Sealed Air: Sealing Another Deal, No Appeal

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About: Sealed Air Corporation (SEE)
by: The Value Investor
Summary

Sealed Air has seen a softer start to 2019 and has announced a bolt-on deal.

Valuation looks reasonable, yet the company still has something to prove while leverage is above average.

With shares being flat in the two years following the Diversey sale, I am still not compelled to buy shares at current levels.

I last looked at Sealed Air (SEE) about two years ago as the company sold Diversey at (in my eyes) disappointing terms. Dilution incurred in the deal, given the reduced earnings power and the large tax and transaction costs incurred, meant that I was not impressed with capital allocation moves made by management.

As it has been a while, and the company has announced an acquisition again, marking another important capital allocation decision, it is time to review the thesis. The initial cautious thesis appears to have been right as shares are down a few dollars, which is disappointing enough on a two-year time frame.

What Happened?

My caution on Sealed Air was driven by the sale of Diversey in early 2017 with after-tax proceeds "only" amounting to $2.5 billion. Following that deal, the company was left with just a $4.2 billion food care and product segment as I saw proforma earnings power left around $2.00-2.50 per share, while the company would still operate with quite some debt on its books.

Note that, in February of this year, the company reported 2018 results, with revenues up 6% to $4.7 billion as a result of organic growth and some small M&A, as well. The company reported an adjusted earnings number of $2.50 per share, which was fairly in line with the $2.00-2.50 per share run rate, which I noted in 2017 as these are adjusted earnings, of course, and we have seen two years pass by.

The reconciliation between reported and adjusted earnings looks reasonably balanced, including M&A-related charges, settlement charges, and currency moves. The $48 million restructuring charge excluded works down to $0.30 per share on pre-tax earnings, as these charges often involve cash and show up quite frequently. Net debt by the end of the year amounted to $3.2 billion. With adjusted EBITDA for the year coming in at $890 million, leverage ratios remain quite elevated at 3.6 times, although manageable, given the stability and modest growth of the business.

Trading currently at $43 per share, shares trade at a fair market multiple at around 17 times earnings. Alongside the fourth quarter earnings release in February, the company outlined a fair guidance for 2019, calling for reported sales to rise by 2%, yet to be up 5% in constant currency terms. EBITDA is expected to rise to $925-945 million, with adjusted earnings seen at $2.65-2.75 per share, reducing the current forward earnings multiple down to 16 times.

Disappointing Start

On the first day of May, the company had some surprising news in store for investors. For starters, the first quarter earnings were not as strong, with reported sales down 2%, while they were up 3% if we adjusted for currency moves. The company did reiterate the full year outlook, yet it seems evident that risks to the guidance are up in this environment. Furthermore, net debt rose a bit to $3.3 billion. With 155 million shares trading around $45 around the time of the earnings announcement, Sealed Air was valued at $10.3 billion on an enterprise basis, at about 2.1 times sales and 11 times EBITDA.

At the same time, the company announced the $510 million purchase of Automated Packaging Systems, a deal valued at about 5% of Sealed Air's own valuation, marking a true, bolt-on deal.

APS is a manufacturer of automated bagging systems, known from its Autobag bagging machines, as well as recycled film solutions. The Ohio-based company is active across the globe and employs more than 1,200 workers. The company generated sales of $290 million last year, up 10% year over year. Based on the purchase price, the company is valued at just 1.8 times sales, while it showed quicker growth last year than Sealed Air.

Sealed Air likes the innovative solutions as well as engineering, automation, and sustainability expertise, yet unfortunately, no EBITDA contribution has been announced, other than that accretion to adjusted EBITDA seen in 2019's guidance. This, however, only implies that EBITDA is seen positive as some unidentified costs synergies are seen from supply chain efficiencies. I must say that growing at a modest sales multiple in e-commerce and fulfillment really does not sound like a bad idea, if you ask me.

Assuming no contribution to adjusted EBITDA, net debt will jump to $3.8 billion as a zero EBITDA contribution implies a 4.0 times leverage ratio. No earnings per share guidance has been given, unfortunately, as the lack of disclosure on this item suggests some dilution might be expected. It was clear that management was dodging questions on the call, giving an update on the Q2 release, which is really a weak hand, if you ask me.

Still Not Terribly Upbeat

Seeing relatively flattish reported growth and modest organic growth, while jacking up leverage ratios again and not being very transparent regarding the latest M&A deal, I find it very easy to operate with some caution. Shares trade at a market multiple, which seems fair for a business growing in line with the economy as the company has taken on quite some debt (again), which means that I see no compelling reasons to chase shares at this point in time.

I will look forward to learn more about APS later this year, but for now, operate with a cautious to neutral stance.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.