C’board Stocks Upgraded Again

By Sep 21, 2012, 8:46 AM Author's Blog  

Deutsche’s Paper & Packaging is eating a bit of crow this morning. They are increasing their probability of success estimate on the current containerboard hike from 50% to 75-80%.

They are upgrading the c’board names, again:

- International Paper (NYSE:IP), Rock-Tenn (NYSE:RKT), Packaging Corp. (NYSE:PKG) and KapStone (NYSE:KS) are all upgraded to Buy from Hold.

According to the firm, two factors have driven their change in view. First, was the Tuesday release of the August industry figures. It is hard to remain neutral in the face of a 115K/ton m/m drop in inventories to the lowest August level in decades & a 97.5% operating rate. Second, subsequent conversations with privately-held players across the trade convinced them that they have been too cautious. As a long-time acquaintance at a private integrated noted on Wednesday evening: ‘it is veryunusual, . but we have no incremental tons available for the market.’

Firm says they don’t like moving stock calls around rapidly, but they like being wrong even less. If the situation changes and you find yourself on the wrong side of an argument, it’s best to own-up and move forward. With some significant price gains almost certain to be posted in the trade papers this weekend, they are adjusting their ratings.

What will Pulp & Paper Week show for September price levels? This exercise is always a bit like dealing with the “Wizard of Oz” and has the feel of circular logic (let’s see – ‘you don’t move until he moves, but he can’t move until you do?’). However, based on additional discussions, DBAB’s best “guess-timate” is that PPW will report an increase in the $40/ton range. Based on their channel checks, it would be hard to argue that all $50 is in place. If PPW moves $40/ton this month, the industry is apt to get the balance of the next month.

Off to the races?
While Deutsche team thinks containerboard stocks will trade up in reaction to a strong PPW “print” this weekend, it’s important to make a few points. First, there is no real shortage of bullish sentiment among analysts & investors and current share prices reflect a portion of that sentiment. Second, investors should remain realistic about what a more consolidated & better-managed containerboard sector might deliver financially. They have heard a few arguments about price & margin potential that strike as outlandish & silly. They think there is room for EBITDA margins & returns to improve – but within limits. A “best case” scenario for this industry would be improving margins to reasonable return levels and then focusing on greater stability across the cycle. The food & beverage can industry offers an interesting model. Pushing price too hard in the short-term will damage long-term value. There are always alternatives in packaging. The higher corrugated box prices rise, the greater the customer’s incentive to look at options like returnable plastic containers and shrink wrap. Moreover, higher containerboard prices increase the incentive for upstart players to add supply.

They haven’t changed their #’s yet but here’s the EPS sensitivity for a $50/ton price hike:

Cboard Stocks Upgraded Again

Notablecalls: Here’s the Sept 10 call from DBAB that set it all in motion. It was followed by a downgrade from Longbow a week later that did most of the damage. Longbow is known for their quality checks.

I saw several firms defend the c’board stocks both publicly and in private so it has been a real battle. And now DBAB blinked, just ahead of late-Friday’s data release.

As you can see from the above table a lot is at stake and emotions are running high.

I expect a squeeze in the space today. I’m somewhat at a loss as to how high people will bid these names but +4-5% could be the level.

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