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Rexam gives you wings

The packaging group is looking after shareholders by selling underperforming business and focusing on cash generation
January 12, 2012

Rexam makes drink cans, lip-stick holders, most of the packaging in make-up bags, pumps for sprays and lotions, and microwavable food packaging. True, few consumers know, or care, about the company behind it all. Maybe they should, for Rexam is well-placed to brave economic turmoil and leave its shareholders feeling as if they've had a can or two of Red Bull, the fast-growing energy drink whose cans Rexam makes.

IC TIP: Buy at 363p
Tip style
Growth
Risk rating
Medium
Timescale
Long Term
Bull points
  • Trading in line with expectations
  • Drinks cans strength offsets weak plastics
  • Personal care division up for sale
  • Decent dividend yield
Bear points
  • Slowdown in Brazil
  • Key healthcare product coming off patent

It won't be easy. Much of western Europe - and developed economies elsewhere - are likely to tip back into recession. That said, Rexam thinks its core business - making beverage cans - can keep growing at an average of 3 per cent a year, driven by the Middle East, Africa and South America.

And it is keen not to miss out on India, as it has in China. The company has had a foothold in India since 2008 and a new £30m production line is due to start up towards the end of 2012. True, analysts don't expect a significant contribution from India for at least five years, but the Indian beverage cans market is expected to grow by 20 per cent annually and Coca-Cola plans to invest $2bn there over the next five years. Other key customers - such as AB Inbev, Carlsberg, Heineken as well as Red Bull - are selling well, too.

So, Rexam is smart enough to follow the money, even if the benefits are a little way down the line. And management's commitment to the three Cs - cash, cost and capital - has kept the business firmly on track to achieve a return on capital employed of 15 per cent by 2013, up from 13.2 per cent in mid 2011. And it has a track record of disciplined investment, generating strong free cash flow plus an ability to deliver £30m of cost savings a year, which should offset increases in raw material costs.

REXAM (REX)

ORD PRICE:363pMARKET VALUE:£3.18bn
TOUCH:362-363p12-MONTH HIGH/LOW:402pLOW: 295p
DIVIDEND YIELD:3.9%PE RATIO:10
NET ASSET VALUE:275pNET DEBT:67%

Year to 31 DecTurnover (£bn)Pre-tax profit (£m)Earnings per share (p)Dividend per share (p)
20073.4224023.517.8
20084.2522122.218.7
20094.5313411.48.0
20104.6233827.112.0
2011*4.8446337.014.3
% change+5+37+37+19

Normal market size: 7,000

Matched bargain trading

Beta: 0.7

*Credit Suisse estimates (Turnover, profit and earnings not comparable with historic figures)

Rexam's latest trading update held no surprises. Tight control of costs meant beverage cans did slightly better in the third quarter, driven by strong growth in North American speciality cans. There was also growth in South America, although the pace is slowing and the crucial summer season in Brazil, where Rexam has about 60 per cent of the market, will determine how the year turns out. Remember, though, Brazil hosts football's Confederation Cup in 2013, its World Cup the year after and Olympic Games in 2016, so any pause will only be temporary.

However, first-half profits fell at the plastic-packaging unit - down 2 per cent to £58m - and there was little respite in the months that followed. Lower volumes in personal care have pushed results for plastics below target and Rexam's patience with the troublesome unit has run out. The 'for sale' sign is up for personal care and Rexam would welcome a buyer at anything from £300m to £500m, according to the City.

Offloading its problematic bottle-tops business, Closures, to Berry Plastics for $360m last year helped trim net debt to £1.4bn. Selling the personal care operations would cut it further and clear the way for Rexam to hit its return-on-capital target.

That would go down well in the City, say analysts at Credit Suisse. The plastics operation has been a distraction and has added cyclicality to the mix, they argue. Getting rid of personal care could also trigger bigger dividend payments - which already generate an above-average yield - and share buy-backs.

Selling personal-care packaging would leave Rexam's only plastics packing in healthcare. True, renegotiating a key product contract - an inhaler - when it comes off patent this year will probably mean less money for Rexam, but it's an attractive sector with decent profit margins.

The departure in February of Sir Peter Ellwood, chairman since 2008, is disappointing, but Stuart Chambers, a non-executive director of both Tesco and Smiths Group and former CEO of Pilkington and Nippon Sheet Glass, looks a capable replacement. Besides, he's already spent almost £100,000 on Rexam shares.