SEE - Sealed Air's Future Remains Bright

2023-05-04 07:00:00 ET

Summary

• Sealed Air's stock price has declined almost 40% from its all-time high as weak economic growth is hurting its consumer-focused packaging segment.
• The company is now trading at an attractive valuation, which is amplified by its ongoing business transformation.
• SEE is expanding its footprint in automation and food-related packaging, which is set to support high long-term EBITDA and free cash flow growth.
• Due to economic woes, the stock is likely to remain rangebound. However, on a long-term basis, I remain bullish and see up to 80% upside.

Introduction

The Sealed Air Corporation ( SEE ) has been on my radar for many years. However, in 2020, I got really serious about this company, as it was the perfect fit for my macroeconomic view back then.

The company sells products and services that allow companies to automate packaging processes - especially in the food industry. This addressed two key issues, namely labor shortages and high export demand for food. Sealed Air is a major provider of consumer packaging items, which benefited from the pandemic-related e-commerce tailwinds. After a number of M&A deals, the company started to focus on operating efficiencies. Now, SEE is coming down - hard.

The stock is now roughly 40% below its all-time high, which puts the price back in the prolonged sideways trend that started in 2015.

In this article, we'll assess the risk/reward, as some of the company's tailwinds have turned into headwinds.

So, let's get to it!

What Happened In 1Q23?

On May 2, the stock dropped 10.8% after it reported first-quarter earnings.

The company reported $1.3 billion in sales, missing estimates by $60 million. Sales are down 7.1% year-on-year. Adjusted EPS came in at $0.74, missing estimates by $0.03.

SEE reported a 2% decrease in net sales and a 17% decline in adjusted EBITDA to $267 million. According to the company , these declines were mainly due to a recessionary market backdrop, continued de-stocking in the Protective segment, and weakness in food retail end markets.

Economic weakness, especially consumer-weakness-related inventory-de-stocking, are issues that were also brought up by other companies. This includes railroads responsible for intermodal transportation and retailers that continue to reduce inventory to deal with lower consumer demand.

What's interesting is that organic sales in the Protective segment fell off a cliff in the fourth quarter. Prior to that, they were weakening, yet not contracting. Also note that pricing has come down, which I believe is an indicator that overall inflation is easing in the consumer supply chain.

When comparing the relative performance of cyclical consumer stocks to the SEE stock price, we see that SEE capital gains are highly driven by investors' willingness to buy cyclical consumer stocks.

Furthermore, as the table above shows, the Protective segment saw a 17% decline due to recessionary pressures in the industrial fulfillment markets and continued de-stocking activities by the company's channel partners. Meanwhile, net sales in the Food segment were up 1% on an organic basis.

What To Expect Going Forward?

The company expects to see headwinds continue in the Protective segment in the second quarter but anticipates an inflection point in the second half of the year with more favorable market conditions, easier comparables, and a recovery in China as the country normalizes from recent reopenings from lockdowns.

While I do not disagree with the company when it comes to easier comparables, we won't see a meaningful upswing in consumer sentiment unless economic growth bottoms in the next few months.

Hence, the company reiterated its full-year guidance, which includes net sales in the range of $5.85 to $6.1 billion, full-year adjusted EBITDA in the range of $1.25 to $1.3 billion, and adjusted EPS in the range of $3.50 to $3.80.

The company expects full-year 2023 free cash flow in the range of $475 to $525 million, which implies a free cash flow conversion of greater than 90%.

It also implies an 8.2% free cash flow yield based on its using its $6.1 billion market cap. It also needs to be said that analysts are looking for $460 million in FY2023 FCF, which is below company guidance.

That said, the company is expected to steadily grow its free cash flow in the next few years, which could result in a double-digit free cash flow yield in 2024.

Sales growth is expected to remain in the mid-single-digit range, supporting outperforming EBITDA growth until at least 2025.

Speaking of the long-term outlook, the company added Liquibox to its portfolio, which provides the company with new capabilities. In this case, packaging for liquids.

SEE aims to exceed $1 billion in revenue from the Fluids and Liquids vertical by 2027. The company is working internally to achieve this goal by 2025 by disrupting the rigid container market and providing customers with lower costs, higher value, and more sustainable solutions.

Another area of (potentially) rapid growth is the company's Automated Protective Solutions, which currently represents approximately 35% of the company's business. This vertical focuses on a variety of markets and customers ranging from industrial to e-commerce fulfillment. The company is working to broaden and optimize its existing portfolio while expanding market penetration.

This segment is estimated to have a $15 billion addressable market. By leveraging SEE automation and its industry-leading materials, the company aims to solve customers' packaging challenges related to safety, labor, and productivity, which are key issues that I have monitored for a few years. SEE's portfolio of brand solutions, including BUBBLE WRAP, Instapak, AUTOBAG, Auto Boxing, among others, is the widest and most well-known in the industry.

The company plans to broaden its portfolio by bringing its total solution strategy across its platforms and aggressively expanding its fiber-based solutions and equipment-agnostic systems. This will create new opportunities for customer engagement and growth.

What To Make Of SEE's Valuation

SEE is trading at 7.4x NTM EBITDA. This is low for a company that is expected to significantly boost its free cash flow in the years ahead. This valuation incorporates a very high level of uncertainty regarding the company's expansion plans. The company has a 3.3x net leverage ratio and a BB+ credit rating. This doesn't scream financial stability, but it's safe, especially because the company has high and consistent free cash flow, which is used to quickly deleverage the balance sheet.

The same goes for the free cash flow multiple. The company is trading at 13.3x 2023E free cash flow. That number drops to 9.8x using 2024 numbers.

In my prior article , I wrote that the company should have a market cap of at least $11 billion. I still stand by that.

While I agree that SEE should not be trading at a premium due to the risks that come with its business transformation, I believe that the current discount is unwarranted.

It will likely take a while for the economy to recover. However, I expect the stock to have 80% to 90% upside over the next four to five years.

Takeaway

In this article, we discussed Sealed Air, a company that has been flying under the radar due to low awareness about its products. Despite this, the company has undergone a significant transformation over the past few years and has positioned itself as a leader in the packaging and automation industry. Sealed Air is poised to take advantage of secular trends such as supply chain automation, waste reduction, and the growing e-commerce industry.

However, the current weak economy, characterized by consumer weakness and related inventory de-stocking, is negatively impacting the company. Although this has resulted in a decline in the stock price, it has also made the valuation highly attractive. With a bottoming of economic growth expectations, the company has the potential to make significant strides in the coming years. In the meantime, the stock is likely to experience prolonged volatility and remain range-bound.

My bullish rating reflects its long-term potential.

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