Amcor: Shareholder Friendly But Overvalued
Summary
- A company with a market-leading position in a major industry that likes to pay a high dividend and buy back shares.
- But they have below-average capital allocation skills if we look at the 5-year average annual ROC.
- Their game plan could still lead to a really nice return for their shareholders because it is a proven one.
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Thesis
Amcor plc (NYSE:AMCR), one of the Dividend Aristocrats, could be an interesting long-term holding. They are a shareholder-friendly company that is a market leader in a popular industry. But they are at a premium to some of their peers and unfortunately, they are not allocating capital efficiently. At the current price, the probability of outperforming the S&P 500 over 5 years in terms of total return is lower than the probability of underperforming.
Short Introduction
Amcor is a global leader in the development and manufacture of responsible packaging. The business consists of the 4 divisions: Flexible Packaging, Rigid Packaging, Specialty Cartoons and Closures. In the year 2022 the sales spread out as follow:
- Flexible Packing: 68%
- Rigid Packaging: 23%
- Specialty Cartoons: 7%
- Closures: 3%
They are the world leader in flexible packaging and dominate rigid packaging in the Americas.
Investor Presentation
Sales by region are as follows:
- NA: 48%
- WE: 22%
- EM: 27%
- Australia / NZ: 3%
With the re-opening of China, there should be an improvement in sales in this region.
Analysis
Investor Presentation Amcor
The chart above shows the roadmap for creating shareholder value. In particular, the projected EPS growth of 5-10% per annum will be important for the analysis ahead, so please bear this in mind. If the projections prove correct, total annual shareholder value will be 10-15%. This would be a really nice long-term return and would put Amcor in a leading position, probably outperforming the S&P 500. The question now is: Is this a realistic forecast?
Investor Presentation
The forecasted EPS CAGR of 9% combined with a dividend yield of 4% would result in a CAGR of ~14%.
Reverse DCF
Author 
The basis for the reverse DCF is the TTM diluted EPS of 0.71 and the TTM GAAP P/E of 15.70, adjusted to 16. The discount rate is 10% as this is likely to be the long-term average annual return of the S&P 500.
We remember that they were forecasting EPS growth in the range of 5-10% per year. The reverse DCF result now shows that a CAGR of 11% over 10 years is currently priced in. This could lead to the assumption that Amcor stock is overvalued if the forecasts in the investor presentation prove to be correct. The TTM GAAP P/E is also about 20% higher than the sector median P/E of 13, which further supports the potential overvaluation.
Capital Allocation
In August 2022, they authorized a $400 million share repurchase program, and by the end of December 2022, they had repurchased 3 million shares. In February 2023, they authorized a further $100 million, bringing the total share repurchase in 2023 to a potential $500 million. According to their recent investor presentation, they have repurchased 8% of their shares over the last 3 years. The $500 million share repurchase program also represents ~3% of the current market cap of $16 billion. They also spend $100 million annually on R&D and have made more than 30 acquisitions since 2010. So they're really trying to spend to grow for the future.
The problem is this: The annual return on capital over a 5-year period is ~7%. This is not very efficient and really needs to be improved. Coupled with an expensive EV/EBIT of 15.34, this leads to the conclusion that you have an expensive company that does not allocate capital efficiently. Annual ROE over the same period looks better at ~17%, but I like that metric to be in the 20%+ range to be comfortable. And as we will see in the next chapter, they operate with more leverage than their peers, and usually more leverage improves ROE. But some of their peers have similar ROE with less leverage.
Peer comparison
Seeking Alpha Peers Tab
If we look at gross margins, Amcor is the second worst in this peer group. In terms of EBIT margin, they improved a little bit to the third worst position. But they still have room to improve on that metric. On the one hand, it is not optimal that they currently lack this metric, but on the other hand, they have room to improve and are willing to spend money to do so. As they said in their last investor presentation, they are spending some money to improve.
Seeking Alpha Peers Tab
In terms of total cash, Amcor is in the best position, but if we take debt into account, we see that they are in the worst position. They have too much debt compared to their peers when we look at long term debt / total capital or Total Debt to Equity. Higher leverage means higher risk. Avery Dennison (AVY) and Packaging Corporation of America (PKG) achieve even higher ROE without using as much leverage. The other 3 companies, International Paper (IP), Smurfit Kappa (OTCPK:SMFKY) and WestRock (WRK), are slightly worse in terms of ROE.
Conclusion
The priced in EPS growth rate exceeds management's forecast. This reduces the probability of achieving the targeted 10-14% annual total return. At this point, the price you pay matters. A lower entry price could still produce the desired return. But for me personally, Amcor is not an investment I would make at this time, I do not like the low return on capital and I do not like the EV/EBIT multiple you are paying.
They are a good company with a strong position in their market, but I am looking for investments that are undervalued and can invest capital with a return rate in the 20% range. And they are neither good capital allocators nor cheap. Nevertheless, they have the potential to deliver strong returns in the future by following a popular playbook for shareholder-friendly companies. High single-digit EPS growth, along with high dividends and share buybacks, has made many shareholders rich over the past decade at other companies that followed this playbook.
This article was written by
Analyst’s 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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