On the face of it, DS Smith should be emerging as a clear winner from the pandemic (Miles Costello writes). Not only have lockdowns dramatically increased demand for its cardboard boxes and cartons, but Covid-19 also looks to have accelerated the overall long-term trend for shoppers and industry to move online.
However, as shareholders found in DS Smith’s pre-close trading update yesterday, there are nuances. Demand for boxes has increased, yes, but so, too, have paper prices in Europe and the United States, pushing up costs for those that buy in raw materials.
The shares dipped modestly after publication of the largely upbeat report and DS Smith’s stock remains depressed, having fallen by just over 23 per cent since the beginning of the year. For a FTSE 100 stalwart locked into some big growth trends, the shares look insanely cheap.
DS Smith was founded in 1940 and was listed on the stock market in the late 1950s. Having expanded rapidly, the group operates in 34 countries and employs about 30,000 staff. Among others, it competes with Smurfit Kappa and Mondi, both FTSE 100 constituents.
The company owns and operates pulp and paper mills and cardboard packaging factories and recycles fibre-based materials, which it uses in its own boxes and cartons and also sells to third parties.
Over the 12 months to the end of April, it generated revenues of more than £6 billion and pre-tax profits of £368 million, about 80 per cent of which came from supplying packaging for fast-moving consumer goods, including food and drinks to supermarkets and restaurateurs. It is also plugged into ecommerce. Its factories remained open this year after it was designated an essential service provider, but DS Smith suffered from disruptions as some of its industrial customers shut up shop. Making its operations Covid-secure also added costs.
Although business has improved over the past three months, the group expects the volume of corrugated boxes made and sold during the half-year to the end of October to be 1.5 per cent lower than last year. This minor setback is more about the impact of the virus in its first quarter rather than any long-term reduction in demand. In fact, the company said that the call for its products in Europe and America had improved strongly during its second quarter and that it had taken market share from rivals. Profits overall for the first six months are expected to be lower than this time last year, but DS Smith is planning a dividend.
The low rating for the shares is baffling. The initial costs of contending with Covid-19 are behind it. While a second round of national lockdowns will bring disruptions, more businesses will be able to remain open this time and there is every reason to believe that online orders among consumers will continue to increase.
Higher paper prices will have a modest effect on production costs, but DS Smith produces about 80 per cent of what it needs itself in Europe and makes more than its requirements in North America. The group will benefit from the higher prices of the boxes it sells to others.
In April, when this column recommended buying DS Smith, the shares stood at 292p. After plenty of turbulence since then, that’s almost exactly where they were today, down 2¼p, or 0.75 per cent, at 289½p.
Trading for 8.8 times JP Morgan Cazenove’s earnings forecasts for this year, and with a prospective dividend yield of 4.1 per cent, the shares look wildly undervalued and should be a good long-term bet.
ADVICE Buy
WHY Coronavirus does not change highly attractive long-term growth dynamics and it should be a net winner from higher prices
Weir Group
The world was a very different place when Weir Group put a “for sale” sign on its oil and gas division in February (Greig Cameron writes). Management at the Glasgow-based global engineering group had decided to focus on the mining sector, where long-term demand for metals would be underpinned by the transition to electric vehicles and rising demand for batteries. Removing the volatility associated with oil and gas prices, particularly in American shale, where Weir has a large presence, was also a consideration. Then the coronavirus pandemic took hold.
Tempus rated the shares a “buy” in early March as the wider Covid-19 stock market sell-off drove Weir’s shares down to £12.77, close to their lowest level in almost five years. They reached their trough at 666p and since then have recovered somewhat, albeit riding a similar rollercoaster to some other notable London stocks. A deal to sell the oil and gas division to Caterpillar, the American industrial supplier, for $405 million last month helped to lift the shares above £16. After that, they lost some ground as more countries in Europe announced stricter Covid-19 restrictions. Today they were on the way up again, rising 51½p, or 3.5 per cent, to £15.09½ after a trading update.
While third-quarter orders and revenue were down year-on-year, Jon Stanton, Weir’s chief executive, said that sales trends had been improving and that the company was entering the final quarter of 2020 with “momentum”. Its foundries and manufacturing sites are expected to remain open, despite the announcement of new lockdowns.
Mr Stanton has pointed out the need for mining customers to reduce their environmental impact and he believes that Weir’s product suite of digitally connected grinders, valves, compressors and pumps can help them to improve efficiency, as well as cutting emissions. Access to mines for its sales teams has been limited by the pandemic, but Mr Stanton expects “robust” activity in the final few months of this year.
A shareholder vote on the oil and gas sale takes place this month, with Weir planning to use the proceeds to trim its net debt.
ADVICE Hold
WHY Looks well placed for long-term growth
