Brambles Treats Shareholders With IFCO Sale

This story features BRAMBLES LIMITED. For more info SHARE ANALYSIS: BXB

The sale of the IFCO plastic crate business will generate cash returns for Brambles shareholders as well as a buyback and refreshes the outlook for the company.

-Sale price at the high-end of broker valuations
-Sale more welcome than previously proposed de-merger
-Can Brambles improve cash flow and earnings to lower gearing from FY21
 

By Eva Brocklehurst

Investors are likely to welcome the news that Brambles ((BXB)) has sold its IFCO reusable plastic crate business to subsidiaries of the Abu Dhabi Investment Authority, expecting cash proceeds of US$2.36bn.

The company plans to return US$300m via a pro rata return of cash and US$1.65bn via an on-market share buyback. The balance of the proceeds will be used to repay debt. Credit Suisse assesses this will provide support to the share price until June 2020, at which point there should be good visibility regarding the turnaround of the US pallet business.

The broker now envisages a lower risk profile that warrants a premium rating. The transaction appears to be neutral to earnings from FY22, which is not surprising as IFCO is a lower-returning business compared with CHEP pallets. Macquarie is pleased with the sale, as it was at the high-end of its valuation range. The broker assumes the share buyback is completed over two years and forecasts peak leverage occurring in FY22.

The transaction is subject to regulatory approvals, although Ord Minnett observes neither Triton nor Luxinva, the subsidiaries, have any overlapping business with IFCO and approval is therefore more than likely.

Citi notes IFCO was a high-growth segment from a sales perspective, but returns from an invested capital perspective were below the company's targets because of the large amount of intangibles held within the division following its purchase in FY11.

Citi expects margin accretion strategies implemented in the US pallets division will begin driving a meaningful uplift in margin from FY20. The broker also suggests the timing of cash flow from the sale will create a skew to the gearing profile. The main issue is whether Brambles can meaningfully improve cash flow or earnings in order to lower gearing in the outer years from FY21.

Dividend Policy

The company has reiterated a desire to re-evaluate its dividend policy and Ord Minnett suspects it could shift to a more sustainable pay-out ratio from the current progressive dividend. A potential starting point is a forecast 29.0c per share, adjusted for the sale and loss of IFCO forecast earnings.

While Ord Minnett suspects, longer-term, the company could fund growth initiatives in the pallets market and expand into emerging markets such as Eastern Europe, nothing appears imminent.

Macquarie, on the other hand, is not expecting material changes to the company's progressive dividend policy, forecasting a 50% pay-out ratio beyond FY20. The broker points out that leverage peaks at around 1.70x in FY22, which includes the completion of capital management, and compares with the targeted leverage of around 1.75x net debt/operating earnings.

This leaves little head room for an increase in the dividend. Excluding IFCO, the broker forecasts a 7% compound growth rate in operating earnings (EBITDA) to FY22, largely supported by a recovery in margins at CHEP Americas.

Morgan Stanley considers the sale a positive outcome, particularly versus a previously proposed de-merger. However, the options on the balance sheet appear largely reflected in the share price. The broker estimates the deal will be around -7% dilutive in FY20 and -3% dilutive in FY21, with the discount narrowing further as the buyback is completed.

Management has indicated the outcomes of a re-evaluation of the capital structure will form part of its results briefing for FY19. Ultimately, Morgan Stanley believes outcomes of the strategy and capital reviews will confirm the overall merits, or otherwise, of the decision to exit IFCO.

Citi forecasts an underlying growth rate in earnings per share over the next three years of 12.5%. Supporting its forecasts is a reversion to historical averages for cost inflation and an uplift in CHEP Americas.

While valuation multiples appear high by historical standards, Citi encourages investors to balance the outlook for capital management versus earnings growth. The higher multiple is justified by a strong earnings outlook, in the broker's view.

Buyback

Overall, Citi is positive about the transaction and believes the impact of selling IFCO will be nullified by the on-market share buyback. The broker removes IFCO from forecasts, which drive -14-15% downgrades to underlying earnings (EBIT) forecasts across the entire forecast period to FY24. Based on the broker's calculations the company could repurchase up to 12% of the outstanding share base.

UBS also calculates that a 12% fall in the share count and lower interest bill will more than offset the earnings foregone by the sale. The broker observes Brambles has effectively exited growth plans within oil & gas, US white wood, and now the reusable crate business. UBS envisages above-trend growth of 11% in earnings over the next three years, driven mainly by reversion in North American margins back to 18.5% by FY22.

FNArena's database shows four Buy ratings and four Hold. The consensus target is $11.66, signalling -0.2% downside to the last share price. Targets range from $10.49 (Morgans, yet to comment on the sale) to $13.50 (Credit Suisse).

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