WestRock to Gain From KapStone Deal, Higher Input Costs Ail

On Mar 6, we issued an updated research report on WestRock CompanyWRK . Favorable industry conditions and positive volume along with pricing dynamics will drive the company's fiscal 2018 results. Execution of its capital allocation strategy and the acquisition of KapStone Paper and Packaging Corporation KS , once complete, will drive growth. However, increased debts to fund the deal along with inflationary costs of raw materials remain headwinds.

First-Quarter 2018 Results Top, Upbeat Outlook

WestRock's first-quarter fiscal 2018 adjusted earnings per share soared 85% on a year-over-year basis and also beat the Zacks Consensus Estimate. Despite commodity cost inflation, the company anticipates adjusted earnings per share in the second quarter to be higher than year-ago quarter's adjusted EPS of 54 cents.

Backed by overall industry conditions, positive volume and pricing dynamics, the company anticipates strong growth in fiscal 2018. Net sales growth is projected to be up approximately 10% year over year, leading to revenues of around $16.3 billion. Adjusted segment EBITDA is likely to be higher than $2.8 billion, a 20% increase over fiscal 2017. This includes approximately $275 million-$300 million in productivity and acquisition-related synergies.

KapStone Buyout Will Enhance Presence, Product Portfolio

WestRock previously announced that it will acquire all the outstanding shares of rival KapStone at $35 per share. On conclusion, the deal is anticipated to be accretive immediately to WestRock's adjusted earnings as well as cash flow and lead to around $200 million of annual cost synergies and performance improvements, with half to be realized within first 12 months.

KapStone's corrugated packaging operations will enhance WestRock's North American corrugated packaging business and provide complementary products in geographical locations that will enable WestRock to better serve customers across the system. The deal will help the company strengthen presence in western United States and to compete better in the growing agricultural markets in the region. It also fast-tracks its target to improve margins of North American corrugated packaging business. The company will also be able to broaden portfolio of paper grades, allowing it to capitalize on the kraft bag market with the inclusion of KapStone's complementary specialty kraft paper offerings.

Focus on Corrugated Packaging to Stoke Growth

In a bid to tap growing demand for corrugated packaging, WestRock bought the assets of Island Container Corp. and Combined Container Industries LLC - two independent producers of corrugated boxes, sheets and point-of-purchase displays. The company purchased five corrugated converting facilities in Ohio, PA, and Louisiana, from U.S. Corrugated, a large independent manufacturer of corrugated products for packaging and displays.

The acquisition of Plymouth Packaging will help the company to tap growing on-demand corrugated packaging market. Notably, the addition of Plymouth Packaging's Box on Demand system will enhance WestRock's differentiation in e-commerce and other custom applications, where on-site box making is required. The buyout will also fortify its automated packaging systems business. The pending KapStone deal is another step in sync with the strategy.

Inflated Costs to Hurt Q2

Transportation costs are being negatively impacted by winter weather. The winter weather is also pushing virgin fiber costs higher by 2-3%. During second-quarter fiscal 2018, commodity inflation is projected at around $40-$45 million pre-tax for the quarter. Moreover, the winter weather may have an additional $15-$20 million sequential impact.

Higher Debt to Fund Deal

WestRock plans to fund the cash portion of the KapStone deal through new debt and plans to refinance KapStone's assumed debts at the close of the deal. WestRock's current debt-to-capitalization ratio is at 37%. Higher interest expenses will affect margins.

WestRock has underperformed the industry with respect to price performance over the past year. The stock has gained 29.5%, while the industry has recorded growth of 30.5%.

Zacks Rank & Stocks to Consider

WestRock currently carries a Zacks Rank #3 (Hold).

Some better-ranked stocks worth considering in the same sector include Allegheny Technologies Incorporated ATI and CF Industries Holdings, Inc. CF . Both stocks sport a Zacks Rank #1 (Strong Buy). You can see the complete list of today's Zacks #1 Rank stocks here .

Allegheny Technologies has delivered an average earnings surprise of 41.72% over the past four quarters. Its shares have rallied 56% in the past year.

CF Industries has delivered an average earnings surprise of 72.87% over the past four quarters. Its shares have gained 56% in the past year.

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.

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