squeezing their already very low margins.
Natural gas prices have lowered in the recent years due to the large stock pile in the US. This serves as good news for BMS as cheaper natural gas based plastic resins can help lower its costs. In fact, this can result in a cost advantage for BMS against its international competitors. However, I believe that this cost advantage would be short lived as natural gas prices would increase once the US starts exporting natural gas to other parts of the world, and when vehicles and power generators substitutes coal and petrol for the cleaner natural gas hits a critical threshold.
2. Low long-term business volume growth
Due to the low entry barriers of the industry, there will often be many new competitors coming in to compete for business, especially when there is a huge growth in demand for packaging products. Also, new competitors often bring with them better products or more efficient manufacturing methods. This, coupled with the thousands of competitors currently in the industry trying to come up with better products on a daily basis, creates a very competitive industry that may have a huge growth in overall demand, but when shared among the thousands of competitors locally and globally, leaves very little growth for each.
As such, the only 2 ways to expand market share is through increasing the aggressiveness in marketing, as well as acquisitions. More aggressive marketing eats into the margins while acquisitions have to be continuous in order to sustain a satisfactory business volume growth. However, if there is one year when the company lacks funding or credit, and is unable to carry on its acquisition strategy, growth will stall and greatly affect the stock price. A scenario that is highly possible for BMS due to its low margins and highly leveraged balance sheet.
Despite that said, there are certain trends, which help buoy BMS's business volume growth
a. Increasing use of packaging
There has been increasing demand for plastic packaging due to a few macro trends.
Demand for "on the go" food products: The shift from grocery stores to Wal-Mart (WMT), convenience or specialty stores for food purchases have increased demand for more on-the-go and smaller individual-portion food products which require a lot more packaging. Additionally, higher demand for packaging is expected as online grocery shopping usurps more customers from traditional grocery shopping.
Reduction of labor costs: There has been a shift to case ready packaging by grocery retailers to cut down labor costs.
b. Emerging market growth
At the end of the day, it is not how much plastic packaging is consumed that is vital to packaging manufacturers, it is how fast plastic packaging consumption is growing that is important. The faster plastic packaging consumption grows, the faster revenue and net earnings will grow. With the growth of plastic packaging strongly tied to the growth of the economy, the growth rate of BMS and its peers will ultimately depend on the growth rate of the GDP of the country they are operating in. Therefore, it is very important for these companies to position themselves in high growth/emerging markets. Moreover, the higher demand for food safety coupled with increasing food regulations raises the need for better packaged perishable products as these emerging markets modernize.
BMS has claimed that they are now the largest flexible packaging manufacturer in Latin America and a growing presence in Asia. Most recently, BMS has acquired a film platform in Foshan, China to lower costs and expand their operations in China.
c. Improving business momentum in healthcare packaging
BMS has a strong market position in medical device packaging and has been growing the business in Latin America and Asia. As medical device manufacturers usually have larger margins, BMS can afford to push for higher prices for their medical packaging products.
Although the trends listed above may seem advantageous to BMS, I believe the help they give to BMS's business volume growth is highly limited due to the low switching costs and entry barriers of the industry as explained above.
Also, even with rapidly increasing wages, China (and now South East Asia) still proves to be a critical threat for BMS. China has recently emerged as a growing exporter of disposable foodservice products to the US due to its lower labor cost. Additionally, many Chinese food packaging companies have been promoting environment-friendly packaging products and have begun to incorporate degradable plastic packages and tableware into its product development plans. The imports of cheap and environment-friendly packaging from Chinese food packaging companies can severely threaten the safety of BMS's revenues.
Now, let us take a look at the company's financials.
03 to 07
08 to 12
Ave. Return on capital
Ave. Net margin
Ave. Asset Turnover
Ave. Debt to Equity
Annualized earnings growth
As can be seen from the table above, return, margins and turnovers have fallen across the 2 periods while debt levels have increased. This is a sign of a company facing problems in its business.
Net margins have fallen due to the pricing pressures and increasing costs of the raw materials while asset turnovers have fallen as a result of the increasingly competitive industry plagued with low switching costs and entry barriers.
Although earnings growth has risen in the 2 periods, it is expected for it to remain low due to the economics of the industry as described above.
Low long-term profitability
Increasing pricing pressure
Low business volume growth
Increasing costs of raw materials
Not the cheapest provider
Based on the summary table above, BMS would not be a good long-term investment.