Solid growth and CF optionality at a discount; initiate as CL-Buy
* Source of opportunity
We initiate coverage of SKG with a Buy rating and add it to the Conviction List. SKG is a pure play integrated packaging company with 76% sales exposure to Europe, 24% to Americas and is active in M&A. A multi-year consolidation (and rerating) across the packaging industry started in 2012 and should continue to support higher FCF, returns and multiples. SKG lags key peers and the market on multiples which we think is unjustified given forecast growth in EPS and FCF/share. A healthier balance sheet gives scope for more M&A or shareholder returns. Potential M&A is not limited to bolt-ons in our view and we incorporate a 30% probability of M&A in our 12m target price.
* Catalyst
2Q15 results on July 29 (peers start reporting earlier; DS Smith, June 26). Other events that could drive the stock are: more M&A activity, downstream demand indications from global FMCG companies, movements in key raw materials prices (OCC) and container board pricing. New capacity additions across the industry could also change future utilisation expectations. Our 2015/16 EBITDA estimates are 2%/10% ahead of Bloomberg consensus.
* Valuation
To derive our 12m price target of €36 (26% potential upside), we value SKG on 7.5x 2016E EV/EBITDA, to which we add a 25% M&A premium (at a 30% probability) of c.€2.5/share. Our target multiple is higher than the long-run median as we think the stock should trade higher based on growth/FCF metrics relative to the market and key peers (Mondi/DS Smith). Stocks with similar 3-year average growth/returns across our pan-Euro coverage trade on a 34% higher EV/EBITDA multiple on 2016E. SKG trades on 2016E P/E of 10.0x, with EPS growth of 19% vs. the STOXX 600 P/E of 16.0x with lower
EPS growth of 12.5%.
* Key risks
The key risks to our view and price target are: meaningful capacity additions; adverse FX moves; weaker than expected LatAm demand.