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PKG Stock: A Boring Company with Strong Performance
Stock Analysis & Ideas

PKG Stock: A Boring Company with Strong Performance

Packaging Corp. of America (PKG) engages in the production of container products. It operates through the following segments: Packaging, Paper, and Corporate and Other.

The Packaging segment offers a variety of corrugated packaging products, such as conventional shipping containers. The Paper segment manufactures and sells a range of papers, including communication-based papers and pressure-sensitive papers. The Corporate and Other segment focuses on transportation assets, as well as rail cars and trucks.

PKG is probably as boring as it gets. In a world that is becoming more digitized, old-school companies that produce packaging and paper are often cast aside in favor of the latest technology trend.

Nevertheless, the company reported strong earnings on April 25, 2022, for its first quarter. Revenue beat by $90 million, while EPS beat by $0.20. The company has a pretty good track record of beating consensus estimates, which is reflected in the stock’s long-term performance.

Indeed, in the past 10 years, PKG’s stock price has provided investors with significant returns as it has greatly outperformed the S&P 500. PKG has returned approximately 760% compared to 305% for the index. Not bad for an “old-world” company.

Despite this strong historical performance, we remain neutral on the stock.

Packaging Corp: An Efficient Business

When analyzing the company’s efficiency, we can see why PKG has greatly outperformed the index. Its return on equity (shown below) is consistently in the double digits and regularly over 20%, implying that PKG is a great capital allocator.

Nonetheless, we can dive into these numbers further to get an even better idea of the company’s efficiency.

Image created by the author

When analyzing ROE in a DuPont analysis, it can be separated into three different parts: net profit margin, asset turnover, and equity multiplier. Multiplying these three metrics together will get you the return on equity.

Ideally, we want the main driver of ROE growth to come from an improving profit margin and asset turnover. In contrast, we don’t want to see the equity multiplier be the main source of ROE expansion, because that simply means that the company has taken on more debt, causing the equity to decrease.

By shrinking the equity (all else being equal), it only causes the illusion of ROE growth. The DuPont analysis is useful because it helps investors separate the companies that are operationally efficient from those that are not. It also helps identify if management is doing a good job.

The image above demonstrates that asset turnover has remained fairly consistent since 2016, with the exception of 2020, which was when COVID-19 first broke out. The same can be said for the company’s profitability, measured by its profit margin.

Nevertheless, the general trend for both asset turnover and profit margin from 2016 has been upward. Interestingly enough, the equity multiplier number has been trending downwards, meaning that the company’s financial leverage has been decreasing as well.

As a result, the company has managed to achieve the ideal result of increasing profitability and efficiency, while also decreasing its financial leverage. This demonstrates that the management team is very competent, and deserves a lot of credit for the way it has been running the company.

Growth Catalysts

The main driver of the company’s earnings beat in its most recent quarter was strong demand in its Packaging segment. In fact, PKG set an all-time record for total box shipments, which also includes first-quarter records for box shipments per day and containerboard volume.

Furthermore, PKG was able to successfully pass on costs to its customers in both the Packaging and Paper segments. This demonstrates that the company has strong pricing power, which it has been using to hedge against inflation.

Management expects demand for packaging to remain strong heading into the second quarter, and plans to continue raising prices for its products. As a result, it has guided for second-quarter earnings of $2.83 per share, equating to quarter-over-quarter growth of 4.8%.

Dividend

PKG has a 2.48% dividend yield, which is above the sector average of 1.45%. When taking a look at its payout ratio of 33%, its dividend payment looks safe.

Taking a look at historical dividend payments, we can see that its yield range has trended downwards in the past several years.

At 2.46%, the company’s dividend is near the lower end of its range, implying that the stock price is trading at a premium relative to the yields investors have seen in the past.

Wall Street’s Take

Turning to Wall Street, PKG has a Moderate Buy consensus rating based on three Buys, six Holds, and zero Sells assigned in the past three months. The average Packaging Corp. of America price target of $166.13 implies 1.9% upside potential.

Final Thoughts

Despite PKG’s strong historical performance and underlying fundamentals, it appears that the market has already priced in the company’s inflation hedging abilities.

As a result of the limited upside potential, we remain neutral on the stock.

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