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Mexican wave? Smurfit Kappa Group’s strategic advance into emerging markets

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Mexican wave? Smurfit Kappa Group’s strategic advance into emerging markets

October 02, 2012 - 03:24

BRUSSELS, Oct. 2, 2012 (RISI) -Making an inroad into the US and Latin American packaging market is difficult in these highly consolidated market areas, but European market leaders are achieving a presence in the US and the emerging economies of Latin America.

Smurfit Kappa Group's (SKG) recent announcement that it will acquire private corrugated and containerboard maker Orange County Container Group (OCCG) for $340m is proof of this. OCCG has operations in northern Mexico and the southern United States and employs 2,800 people (2,000 of those are employed in Mexico), and is expected to generate $53m of earnings before interest, taxes, depreciation and amortization (EBITDA) for the full year 2012.

In its statement, SKG said that OCCG's strong strategic fit with the corrugated firm's existing business is expected to deliver at least $14m of synergies by the end of year two. The $340m cash consideration will be funded from the groups existing cash resources. It is anticipated the transaction will complete before the end of 2012 subject to customary completion conditions and regulatory approval.

SKG's recent move aims to further strengthen the company's position in higher growth markets. The company's containerboard and corrugated Mexican business includes three paper machines and nine box plants with containerboard production of approximately 295,000 tonnes/yr and corrugated shipments of 500 million square metres for the 12 months to June 2012. The acquisition will provide the company with a pro-forma total market share of approximately 17% of the Mexican market.

Transatlantic acquisitions - nothing new

Smurfit Kappa Group CEO Gary McGann comments on the acquisition. "The acquisition of OCCG provides a complementary portfolio of well-invested assets and quality people. This transaction further increases the contribution of our existing successful Latin American business; providing us with a very significant position within the key Maquiladora trading region and substantially strengthening our position in the higher growth Mexican market."

"Smurfit Kappa Group has a proven track record of identifying, acquiring and integrating businesses. This transaction creates synergies for the group delivering value and earnings growth for our shareholders," adds McGann.

This type of acquisition, according to Moorgate Capital's Nicholas Mockett isn't unusual and follows on from past transatlantic mergers and acquisitions. He cites Stone Container of Chicago, which used to have operations in Europe; International Paper has European businesses, and SCA had a significant foray into the USA.

In SKG's case Mockett feels the likely merger and acquisition deal driver is the serving of customers in multiple territories. "SKG may also be looking to diversify its exposure from Europe. Moreover, in the first wave of recession in 2007-2009, the emerging markets were the only regions not to drop into recession."

The reasoning for Latin American growth is clear, as Mockett explains. "Smurfit and other packaging companies are interested in earnings streams from these areas. Apart from higher growth, they are less likely to be over supplied and hence financial performance should be better."

According to Mockett the key South American packaging market is Brazil, with already a fairly consolidated paper packaging market with a handful of very large paper packaging companies. "These emerging market companies tend to trade on premium valuation multiples compared with their European counterparts.

He adds: "Combining that with their scale may render them too big to acquire. However they may appeal to the largest US paper packaging companies and the Europeans could acquire in the second tier."

Wall Street's Deutsche Bank research analyst Mark Wilde feels that the indicators are that the SKG acquisition is a good move. He says: "Although the deal caught us somewhat by surprise, the valuation is attractive and there is a good deal of industrial logic."

According to Wilde, the Mexican containerboard industry is entirely reliant on recycled fiber and has been squeezed as China has drawn an increasing amount of wastepaper from the southwestern US.

"OCCG also boosts Smurfit Kappa Group's share of the Mexican corrugated market without adding new capacity to the market. It's a bit hard to project OCCG's ultimate margin potential, but currently EBITDA margins in the 9.5% range are quite low. Part of this undoubtedly reflects low margins in the wastepaper reclamation operations."

This kind of acquisition can provide a valuable way in to a consolidated market. Wilde explains: "With SKG trading at very low valuation multiples, this transaction appears a far more sensible way of growing its Latin American footprint as opposed to paying a high multiple for an admission ticket in a market like Brazil (a move that has been rumored in the market)."

He adds: "Expansion in Latin America and Central/Eastern Europe enhances SKG's growth profile. Ultimately, it could also make SKG an interesting strategic partner for another globally-oriented packaging company."