Is Brambles a value trap?

Despite issuing a generally positive trading update in April, Brambles (ASX:BXB) shares continued to weaken. This was partly due to concerns about slowing global consumption. With this in mind, we recently researched the Company to assess whether the share price may have been oversold.

Overview Of Brambles

Brambles is the largest provider of pallet services. The Company’s main operations comprise the CHEP (pallets) division, which has operations in Americas, Europe, Middle East & Africa (EMEA) and Asia. In the US, Europe and Australia, CHEP’s market share is estimated to be 55%, 25% and 70%, respectively.

Key Fundamental Drivers

Pricing Strength to Moderate

The majority of the pricing growth reported for CHEP Americas (+19%) and CHEP EMEA (+12%) represented cost recovery. The reason for this is that BXB was able to passed through higher cost inflation and repriced existing contracts for better returns. The extent to which pricing in the US can remain firm through FY24 is contingent on rationality amongst the key pooling and white/recycled pallet competitors.

Pricing growth over FY24 is unlikely to be as strong as in recent periods, for two reasons. Firstly, improved pallet availability creates volume growth opportunities, which have largely been constrained. Secondly, the increase in pallet supply (from destocking) is expected to place downward pressure on pricing.

Improvement in Key Macro Indicators

There has been an improvement in recent macro data points, which auger well for volume growth in the near term. In particular:

i. Lumber costs, measured by the US Lumber PPI, fell by -38.9% in April 2023 (on a year-on-year (yoy) basis). In addition, actual wooden pallet prices, measured by the US Wooden Pallet PPI, fell only -9% yoy in the period. The implication from this is that the pricing spread for BXB widened over the course of April 2023. This means that the input costs of making a pallet fell further than the pallet’s sale price.
ii. US food and beverage retailer inventories continue to decelerate in terms of growth rate from 1H23.
iii. Key US transport costs continue to fall from peak levels. Recent US diesel price data indicates that fuel costs fell -30.1% yoy in May 2023, reaching their lowest level since February 2022. Additionally, the US linehaul freight rate fell -12.3% yoy in April 2023, reaching its lowest level since April 2021.

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Gearing Expected to Head Lower

Gearing (on a net debt to EBITDA basis) as at 31 December 2022 was 1.5x, which was up slightly from 1.4x as at 30 June 2022. Importantly, the gearing level still remains well below management’s target of <2.0x. There is also significant financial flexibility, with over US$1b of undrawn committed facilities and US$0.2b of cash balances.

One of the negative aspects of the half-year result was weakness in free cashflow (FCF). In particular, operating cashflow decreased 30%. This was primarily driven by increased CAPEX requirements due to timing of payments for pallet purchases. In addition, there was a cash impact of lumber inflation on pallets paid for in 1H23.

In the 3Q23 trading update, BXB noted that it now expects positive free cash flow after dividends. The positive outlook for free cash generation is further de-risked by the rapid fall in spot lumber pricing and lower CAPEX requirements for new pallets. With expectations of improving FCF, gearing levels are expected to progressively decline over FY24/25.

Fundamental View

BXB shares are currently trading on a 1-year forward P/E multiple of ~15.5x. While this is at a substantial discount to the average multiple of ~19x over the last three years, we consider the current multiple unappealing. Although improving FCF is clearly a positive for lower gearing levels in the future, it triggers a lower profit growth profile. The latter is reflected in an EPS growth of +2% over FY23-25 on a CAGR basis, which compares to a mid-to-high single digit EPS growth profile around 12 months ago. The lower profit growth profile is a function of:

i. Moderating revenue tailwinds in FY24, with pallet availability improving and deflation across logistics and lumber.
ii. Price rises becoming more difficult to push through should inflation moderate, especially in the context of softening consumer demand in the key operating regions (US, Europe and Australia).

Charting View

The steady increase in BXB has clearly now come to an end with high volume selling occurring off the highs. Even if BXB doesn’t continue to fall much more from here, it will most likely need to build a base before we can be confident it is ready to head higher again. For the moment therefore, BXB is one to watch from the sidelines.

Brambles (ASX:BXB) daily chart
Brambles (ASX:BXB) daily chart


Michael Gable is managing director of Fairmont Equities.


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