Klockner Pentaplast - Packing in a refinancing - Positioning
Dear All,
Please find our updated model post-Q1 results on Klockner Pentaplast here.
KP is suffering from transitory issues (inventory de-stocking, elevated inflation, demand weakness in its labels & card division) which will dissipate in H2 2024 with volumes expected to sequentially improve. The company continues to invest in high-margin production capacity, optimise its FP segment and re-position itself as a predominately high-margin pharma packaging business in the medium term. However, in the near term, it needs to deal with near-term debt maturities which is depressing the valuation of the business.
Investment Rationale
- We are taking a position in the 4.25% senior secured notes due March 2026 worth 2% of NAV at a price of 86% and a yield to maturity of 14%. We believe that the bonds will appreciate in value from a combination of acceleration of growth in volumes in the second half of 2024, an equity injection from the shareholder by launching a tender offer for the senior notes at price below par or a parallel cash equity injection. This would facilitate a par refinancing of the senior secured notes and the term loans.
- The above-mentioned transitory issues are masking a solid business with good structural tailwinds.
- At the current trading levels, KP is being valued at a 7.2x valuation multiple which is closer to a food packaging company rather than a pharma packaging business (where it gets a majority of its EBITDA). We therefore think the fair value of the notes are closer to par.
- We are looking to expand our position in the Senior Secured Notes as we do more work on the fundamentals of the business for H2 2024.
- Generally, cashflow seems a bit weak and requires strong improvement of EBITDA to generate the required debt-carrying capacity for a refi which is an area of further investigation. However, if we cannot substantiate management’s claim on this subject, we will be exiting the name again.
- Senior Notes: We are on the sidelines here. The bonds are a binary bet on a consensual refinancing process or a hard restructuring. The notes have limited upside with more process risk and downside of zero.
Scenarios
- In a par refinancing of the senior secured notes, the company will require an acceleration in volumes and embedded operating leverage to reach their €310 million EBITDA guidance. If the company cannot hit their EBITDA target, they may need to launch a A&E which would involve giving bondholders economics to roll over.
- However, this would require the shareholder injecting €150 million to €200 million of equity. If the shareholder walks away, the senior secured creditors will enforce and take control of the business and sell it on a piecemeal basis. There will be a decline in the price of the senior secured notes in the short term but bondholders will receive par recovery on the eventual sale of KP's assets.
Current Trading - talking up a potential refinancing
- Q1 2024 revenues at € 461 million declined by 11% due lower sales volumes and pass-through of declining raw material and energy costs. Despite missing our revenue estimates by €73 million but matching our reported EBITDA estimates, the company gave a very positive outlook on order intake and improving volume and EBITDA growth on a sequential basis.
- Management also gave guidance for 2024 volume at 4% - 7% which is very back-ended in 2024 and reiterated their guidance for Consolidated Pro Forma EBITDA at €310 - €325 million which is higher than their reported EBITDA guidance of €250 - €260 million. We suspect that the higher €310 million EBITDA number will be used to refinance the senior secured debt.
- The other reasons for our positioning include:
Low valuation for a market-leading business as we have detailed above.
The company now gets a majority of its EBITDA from its higher-margin pharma packaging business (which is usually valued at a higher multiple) which improves the asset coverage for bond holder.
Alignment between the sponsor and bondholders: As we understand that SVP has a blocking minority in the senior notes and may look at options to either equitise its exposure or launch a tender offer for the remaining senior notes (alone or with partnership with external investors). This development would be a positive for the senior secured notes as it creates an implied equity cushion beneath the notes.
While our estimates for reported EBITDA at €223 million is below the company’s guidance for reported EBITDA, it generates free cash flow before cash interest which should improve as top-line growth accelerates which bodes well for a par refinancing
Housekeeping
The next catalyst on this name will be an announcement from the company around a resolution or agreement on the senior notes which may come before or after the Q2 2024 financial results. The other main question that we would like clarity on is how growth is supposed to accelerate in H2 2024.
Happy to discuss
Saahil
T: +44 203 192 0200
www.sarria.co.uk