I’ve been keen on the FTSE 100‘s Smurfit Kappa (LSE: SKG) for some time. The company provides paper-based packaging solutions to 35 countries from 350 production sites. It’s a vast enterprise.
Why I think Smurfit Kappa is an FTSE 100 share to buy
Chief executive Tony Smurfit neatly summed up the reasons I like the business when he said in the report, that operations are “driven by strong secular trends such as e-commerce and sustainability, (and) the outlook for our industry is increasingly positive”. For example, I reckon the accelerating trends we’re seeing for e-retailing create ever-increasing demand for packaging. And Smurfit Kappa is one of the companies willing and able to meet that demand.
However, today’s full-year results report was somewhat underwhelming. 2020 revenue came in at €8,530, down 6% year on year. As well as the slide in revenue, pre-exceptional earnings per share dropped by 14%. The business did perform much better with cash. Free cash flow rose by 23% and the net-debt figure fell by 32% to €2,375m.
In one measure of the directors’ satisfaction with the outcome, they raised the final shareholder dividend for the year by 8%. I reckon directors’ decisions regarding dividends can be a good litmus test for the underlying health of most businesses. Smurfit Kappa has a good multi-year record of escalating the dividend by yearly increments. Meanwhile, steadily rising operating cash flow has provided decent support for those increases.
Tony Smurfit reckons 2020 was “the most challenging year in recent memory”. However, the company kept up its dividend payments throughout the year. On top of that, it repaid all the monies obtained from government support schemes related to the pandemic. And that kind of resilience through tough economic times is why I believe Smurfit Kappa’s business has cash-generating, defensive qualities. In contrast, many more cyclical businesses have struggled through the crisis.
Growth opportunities ahead
According to the report, there was “strong” demand in the fourth quarter from Europe and the Americas. And that offset “significantly higher” input costs. In fact, the company reported earnings before interest, tax, depreciation, and amortisation (EBITDA) of €1,510m for 2020, “ahead” of the directors’ previous expectations.
Last November, the firm completed a share placing raising a gross €660m. The aim is to use the money to “capitalise on structural drivers of growth; to invest in sustainability, and to increase our operating efficiencies”. Tony Smurfit said in today’s narrative the business is now well-positioned to take advantage of those opportunities, “from a position of enhanced financial strength”.
And I reckon the firm has every chance of succeeding with its growth ambitions because it has a long record of allocating capital investment. Indeed, the company has grown its business steadily for years.
With the share price near 3,628p, the forward-looking earnings multiple for 2021 is just below 17 and the anticipated dividend yield a little over 2.7%. That’s quite a rich valuation. One clear risk for shareholders is that the valuation may contract, especially if forward growth fails to arrive as expected.
