DS Smith has said positive momentum in profitability has continued in the second half of the financial year. In the first half, underlying operating profit was up 49% ignoring currency movements. Performance has been in-line with management expectations.
Growth reflects the impact of supply chain efficiencies, ongoing cost management and "resilient pricing." These efforts have offset lower like-for-like box volumes, reflecting market weakness and customers reducing their inventories over the festive season.
The shares were down 2.2% in early trading.
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Our View
DS Smith's resilience in tough conditions has continued to hold it in good stead. Despite falling sales volumes, it remains on track for a second consecutive year of impressive double-digit profit growth. There are some DS Smith-specific reasons they've been able to pull this out the bag so far.
The group's a key supplier to ecommerce groups - providing the cardboard boxes that are a familiar sight outside houses up and down the country. DS Smith also sells its boxes to consumer goods and food groups. These include many of the 'shelf-ready' cardboard boxes you'll find in the supermarkets.
Demand for these segments is benefitting from structural growth drivers - consumers are keen to shift away from plastic packaging and reliance on e-commerce is a trend that's here to stay.
Input costs are on the rise, and to cope, DS Smith is increasing its own packaging price while deploying contracts to protect against unfavourable gas prices. It's working, and higher costs are being offset by revenue growth.
We believe that lower unit sales have been largely driven by weak demand for DS Smiths customers' products, rather than the increased prices of cardboard boxes. The company is doing a great job of navigating these challenges. But management's earlier confidence about a second half recovery in volumes so far seems unfounded. At the moment, lower volumes are being more than offset by strong pricing and a tight watch over costs.
But you can't fight a rising tide forever. If volumes continue to fall in the short-term, there are likely to be some bumps ahead.
We're pleased to see the group's used some of the cash flowing through the business to lower net debt, bringing it back down to a very healthy level of 1 times cash profit (EBITDA). That helps support dividends, which were increased by 25% at the half-way point of the current financial year.
Improved trading and cash flow means that the full year dividend, which has a 5.4% prospective yield, looks to be well-covered currently. Though, that's reliant on trading holding firm and there's no guarantees.
Overall, we think DS Smith is in a strong position with exposure to attractive end markets. We don't think those strengths are necessarily reflected in the current valuation. But remember, this also reflects the ongoing uncertainty.
DS Smith key facts
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