Contain And Package Your Returns

Don’t be frightened by the title; I have no “curious” new product that gives you synthetic exposure to markets flushed with loose capital fueled by ravenous speculators that yields stress, write downs, and a murky promise of a return. Commodities have turned out to be the bust of the year. Trending toward the stratosphere of never-ending economic appetite only six months ago- crude, copper, corn, and all the rest have plummeted towards historical averages as whimpering hedge funds tuck their tales, retail investors yank their hair in dismay, and the IEA reminds us all of the horrific year to come. The Materials sector has been whipped left and right as the metals and mining sub-sector literally imploded, and chemicals acquiesced to the broader market.

Construction materials as well as containers and packaging are the top two sub-sectors of the year, but construction materials’ performance has been of late in response to the multitude of infrastructure initiatives announced around the globe. Much is still to be determined on the time scale of those initiatives and the specific projects which will receive the earliest approval. That leaves containers and packaging as the top prospect for the new year as 2008 culminates in an unenergetic fragmented week of low volume trading. As I recount my portfolio’s battering to look forward to 2009, I find myself filled with grief- Greif, Inc. (GEF). Dominating its relatively small list of competitors on numerous metrics, Greif offers superior growth, returns, and liquidity.

The Rundown

Established in the 1870’s by the Greif Brothers, wood was originally their line of business as they provided wooden barrels, kegs, and other industrial packaging. In the latter part of the 1900’s they transitioned to steel, fiber, and intermediate bulk containers, becoming the most comprehensive industrial packaging company in the world with a 30% market share. Still the primary source of profits, their industrial packaging segment offers services to a wide range of end markets including but not limited to: food and beverage, automotive, building products, books and furniture, pet foods, sugars, and fertilizers. Their paper packaging segment offers containerboard and corrugated products that supply an equally diversified customer profile. They also have a negligible timber segment that harvests almost 300,000 acres in the U.S and 30,000 acres in Canada. This segment has no material affect on the viability of the company as it accounts for less than five percent of profits.

A Competitive Advantage

Greif has grown aggressively in the past ten years by implementing a business system focused on industry consolidation, emerging markets, and a series of successful acquisitions. Greif has worked diligently to “re-earn the right to grow” and the metrics below help highlight the value of this company:

Price/ Book: 0.70 Industry Average: 2.73

EV/EBITDA: 3.8x Industry Average:5.6x

Return on Average Total Assets: 11% Industry Average: 8%

Return on Total Capital: 21% Industry Average: 16%

Operating Margin: 10.1% Industry Average: 9.7%

EPS CAGR (’97-08): 18% Industry Average: 9%

EBIT CAGR (’97-’08): 20% Industry Average: 6%

Current Ratio: 1.3x Industry Average: 1.6x

Quick Ratio: 0.7x versus Industry Average: 0.8x

• Even though they hold more inventory on average than their peers, they have the highest inventory ratio in the industry at 11.9 versus an average of 7

Total Debt/ Capital: 28% Industry Average: 45%

• $450 million revolving credit facility matures in 2010
• $300 million senior notes @ 6 ¾ mature in 2017
• Accounts Receivable Credit Facility of $135 million (subject to LIBOR) matures in 2013

Free Cash Flow Yield: 12.8% Industry Average: 9.6%

Greif Inc. has done a lot to prevent from having much to fear in the near future, and as a number one manufacturer of steel, plastic, fiber, and water bottles in the year ended October 31, they reported record earnings.

Figures and Facts

EPS grew by over 40%, operating profit margin expanded to 10.9% from 9.4% and their gross profit margin increased one basis point 18.3%. Their operating working capital as a percentage of sales decreased to 7.6% down from 14.9% in 2003 and their SG&A as a percentage of sales decreased to 9% down from 11.9% in 2003. They have also increased their operating profit margin to 10.9% from 6.3% in 2003 as they inch closer to their goal of 12.5% by 2009. Greif, Inc. has done an impressive job of excelling in a difficult market. Surprisingly, their share price doesn’t really show it as it is down nearly 50% for the year.

The entire containers and packaging sub-sector has been able to outperform in this market, but Greif, Inc. provides a fantastic opportunity to get into a small cap best-of-breed holding with a clear ability to outperform its peers. By growing faster with higher returns, Greif, Inc. has re-earned the right to be priced at a premium to its peers, and if 2008 has taught us anything it has been to investigate the financial position of the firm. This company is head and shoulders above its competitors by maintaining a low total debt/capital ratio and managing its long term debt appropriately so that there are no major maturities before 2010. Greif has shown it knows how to operate in a recessionary environment, so save yourself some trouble and take a look at this company as one of gems of the materials sector for 2009.

Disclosure: None

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