Ardagh: Through the Looking Glass

Lauren Holland - Head of Paper & Packaging
Helen Rodriguez - Head of European Special Situations

EXECUTIVE SUMMARY
  • We present the first of a multi-part series on Ardagh Group S.A. (ARGID B3/B/B-) and Ardagh Metal Beverage Packaging Co (AMPBEV, B2/B/B) to help investors better understand the group.
  • To understand Ardagh’s value today, it is necessary to consider its genesis as a debt-funded acquisition vehicle and serial consolidator, and the impact that has on the quality of its assets and its operating efficiency.
  • Ardagh is the collective product of the consolidation phase that the global glass and metal packaging sector underwent between 2010 and the present day, particularly following the GFC-induced downturn in the sector. During this phase, players built up scale and rotated assets in order to rationalise their holdings in different packaging segments.
  • Ardagh was a willing participant in this sectoral asset rotation phase until leverage served as the brake on the proposed acquisition of Verallia’s European business in 2015. Ardagh had quadrupled the size of its business in the previous four years.
  • The high level of capex, exceptionals and ongoing restructuring that continue to divert cash from deleveraging reflects the M&A that built Ardagh, and the pressing need to integrate and optimize the various parts of the group. Ardagh is heavily FCF negative, yet underperformance in FY23 should pave the way for improvement in FY24. Ardagh ’s European glass business, while the best performer by business segment, is lower margin than its better invested, lower levered peers with the US glass business dragging on overall results. Ardagh ’s metal business has margins significantly weaker than glass, yet stronger than its metal peers.
  • Management indicated it expects 2024 volumes to show significant improvement as customers (consumer packaged goods players) lower end-market pricing to spark demand. As such, Consolidated EBITDA is expected to improve to approximately $1.4 bn, which would leave FY24 year-end net leverage at the Group level at 6.8x. Assuming consolidated cash interest payments of approximately $484 mn in FY24, FCF defined as EBITDA less capex and interest, is estimated to be $350 mn.
  • While there is a negative perception about Mr Coulson stepping back from the group, we think it may be an opportunity to re-engineer the business away from its historic function as an M&A vehicle, and towards a more conventional operationally-focused player with greater cashflow discipline.
  • That said, while we expect Ardagh will be able to revert to more stable operational KPIs in 2H24 as cost inputs normalise, the levers it has to alleviate the pressure on its credit quality necessarily include M&A and corporate finance solutions.
  • We will consider the levers it has at its disposal and debt capacity options in subsequent notes in this series.
RELATIVE VALUE

Since our last quarterly update, both ARGID and AMPBEV bonds have recovered in price as the shock from weak 3Q23 results and reduced guidance have subsided. As we have been inundated with questions from investors, we know the name has been topical to say the least. The price improvement is a partly the result of the overall market rally, as well as new entrants to the name at the discounted levels, and more experienced investors recognizing the buying opportunity.

Our core thesis around ARGID for 2024 is rooted in expectations for improved volumes, which allows for better fixed cost absorption, at some moderate expense in pricing. On net, we see ARGID positing a moderate overall EBITDA growth, from $1.3 billion in FY23 to $1.4 billion in FY24. Free cash flow, defined as EBITDA less interest and capex, will improve to $350 mn, mostly due to a reduction in development capex as projects have been completed and the company puts a near term halt to further expansion projects. Thus, with a $700 mn obligation due in 2025, the improved story should be received by the markets well enough to refinance. As far as the 2026 maturity wall, we believe the company still has a number of levers to pull, which we will address more in the next part of this series.

We continue to find the secured notes at AMPBEV and ARGID attractive as we believe there is solid value in the underlying assets, and the notes trade cheap to their peers at the unsecured level. USD AMPBEV notes offer 60-80bp of additional yield over similar maturity Ball Corporation (BALL, Ba1/BB+/NR, Market perform) which has been affected by the same industry fundamentals around destocking, and is still dealing with the hangover from the Bud Light fallout. EUR ARGID notes are particularly attractive relative to OI Glass, offering 200-210bp more yield over similar maturity notes. For ARDFIN, investors interests are effectively aligned with Paul Coulson. The CEO expressed confidence in the fact that a lot of challenges are in the rear view, and, if so, there is a lot of potential upside in the PIK notes over the next couple of years. While we recognize the difference in credit profiles currently, we think the current spread between the two names is 40-50 bp wide to where the bonds have traded in more “normal” environments. 

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