Industry Reports

Deutsche Bank Reports Summaries

070710 Deutsche Bank Report - GPK and Affinity Merger

Deutsche Bank - Equity Research

Merger of leading folding carton producers Graphic Packaging Corporation (GPK.N, $4.89, not covered by DB) and Altivity (privately held) announced a definitive agreement to merge. GPK and Altivity are the two largest folding carton companies in North America, with Rock-Tenn and MeadWestvaco following closely behind. We view this consolidation as a positive development for the other folding carton companies.

Terms of the agreement

Altivity shareholders (Texas Pacific Group) will receive shares in the new Graphic Packaging, such that TPG will initially own about 40% of the combined company. Based on the pre-announcement price of GPK, the deal implied enterprise value for Altivity (including about $1.1B in net debt) of about $1.75B. An intra-day jump of 15%+ in GPK stock boosts Altivity's implied EV by approximately another $100MM.

What does this suggest in terms of valuation?

Altivity expects 2007 EBITDA to be “in excess of $200MM,” net of one- time items. At a transaction value of $1.75B, this suggests 8.75x '07 EBITDA for Altivity – giving Altivity credit for an estimated $50MM of cost savings and ignoring $35MM of cost reduction expenses.

What other companies might benefit?

The deal is apt to yield more capacity rationalization in the folding carton market and we believe should benefit the other leading players. Rock-Tenn has a 13% share of the folding carton market. MeadWestvaco is another large folding carton player, although the bulk of its sales are in beverage packaging, where GPK was already the only other significant player. International Paper and Caraustar also have substantial folding carton operations.

Industry valuation/risk

Paper companies are trading around 1.8x book value and 7.8x estimated “peak” earnings -- well more than half of the historically high “peak” multiple, but the average is distorted by companies with high asset value. The primary risks involve momentum in the economy, the health of demand within key grades like containerboard and white paper, and additional energy, chemical, and freight cost inflation.