Sealed Air to Underperform
We maintain our Underperform recommendation on Sealed Air Corporation (SEE) given lower-than-expected volumes at Diversey, wide exposure in Europe, integration risks associated with the Diversey acquisition, reduced guidance due to the difficult macro environment, foreign exchange headwinds and lower volumes. The stock retains a short-term Zacks #5 Rank (Strong Sell).
Sealed Air’s second-quarter 2012 total revenue increased 65% year over year to $2 billion while adjusted net earnings plunged 50% to 20 cents per share, due to weaker-than-expected margins. The company lagged the Zacks Consensus Estimate on both lines.
Sealed Air’s Diversey acquisition is the second largest in the company’s history, just behind the $4.8 billion purchase of the Cryovac food-packaging business in 1998 from W.R. Grace & Co. Given the size of the deal, we are apprehensive regarding integration risks. Further, to fund the acquisition and to repay the existing debt of Diversey, Sealed Air had incurred debt. As of June 30, 2012, Sealed Air’s debt-to-capitalization ratio remained high at 63.5% compared with 36% as of September 30, 2011, prior to the acquisition. The rise in debt levels and the consequent increase in interest burden are concerning.
In retrospect, Sealed Air’s first half results were weaker than expected due to low volumes at the recently acquired Diversey. Volumes were down 2% in the first quarter and 3% in the second, mainly due to weakness in Europe. Given that 52% of Diversey’s sales come from Europe and with no significant improvement in the economic conditions, we believe results from Diversey will remain affected.
In addition to Diversey, margins at the Food Packaging and Protective Packaging segments margins were below expectations affecting the second quarter results. At Diversey, margins were affected by an unfavorable compensation comparison and investment in Asia Pacific. In the Food Packaging segment, unfavorable product mix, negotiated labor agreement and consolidation costs resulted in the decline. In Protective Packaging, weakness in industrial related applications led to lower margins.
The company has reduced its EPS guidance for 2012 to $1.00-$1.10 from $1.50-$1.60, due to the difficult macro environment, foreign exchange headwinds and lower volumes. Gross margin is now expected to be approximately 34%, down 1% from the prior guidance. Net sales are expected to be approximately $7.7 billion, factoring in a negative effect of approximately $400 million in foreign exchange currency translation. Adjusted EBITDA is expected to be approximately $1.05 billion to $1.075 billion, which includes a negative impact of approximately $40 million due to unfavorable foreign exchange.
Elmwood Park, New Jersey-based Sealed Air is a major specialty packaging service provider to a diverse set of end markets. The company operates in the United States and in 50 other countries with packaging and performance-based materials and equipment systems serving food, medical, and an array of industrial and consumer applications. Sealed Air faces competition from companies like Bemis Company (BMS) and Sonoco Products Co. (SON).
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