Summary
- With the sale of the Aerospace business, Ball Corp (NYSE:BALL) is mainly in the packaging business with about USD 1.8 billion from the sale to grow its business.
- Historical, Ball packaging business has a low growth rate, averaging less than 5% CAGR. But it is fundamentally sound.
- My valuation shows that the market has fully priced in the benefits of the sale and the value of the existing packaging business. There is no margin of safety.
Investment Thesis
In February 2024, Ball Corporation (BALL) announced the completion of the sale of its Aerospace business. Moving forward, it will mainly be a packaging company with a strong focus on aluminum containers.
The company is fundamentally sound. With the sale of the Aerospace business, it would be financially stronger. There is also the prospect of about USD 1.8 billion being deployed for growth in this sector.
Historically, Ball packaging business only achieved a CAGR rate of less than 5%. I do not expect this to change even with the USD 1.8 billion funds. Based on this, I estimated that there is no margin of safety at the current market price.
Background
According to the company, it is one of the world’s leading suppliers of aluminum packaging for the beverage, personal care, and household products industries. Prior to the sale of the Aerospace business, the company also provided aerospace and other technologies and services to governmental and commercial customers.
The company had 4 reporting segments in 2023:
- Beverage packaging, North and Central America.
- Beverage packaging, Europe, Middle East, and Africa (EMEA).
- Beverage packaging, South America.
Ball stated that its aluminum packaging products are manufactured in facilities around the world for a variety of end uses. Its largest product line is aluminum beverage containers. But the company also produces aluminum aerosol containers, re-closeable aluminum bottles, aluminum slugs, and aluminum cups.
According to Ball, its Aerospace segment produces a variety of advanced technologies and products that enable weather prediction and climate change monitoring as well as deep space missions.
In Feb 2024, Ball announced that the company had completed the sale of its aerospace business for approximately USD 5.6 billion subject to customary closing adjustments.
“The company will use approximately $2 billion of the after-tax proceeds to reduce net debt and use approximately $2 billion of the after-tax proceeds to return value to shareholders via share repurchases and utilize the remaining proceeds to further strengthen the balance sheet.”
In its 2023 Form 10k, the company stated that the sale of the Aerospace business would result in an estimated pre-tax gain of USD 4.8 billion and an estimated USD 4.5 billion in after-tax proceeds.
Following the sale, Ball would mainly be a packaging company. My analysis looks at Ball from this perspective.
Over the past 20 years, the company has grown organically as well as via acquisitions. Its largest acquisition was in 2016 when it spent USD 3.8 billion for Rexam, a U.K.-based beverage container manufacturer. As such my analysis starts from 2017.
Historical segment overview
The Beverage packaging segment as a whole accounted for 85 % of the 2023 revenue while the Aerospace segment accounted for most of the balance.
With the sale of the Aerospace segment, Ball is now a USD 12 billion revenue packaging company (based on the 2023 revenue).
From an operating margin perspective, the Beverage packaging business as a whole achieved an average of 12% over the past 6 years. In comparison, the Aerospace business achieved an average 9 % operating margin.
In terms of growth, the Aerospace segment achieved better growth rates. From 2018 to 2023, its revenue grew at 10.5 % CAGR whereas the Beverage packaging segment as a whole grew only at 4.4 % CAGR.
As can be seen from Chart 1, the Beverage packaging, North and Central America segment was the biggest revenue and earnings contributor. In 2023, this accounted for about 45 % of the company’s revenue and 46 % of the operating profit.
Notes to Chart 1:
1) Except for the Aerospace segment, the other segments refer to the beverage packaging segments.
2) This segment reporting format with EMEA was introduced in 2020. As such the company only provided comparable data from 2018.
Packaging operating trends
To get an overview of the performance of the packaging business, I look at 3 metrics – revenue, operating profit, and operating return on assets (operating profit/total asset).
Chart 2 shows the trends. This is not a high growth sector. Over the past 7 years,
- Revenue grew at 3.2 % CAGR.
- Operating profit grew at 3.9 % CAGR.
- Operating return on assets averaged 6.7 %. This return metric grew at 1.9 % CAGR from 2017 to 2023.
Note to Performance Index chart. To plot the various metrics on one chart, I have converted the various metrics into indices. The respective index was created by dividing the various annual values by the respective 2017 values.
In plotting Chart 2, the revenue and operating profit data were extracted directly from the company’s Form 10k.
To estimate the operating return on assets, I had to estimate the total assets used in the packaging segments.
- I first estimated the total assets used by the Aerospace segment. I based this on 2 sources of information – Aerospace segment’s depreciation and CAPEX.
- I next estimated the Aerospace depreciation and CAPEX as a % of the total depreciation and CAPEX. From 2017 to 2023, these averaged 8 % for deprecation and 13 % for CAPEX.
- Based on these results, I assumed that the Aerospace segment assets to be about 10% of the total assets. I then derived the total assets for the packaging business based on 90 % of the total assets.
With the above, I was then able to derived the operating return on assets over the past 7 years for the packaging business. These ranged from 6.2 % to 7.1 % with an average of 6.7 %.
Financial position
I would assess Ball as financially sound based on the following points. Note that the assessments were based on the situation before the sale of the Aerospace business. With the sale, Ball is in a better financial position.
As of the end of Dec 2023, it had USD 706 million in cash and short-term investments. This was about 4 % of its total assets.
From 2017 to 2023, it generated USD 9.9 billion cash flow from operations compared to the net income of USD 4.3 billion. This is a good cash conversion ratio.
Over the past 7 years, it achieved an average return on capital of 10 %. This is much higher than its WACC of 8 % implying that it was able to create shareholders’ value.
It has a low Reinvestment rate (Reinvestment/NOPAT).
I defined Reinvestment = CAPEX + Acquisition – Depreciation & Amortization + Changes in Net Working Capital.
From 2017 to 2023, it spent USD 1.1 billion for Reinvestment compared to the USD 7.1 billion NOPAT.
This is equal to a 15 % Reinvestment rate. This low rate meant that a large proportion of its NOPAT would be converted to free cash flow.
It has a good capital allocation track record as can be seen from Table 1. It was able to cover its CAPEX and acquisitions with the cash flow from operation. Most of the excess was then returned to shareholders via dividends and buybacks.
I would even consider Ball a cash cow. The only negative point I have is its debt-capital ratio of 68 % as of the end of Dec 2023. This is about double the sector ratio. Based on the Damodaran Jan 2023 dataset, the US packaging sector had a debt-capital ratio of 38 %.
However, with the sale of the Aerospace business, the debt would be reduced by USD 2 billion.
Note that the above assessments assume that we would have the same picture even if we excluded the appropriate contributions from the Aerospace segment.
I have shown that the Aerospace segment’s revenue, CAPEX and depreciation is about 10 % to 15 % of the respective company’s total. As such I think that the picture for just the packaging segment should not deviate too much from the overall picture (with packaging and aerospace).
Valuation
I valued Ball based on 2 Scenarios assuming that the sale of the Aerospace business has been fully executed.
- Scenario 1. The sales proceeds have been used to reduce the debt by USD 2 billion. However, the balance of the USD 3.8 billion is still with the company.
- Scenario 2. The sales proceeds have been used to reduce the debt by USD 2 billion. The balance of the USD 2 billion earmarked for share buyback is still with the company.
However, the balance of USD 1.8 billion has been used to acquire another packaging business.
The estimated intrinsic value under Scenario 1 was USD 60 per share while that under Scenario 2 was USD 62 per share.
The market price of Ball as of 4 April 2024 was USD 66 per share. As such I would consider that the market has fully priced in the benefits of the sale as well as the value of the existing packaging business.
Valuation model
I valued Ball based on a single-stage Free Cash Flow to the Firm (FCFF) model where the EBIT was determined based on the operating return on assets.
EBIT= Assets X Operating return on assets
For Scenario 1, the assets were assumed to be the 2023 assets. For Scenario 2, I included the USD 1.8 billion.
The operating return on assets was based on the average 2017 to 2023 estimates. I had earlier described how I derived this for the packaging business.
FCFF = EBIT(1 – t) X (1 – Reinvestment rate) X (1 + g) / (WACC – g).
Reinvestment rate = historical rate of 15% as shown earlier.
g = GDP growth rate of 4%.
WACC was based on the first page of a Google search for the term “Ball corporation WACC” as shown in Table 2.
Value of equity = Value of firm + cash + Other investments – Debt – Minority interests.
The cash, Other investments and Debt would depend on the Scenarios.
Table 3 illustrates the calculation for Scenario 1.
Risks and limitations
It would help if you considered the following when looking at my valuation.
- Operating return.
My operating earnings are dependent on the operating return assumption. Ball does not provide asset information by business segments. As such I had to estimate the assets deployed. For the packaging business, I estimated that it was 90 % of the total assets.
Would the picture be different if I had used a different % of the total assets?
A sensitivity analysis for Scenario 1 based on changing the % of total assets by about + – 10% showed that there was not much change in the intrinsic value. This was because the operating return on assets moved in opposite direction to the asset size.
A decrease in the assets used in the packaging business would lead to better return on assets. However, the base asset would be reduced.
Under Scenario 2, there was only a few dollars of change to the intrinsic value. They were not enough to change the margin of safety significantly.
The WACC used was based on the historical business profile. We know that the packaging and aerospace businesses are driven by different economic factors with different risks.
If you take the view that Beta reflects the business risk, we have the following.
- Based on the Damodaran Jan 2023 dataset, the unlevered Beta for the packing sector was 0.67. It was 1.23 for the aerospace/defense sector.
- In other words, the historical Beta used in deriving the historical WACC was based on some weighted average Betas of 2 different sectors.
With the sale of the Aerospace business, Ball is now left with only the packaging business which has a lower Beta. This would mean that the WACC would be lower. A lower WACC would mean a higher intrinsic value.
Would the new WACC be 30% lower to give you a margin of safety?
I don’t think so as the packaging business is about 85 % of the total revenue. In other words, more weight would have been given to the packaging business. Thus, without the Aerospace business, there might be some reduction in the WACC, but I doubt it will be a 30% reduction.
The Beta reflects the risk of the business. In this context, the packaging business is a mature one in the US. Growth will likely have to be from its international operations where the risks are higher. In other words, the overall Beta would be higher than currently. I did not factor this into my valuation.
Conclusion
Ball is a fundamentally sound company, with and without the Aerospace business. There were growths in revenue, operating profit, and operating returns over the past 7 years. The company is also financially sound.
However, the divestment of the Aerospace business meant that it is now fully invested in the packaging business. While the packaging business had higher operating margins, it had lower growth.
I estimated the intrinsic value of Ball given its new focus. I used the historical packaging business performance as the basis and made certain about the returns. On such I basis, I found that there is no margin of safety.
Editor’s Note: The article is from H.C. Eu who blogs at Investing for Value. He is a self-taught value investor and has been investing in Bursa Malaysia and SGX companies for more than 20 years. His value investment experience has been enhanced by both his Board experiences and his contacts with controlling shareholders of many Bursa Malaysia’s listed companies. These have given him a unique opportunity to be able to analyse and value companies differently from other research houses. If you enjoyed this piece, you can find similar pieces and other value investing tips in his blog.
