Glatfelter: The Restructuring Process Is Completed

Mar. 08, 2022 10:54 AM ETGlatfelter Corporation (GLT)8 Comments4 Likes
Carles Diaz Caron profile picture
Carles Diaz Caron
775 Followers

Summary

  • The company has restructured its business in order to focus on growth markets.
  • This has caused an increase in the company's debt level.
  • Inflationary pressures, albeit temporary, are severely damaging the company's margins.
  • The company must focus on reducing its debt level once inflation stabilizes.
  • The current 4.22% dividend yield on cost represents a good entry point for long-term dividend investors.

Textil rollo

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Investment thesis

Glatfelter Corporation (NYSE:GLT) is in a very delicate moment. After the divestment of the Specialty Papers business in 2018 in order to focus on growth markets with more operating predictability, and a subsequent gradual (yet slow) reduction of debt until 2020, the company has carried out two major acquisitions in 2021 that have triggered debt to very high levels.

With the acquisition of Jacob Holm, Glatfelter added a new segment to its operations: Spunlace. The problem is that, due to the increase in the price of energy and raw materials, the results of the new segment have been lower than expected during the fourth quarter of 2021 as they lowered earnings by $0.02 per share. Also, the new segment is experiencing production delays as a result of shortages of key materials.

Investors are very cautious about this move by the management because current inflationary pressures are greatly reducing the company's ability to generate cash despite the recent increase in the price of its products, causing a 59.51% decline in the price of shares from all-time highs of $31.66 on February 11, 2014. Still, I see this as a good opportunity to buy shares at depressed prices because the company has historically demonstrated its ability to generate positive cash from operations year after year and currently has enough cash on hand to withstand current headwinds, which are temporary and do not affect the long-term viability of the company.

A brief overview of the company

Glatfelter Corporation is a global supplier of engineered materials for consumer and industrial applications, including tea and single-serve coffee filtration, personal hygiene, packaging, home improvement, and building, medical, and industrial applications, among others. The company was founded in 1864 and its market cap currently stands at ~$600 million, employing over 3,200 workers worldwide.

Top Glatfelter Product Solutions

Top Glatfelter Product Solutions (Glatfelter)

The company's operations are divided into three main business segments: Composite Fibers, Airlaid Materials, and Spunlace. In the Composite Fibers segment, the company manufactures specialty long fibers to create premium value-added products for a wide range of uses, including single-serve filtration materials for the food and beverage industry, wallcover base materials for wallpaper manufacturers, and specialty engineered products with commercial and industrial applications for electrical energy storage, home, hygiene, and others. This segment also manufactures decorative composite laminates for furniture and household and commercial flooring, and metalized products for labels, packaging liners, gift wrap, and others.

In the Airlaid Materials segment, the company manufactures highly absorbent and engineered cellulose-based airlaid nonwoven materials for the manufacturing process of hygiene products, specialty wipes, tabletop, home care products, adult incontinence products, and others.

Finally, in the Spunlace segment, which was acquired in 2021, the company manufactures premium quality spunlace nonwovens for critical cleaning, high-performance materials, personal care, surface disinfecting wipes, hygiene, beauty care, and medical applications.

Glatfelter price chart
Data by YCharts

Currently, shares are trading at $12.82, which represents a 59.51% decline from all-time highs of $31.66 on February 11, 2014. As we can see, the share price has experienced a very sharp drop since 2014 due to the difficulty the company has had in covering CAPEX expenses, after meeting dividend and interest expenses, due to the low predictability of its operations, and because its Specialty Papers segment reported declining revenues and consumed high CAPEX. To understand the current situation of the company, first of all, it is important to see the evolution of its restructuring aimed at segments with higher growth prospects.

Recent acquisitions and divestitures

First, in April 2013, the company acquired Dresden Papier GmbH, a German leading supplier of non-woven wall covering products, for $211 million. Dresden generated $150.0 million of revenues in 2014 and $97.7 million in 2013, and therefore, this acquisition was a boost to the company's sales.

In October 2014, the company acquired Spezialpapierfabrik Oberschmitten GmbH, a German-based manufacturer of highly technical papers for a wide range of capacitors used in consumer and industrial products; insulation papers for cables and transformers; and materials for industrial power inverters, electromagnetic current filters, and electric rail traction, for $8.0 million. Spezialpapierfabrik Oberschmitten also manufactures glassine products for cosmetics packaging, food packaging, and pharmaceutical dosage bags and generated $33 million in annual revenues.

The company finally divested its Specialty Papers business in 2018 after the segment reported weakening revenues since 2014, exiting thus the uncoated freesheet market, for $360 million. This divestment was part of the company's strategy to focus on higher-margin and stronger growth businesses, although it caused a huge impact on sales because they accounted for more than half of the company's total.

In October 2018, the company acquired Georgia-Pacific's European nonwovens business based in Steinfurt, Germany, which, manufactures high-quality airlaid products for the table-top, wipes, hygiene, food pad, and other nonwoven materials markets, for $188 million.

In May 2021, the company acquired Georgia-Pacific's U.S. nonwovens business, which manufactures airlaid nonwoven material used for the manufacturing process of tabletop, wipes, and other related products, for $175 million. Later in the same year, in October 2021, the company acquired Jacob Holm, a global leading manufacturer of spunlace nonwoven fabrics for critical cleaning, high-performance materials, personal care, hygiene, and medical applications, for ~$302 million. Jacob Holm was founded in 1794 and generated ~$400 million revenues and $45 million EBITDA in the trailing twelve months ended June 30, 2021, although these results will stabilize as the coronavirus pandemic ends as demand was higher due to measures to reduce the spread of the virus worldwide in 2020 and 2021. The acquired company added a new business segment to Glatfelter and added surgical drapes and gowns, wound care, face masks, facial wipes, and cosmetic masks to its portfolio of products.

Net sales are starting to take off as the restructuring process is complete

The sale of the Specialty Papers business in 2018 had a very significant impact on sales since it provided more than 50% of Glatfelter's revenues before the divestment. Since then, the company has steadily increased net sales year after year as it focused on markets with positive growth and more predictable operations. Also, the company dedicated a large part of its (scarce) resources to deleverage the balance sheet until 2020, so the time to see grow sales is now as it acquired a business segment with higher-growth prospects.

Glatfelter net sales

Glatfelter net sales (Glatfelter sales)

After the acquisition of Georgia-Pacific's U.S. nonwovens business in May 2021, the company reported a 13.29% increase year over year in the second quarter of 2021 and 19.78% in the third quarter. Then, the company acquired Jacob Holm in October 2021 and posted a revenue increase of 42.15% year over year during the fourth quarter thanks to the acquisition. Also, shipments of tabletop almost doubled year over year while sales of wipes increased by 74%. This has been achieved despite the fact that price increases of the company's products in 2021 have caused the most price-sensitive customers, especially for wallcover products, to change their buying habits.

Also, in cooperation with joint venture partner Alpla Group, the company recently partnered with Blue Ocean Closures, a Sweden-based startup, to manufacture fiber-based closures and other molded packaging products with better for the environment characteristics, which could boost the company's sales in Sweden.

Glatfelter PS ratio
Data by YCharts

The volatility of the company's operations in recent years has caused a lack of patience in investors despite the fact that the company has generated positive cash from operations year after year, and I believe this is because CAPEX has taken almost all of the cash left after covering interest and dividend expenses and investors did not know what management would do after the divestment of the Specialty Papers segment. Now, the uncertainty created by the debt acquired through the acquisition of Jacob Holms at a time when its profitability has been seriously affected by the increase in the prices of raw materials and energy and supply chain disruptions has caused a serious impact on the PS ratio, which currently stands at 0.531. This means the company makes $1.88 in net sales for each dollar held by investors annually. This ratio is well below the average of the last decade, which means that investors are not willing to pay as much for the company's sales as in the past due to current margin pressures and increased debt.

The company is well diversified geographically, although it has high exposure in Germany. In this regard, in 2021, only 23.52% of net sales were provided by operations within the United States, whereas 47.30% took place in Germany, 11.14% in Canada, 7.57% in the United Kingdom, and 10.47% in other countries.

Margins are under pressure

The company's margins have improved over the past decade, with which it has managed to maintain a good capacity to convert its sales into actual cash. Despite this, we are now witnessing a moment in which margins are deteriorating at a shocking rate, and this is causing serious concerns among investors due to the large use of debt that the company has just made to acquire Georgia-Pacific's U.S. nonwovens business and Jacob Holm.

Glatfelter gross profit margin and EBITDA margin
Data by YCharts

The company's margins have suffered in 2021 as a consequence of increases in the cost of logistics and energy, as well as raw materials such as pulp, synthetic fibers, chemicals, and packaging materials. For this reason, the company increased the price of products in the Composite Fiber segment by 8% in May and by 12% in September (the Airlaid materials segment was protected by contractual cost pass-through arrangements). Those increases seem not to have been enough as gross profit margins were just 9.44% during the fourth quarter of 2021 while EBITDA margin stood at a mere 1.56%, both well below trailing twelve months' performance. Also, these measures caused a slight decline in volumes as the most price-sensitive customers are changing their buying habits in order to control their spending.

We must bear in mind that these inflationary headwinds have not disappeared yet, so the company is currently facing a stress test. Furthermore, the current conflict between Russia and Ukraine is driving up the price of energy, which could impact margins in the coming months as the company has a very strong presence in Germany. To compensate for the increase in energy experienced in recent months, the company has applied an energy surcharge to the products of the three segments in November 2021 and is currently working on the implementation of a dynamic pricing model for the Composite Fibers segment, thus covering more than half of the company's sales with material and energy cost pass-through mechanisms.

Debt levels have increased significantly

The acquisitions of Georgia-Pacific's U.S. nonwovens business and Jacob Holm in 2021 have taken the debt to very high levels 2021. In this sense, long-term debt increased from $288 million in 2020 to $738 million in 2021 while cash and equivalents increased by $39 million to $138 million.

GLT total long term debt, cash and equivalents and net financial debts
Data by YCharts

This has more than tripled the company's interest expenses to $7.0 million during the fourth quarter of 2021, so the annual interest on the debt is currently around $28 million. Even so, I think the company's cash reserves of $138 million are enough to endure the current inflationary headwinds. Once profit margins stabilize, the company should be able to start paying down its debt pile as, after all, headwinds are temporary and it has historically demonstrated its capacity to generate cash steadily.

Dividends could be temporarily paused

The company has increased the dividend by 56% during the last decade. After the Specialty Papers segment in 2018, it stopped increasing its dividend, but it finally raised the quarterly dividend by 3.8% to $0.135 during the second quarter of 2020 and increased it again by 3.7% to $0.14 during the second quarter of 2021.

GLT dividend
Data by YCharts

Next, I am going to calculate the percentage of cash from operations that the company has historically used to cover its dividend and its interest expenses to calculate the current dividend safety. We must also bear in mind that the company is currently spending ~$30 million per year in CAPEX, an amount that is set to soar after the acquisition of Jacob Holm.

Year 2013 2014 2015 2016 2017 2018 2019 2020 2021
Cash from operations (in millions) $173.6 $99.6 $133.7 $20.7 $57.6 $341.1 $83.7 $107.4 $70.0
Dividends paid (in millions) $17.0 $18.7 $20.4 $21.6 $22.5 $22.8 $22.9 $23.5 $24.5
Interest expense (in millions) $18.0 $18.9 $17.5 $13.9 $13.3 $15.6 $10.4 $7.0 $12.4
Cash payout ratio 20% 38% 28% 171% 62% 11% 40% 28% 53%

Source: Seeking Alpha

Considering the current dividend expense of ~$25 million and interest expenses of ~$28 million, the company has enough resources to cover around two and a half years of expenses with cash on hand, but if we add CAPEX, it could be enough to cover around one year and a few months' expenses, and this entails a high risk for the dividend since it is the only expense that can be reduced without having a negative impact on the company's operations. For this reason, I believe that if the company does not generate enough cash to cover a significant part of its expenses while inflationary pressures relax, the dividend could be cut or even paused.

GLT dividend yield
Data by YCharts

But in the long term, I think this is a good opportunity to acquire shares for dividend investors as the current dividend yield on cost is very high at ~4.33%, which anticipates generous returns once operations stabilize as the payout ratio is relatively low. Looking at the short term, despite the fact that the company has applied increases to the prices of its products and energy surcharges in 2021, the management has already recognized that they will not be enough to mitigate the increase in the cost of raw materials and energy prices.

Looking ahead to the first quarter of 2022, higher selling prices are expected to be fully offset by raw materials and energy prices.

Samuel Hillard: Q4 2021 Results - Earnings Call.

That is why Glatfelter's current situation should be understood as a stress test, which will be overcome if the company manages to cover all its expenses through its operations and the cash on hand of $138 million until inflationary pressures stabilize. If the next quarters do not bring enough cash from operations to cover interest expenses and dividend payments, the viability of the dividend could be called into question, but a 4.33% yield on cost is very reasonable considering that the company will have ample room to increase the dividend once margins stabilize and the debt begins to decrease.

Risks worth mentioning

Due to the two major acquisitions carried out in 2021, the company's debt has increased very significantly, so it will now have to face $7 million in interest expenses each quarter. This is occurring at a time when inflationary pressures are wreaking havoc on the company's margins despite recent price increases as inflation keeps accelerating, so the company may have to use its own cash reserves to cover both the debt interest expense and the dividend payment until contractual cost pass-through arrangements take place.

Foreign exchange impacted operations by $1.2 million during the fourth quarter of 2021. This represents a new headwind that has only worsened in recent quarters as the Euro is devaluing at a dizzying pace and has already accumulated a fall of ~4% year to date. Also, current conflicts between Ukraine and Russia are causing disproportionate increases in the price of energy, something that will impact Glatfelter significantly as it has high exposure in Europe.

Finally, it is important to keep in mind that major acquisitions like Jacob Holm are never easy to integrate into a company as a whole. There is always the risk that the integration does not translate into the synergies that were expected, and that the results are not as expected. The important factor for the two acquisitions to be considered successful is that in the medium term they should manage to generate enough cash to at least cover the increase in interest expenses and CAPEX.

Conclusion

2021 is a year that has been characterized by high volatility in the company's operations due to the increase in the cost of raw materials and energy, and supply chain issues. It is true that the company has not been able to pass on the increased manufacturing cost to its customers completely, but as soon as cost pass-through mechanisms are implemented in the Composite Fibers segment, some of this volatility should be stabilized. Thanks to this, and as inflationary pressures stabilize, the company should return to generating positive cash from operations soon, especially now that the weakening Paper Specialty business has been divested.

I believe a 59.51% decline in the price of the stock represents a good opportunity to acquire shares for long-term dividend investors. We must bear in mind that Glatfelter has demonstrated its viability since 1864 and that the current headwinds are essentially temporary. The current dividend is in danger, but in the long term, a 4.33% yield on cost represents an ideal entry point, especially considering that the company should find plenty of room to raise it once interest expenses decline during the deleveraging process.

This article was written by

Carles Diaz Caron profile picture
775 Followers
Subscribe for an average ~25% return per year according to Tipranks. I am a long-term Dividend Growth Investor always looking for new opportunities in the stock market since 2015. In order to find good deals in the stock market, I look for companies that are going through a bad time and carefully assess the chances that the financial situation will return to the path of profitability and growth. My objective is to find stocks that can be bought and held for many years and try to get them for the lowest price possible during temporary headwinds. For me, the most important aspects when analyzing a stock's turnaround chances are that the company's products are essential to a big portion of the population, healthy and stable profit margins, a sustainable debt and dividend, and a long-term trend that suggests the products and services offered will continue to be essential for the decades to come.
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Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such 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.

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