Rock-Tenn’s Simpson Acquisition Adds to an Already Strong Story

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Rock-Tenn (NYSE:RKT), a leading North American integrated manufacturer of corrugated and consumer packaging, recently announced its intentions to acquire Simpson Tacoma Kraft Paper Mill in Tacoma, Washington from Simpson Lumber Company (SSD) for $343 million. The mill houses two paper machines that produced 465,000 tons of paperboard last year. RKT will invest $60 million for the next 3 years in the mill and has also entered a 7-year wood chip supply contract with SSD. Although the deal is subject to customary closing conditions and regulatory approvals, the market share increase for RKT is not large enough to impact the acquisition.The proposed transaction would increase RKT’s North American container board market share to 20.7 percent, which is an increase of ~1 percent from current market share of 19.7 percent.

The price paid reflects less than 6x EBITDA post deal synergies and 1x sales. The deal is seen as an “asset purchase” by the company. RKT expects that majority of synergies from the purchase would be from freight savings and are likely to be realized in one year. Part of the synergies is expected from the lower paper costs and supply chain efficiencies and logistics. According to Barclays estimates, the deal could be ~$0.25 accretive after realization of expected operating efficiencies.

The source through which the acquisition would be financed is still not disclosed by the management. RKT has a underleveraged balance sheet and even if all the acquisition is financed through debt, the company’s leverage would increase from 1.8x to 2.0x only, still in-line with the company’s target of 2.0x. Management may also finance the acquisition through its A/R securitization.

Simpson’s acquisition is a good step forward by the management and represents a good strategic fit for the RKT. The company is currently short container board on the West Coast and converts 800,000 tons of container board annually in the region. RKT utilizes trade agreements along with shipments of container board from other locations in North America to paper these facilities. As mentioned earlier, a portion of the synergies will come from lower paper costs along with supply chain efficiencies and logistics. Commenting on the deal Steve Voorhees, RKT’s CEO said that, “The Tacoma Kraft Mill is a great strategic fit for Rock-Tenn.” He further said, “Adding a West Coast mill will improve our ability to satisfy West Coast customers and generate significant operating efficiencies across our system.”

We think Rock-Tenn management has made a structured and well-planned decision to acquire Simpson Tacoma. M&A would be a primary driver of differentiation for companies in the paper and packaging sector in 2014, and the Tacoma deal is positive development for the shareholders of RKT. Even without the acquisition, RKT remains a strong story fundamentally. However, acquisitions like Tacoma provide an upside to already strong profile. It shows both the willingness and ability of the company to differentiate itself via acquisitions in 2014. The company has industry leading earnings leverage to container board price hike. It has significant cost-reduction opportunities in the legacy Smurfit system, and it is also well positioned to benefit from the secular improvements in the North American containerboard market.

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