The Drinks Are On Orora

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Orora is set to divest of its US Packaging Solutions business, allowing the company to focus on beverages packaging while reducing debt and providing for capital management over time.

-Orora to sell its North American packaging business
-Proceeds will slash debt and fund increased investment in cans
-M&A and/or capital management also on the cards
-Takeover appeal remains, maybe

By Greg Peel

Australian-listed Orora ((ORA)) has entered into an agreement to sell its Orora Packaging Solutions (OPS) business in North America to Atlanta-based rival Veritiv Corp for the equivalent of $1.775bn, representing a 9.9x FY24 cash earnings multiple.

While such a transaction had been flagged, it has come sooner than expected and at what brokers agree is a “good” price. Net of tax and costs, Orora will receive $1.687bn.

The deal remains subject to applicable antitrust regulator approvals but brokers are sufficiently convinced of success to go ahead and adjust their earnings forecasts.

Morgans points out the packaging distribution market in North America is highly fragmented; there are thousands of players with the top five commanding only 30% of the market. OPS and Veritiv each represent less than 10% of the market. Competition concerns are thus unlikely.

Down with Debt

Orora management had targeted a net debt to earnings range of 2.0x to 2.5x, but at end FY24 that ratio stood at 2.8x. The proceeds of the OPS sale will be used to reduce debt to 0.2x. Thereafter, the company has plenty of flexibility.

Following the divestment, Orora is set to be a more focused beverage packaging company. Around half of group earnings will come from the Australasian business, UBS notes, which produces both cans and glass bottles for the soft drink, beer and wine markets. The business operates in a duopoly structure, hence there are limited M&A growth opportunities.

With the proceeds from divestment, Orora intends to bring forward -$135-140m of capital investment to further expand its cans capacity in Rocklea, Queensland, which is expected to come online in FY27. Management confirmed a target return of 15% for cans investments and indicated strong customer backing, Goldman Sachs notes, with cans expansion aligned to customer initiatives.

In combination with recent expansions, the Rocklea factory is expected to increase cans capacity by mor than 30%.

Macquarie notes beverages demand is generally more resilient than broader-based OPS exposure, which is more exposed to economic fluctuations impacting the industrial and manufacturing sectors versus the more consumer-orientated beverages market, notwithstanding the impact of de-stocking.

Orora’s Saverglass business, acquired in France in 2023 and to date proven a drag on performance, delivers the other half of earnings, and is leveraged to the premium and ultra-premium spirits and wine markets in the EU and US. Saverglass earnings have been impacted by spirits market de-stocking and weak consumer demand recently, UBS points out.

Production is at around 60% of capacity, thus the business remains well-placed to increase production as the market normalises.

Capital Management

Orora intends to distribute surplus proceeds to shareholders “over time” after reducing debt and investing in the Rocklea expansion. Macquarie notes after the company’s 2020 Fibre sale, Orora undertook a capital consolidation and 10% on-market share buyback.

This broker estimates a 10% buyback, at a cost of -$360m, would be 3% earnings accretive but has not factored this into valuation. Indeed, all brokers are holding fire on what at this stage is a non-specific capital management intention. A buyback is anticipated rather than dividends given the company is low on franking credits.

Orora noted it intends to maintain its investment grade credit profile. Should the company re-lever to the low end of its existing target range at 2x, UBS estimates the company will still have some $900m in balance sheet capacity for either M&A or capital returns.

Takeover Target

As late as last month, Orora rejected a $2.55 per share takeover bid from US private equity firm Lone Star as being too cheap. Ord Minnett expects the share price to be supported from here on the prospect of another takeover offer.

Citi estimates the post-OPS business is of higher quality and sees some 10% upside to current PE multiples. However, the recent re-rating of the stock reduces the attractiveness to potential acquirers. The stock has rallied almost 40% since Lone Star put Orora in play.

A circa 2x debt ratio would equate to a buyback of $600-700m and limited accretion, Citi suggests, which would reduce a potential acquirer’s ability to leverage returns.

Citi points out there is still a question regarding near-term earnings prospects given last week’s cuts by the broker’s US colleagues to US wine and spirit outlooks.

The bottom line is once the prior earnings of OPS are removed from forecasts, the extent of the buyback assumed would not provide sufficient accretion to negate the loss. The interest savings on lower debt are more than offset by divested earnings, Macquarie notes, but with the balance sheet significantly de-geared.

Fair Value

In Morgans’ view, Orora is a solid, defensive business with good global market positions in beverages and (soon) with a strong balance sheet that provides capacity for further organic growth investments. This broker sees potential upside from increased takeover interest in the company and downside if a deal fails to materialise.

On balance, Morgans thinks the current share price broadly reflects the range of possible outcomes and maintains a Hold rating pending further updates, increasing its target to $2.60 from $2.50.

Acknowledging the stock’s recent re-rating, and a belief there is still some multiple upside, Citi thinks earnings will drive the share price from here. In this regard, this broker believes question marks still remain, hence a Neutral rating and a $2.55 target are retained.

Given current share price levels, Ord Minnett now sees the stock as fairly valued, leading the broker to maintain a Hold recommendation, with a target price increase to $2.60 from $2.30 after incorporating the better-than-expected OPS sale price and an expected earnings recovery from FY26.

UBS similarly retains Neutral and a target of $2.45.

Of the six brokers monitored daily by FNArena covering Orora, four have Hold or equivalent ratings with a tight range of targets averaging to $2.55 the rejected Lone Star offer price.

Macquarie and Morgan Stanley are both providing advise in some manner with regard the divestment, as is Goldman Sachs, hence they are restricted from providing a recommendation or target.

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