Astrapak instituted a five-year restructuring exercise in FY13 following a period of dismal results. The exercise includes disposing of non-core assets to focus on areas where it has a competitive advantage, and improving internal efficiencies. Although continuing operations are still in the red, its performance has been improving and management is targeting an operating margin of between 7% and 10% from less than 4%.
We issued a speculative buy in our last review assuming that the benefits of the restructuring would kick in. The stock is also deep in value territory, trading at a discount to its net asset value. However, using profitability guidance from its management, we change our recommendation to hold. If Astrapak stabilises at an operating margin of 7%, the counter remains unattractive, but if it operates at the upper end of its guidance of 10%, there is hope. Nonetheless, we have used the mid-point in our projections – we assumed an operating margin of 8.5%. We also expect more value to come from the reduction of its ratio of capex-to-sales and the streamlining of working capital.
The group has been expanding margins and has reduced corporate overheads by closing its Johannesburg head office. It has set up a new, leaner structure in Durban to support its remaining nine operations (down from 26 prior to the disposal of non-core assets). Management expects overhead savings of R30 million a year from this move.
Management has addressed weaknesses in its old operating structure. Having implemented a new production structure, its focus is now on ensuring commonality in process, measurement, resource planning and communications. Management says it has started to record better wastage and stock loss metrics since adopting the new model.
Sales are expected to get a boost from a multi-year personal care contract with a leading multinational customer which came on stream at the end of the reporting period and should reflect fully in the second half of the financial year. Another significant contract with a fast-moving consumer goods customer is said to be producing as expected. Furthermore, mould maintenance and rehabilitation have substantially reduced wastage rates on the production line and enhanced manufacturing efficiency.
Astrapak’s three largest markets are now food, personal care & toiletries and automotive. These categories are relatively immune to poor economic conditions and benefit from growing urbanisation.
The group will experience abnormal short-term costs and a higher tax bill as it is still in the process of disposing of some non-core assets. However, proceeds from the sale of assets will relieve Astrapak’s net debt position, thus lowering its risk profile.
External challenges remain, characterised by a poor economic outlook and intense competition from both old and new players. Any rand weakness increases pressure on margins because the group imports some of its inputs. The rand has actually strengthened since the beginning of the year, although volatility is high which makes the timing of purchases important.
Stronger customer relationships in areas where the group has a competitive advantage, coupled with new projects that have been commissioned, were key in driving Astrapak’s interim results to end-August. Cost of sales increased more than revenue due to a weak rand and higher dollar prices of inputs such as polymer – a major input in plastic production. However, administrative and other costs were well contained – a result of the restructuring benefits starting to take effect – which saw operating income rising notably by 25%.
The disposal of non-core assets has elevated the tax rate and this is expected to persist in the interim as capital gains are realised from further asset disposals. However, these once-off costs will not affect headline earnings. Excluding discontinued operations, the group made a headline loss of -4.7c/share, an improvement from -6.4c/share previously. No dividend was declared.
- Margins expected to widen further from improved production facilities and cost-cutting initiatives
- Disposal of low-margin businesses will improve working capital utilisation
- Cash generated from asset disposals can be used to reduce debt or deployed in value-enhancing projects
- Competitive industry with international players adding pressure
- If the rand weakens, the cost of imported inputs rises
Nature of business: Astrapak is a specialised manufacturer and distributor of an extensive range of rigid and flexible plastic packaging products.
Disclosures: The analyst has no financial exposure to the instrument discussed. The opinion represents his true view.
For Intellidex’s full disclaimer, methodologies and definitions please click here.
Source: This article was first published in the latest issue of the Moneyweb Investor. To read the magazine click here.