Morningstar | Sonoco Finishes Up a Good First Quarter but Remains Overvalued at Recent Prices
Sonoco began the year with pricing gains and solid margins, though organic volume growth proved underwhelming. As 2019 progresses, we think cost inflation will pressure margins, especially as prices fall for medium and linerboard. One offset during the quarter was persistent profitability in the company's relatively small displaying and packaging segment, following years of subpar performance. We haven't materially changed our assumptions for Sonoco, and we maintain our $42 per share fair value estimate. Our no-moat rating is also unchanged. Given that shares trade nearly 50% above our fair value estimate, we view the stock as considerably overvalued.Sonoco's largest segment, Consumer Packaging, performed well during the first quarter. Following meaningful declines throughout 2018, profit margins rebounded to 10.5%, which is consistent with our long-term expectations. This was principally due to elevated maintenance costs rolling off and falling input costs, primarily due to lower resin prices. In the coming quarters, we think rising demand for fresh produce packaging is likely to offset mild weakness in packaged good sales, with margins remaining roughly flat.
Although management remains optimistic on the containerboard business, we remain somewhat skeptical. We point to market conditions being a headwind for Sonoco's Paper and Industrial segment. So far, declining paper prices have been offset by reduced input costs. However, RISI's reports of increased downtime during the first quarter to deal with demand weakness leads us to believe that prices will fall further once the additional capacity comes back online. This would weigh on segment operating margins, which we expect could fall to 7.5%-8.0% in the long run. We believe that the current stock price implies that recent segment margins will persist in this cyclical industry. As such, we view the stock as overvalued given our outlook for lower midcycle margins.
Sonoco Products is a manufacturer of industrial and consumer packaging products and a provider of packaging services. The company's segments are: Consumer Packaging, which includes round composite cans, shaped rigid paperboard containers, fiber and plastic caulk/adhesive tubes, aluminum, steel and peelable membrane easy-open closures for composite and metal cans; Paper and Industrial Converted Products, which include recycled paperboard, chipboard, tubeboard, lightweight corestock, boxboard, linerboard, corrugating medium, edgeboard, paper grades, and adhesives; Display and Packaging, which include point-of-purchase displays; and Protective Solutions, which include packaging and components.
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