Durango (GID, 9.56, NYSE)
Cartons R Us would be an apt slogan for $473 million in revenues Mexican paper company
Grupo Industrial Durango. The company is 75% owned by the Rincon family's
Corporacion Durango and is the leading producer of paper based packaging in Mexico.
Durango's packaging products account for 85% of its revenues and include egg cartons,
containerboard, corrugated containers, and paper sacks and bags. The company also
has a forest products division which contributes 15% of revenues.
Durango shareholders suffered through a year that they
would rather forget in 1998. A wholesale dumping of emerging market stocks and weak
paper industry conditions combined to drag the company's stock price from 16 1/2 in
October 1997 to a December 1998 low of 4 1/4.
The company suffered a loss of 8 cents a share in 1998 as
weakness in the Mexican peso exacerbated the effects of tough conditions in the
containerboard and packaging markets. Falling demand from recession plagued
Asian economies and industry overcapacity combined to create a deflationary pricing
environment for the company's products in 1998 and into the first quarter of this year.
This year's rebound in Asian economies and an effort by
the global paper industry to control its output and inventory levels have led to a more
stable operating environment for packaging company's in this year's second quarter.
Pricing power is gradually returning to the industry as demand picks up and producers make
efforts to deal with the industry's overcapacity.
Durango returned to profit in 1998's fourth quarter,
posting a profit of 98 cents a share, and continued its improvement in this year's first
quarter despite a still tough operating environment. The company posted a profit of
65 cents a share, compared to last year's 8 cents, as operating margins climbed to 18.2%
from last year's 17.5%.
Industry conditions have continued their rebound in the
second quarter, and the company is expected to post a full year profit of $1.43 a share
this year, putting the shares on a forward P/E ratio of 6.7. The current consensus
estimate for next year is $1.70 a share.
Durango's shares have taken part in this year's rally in
cyclical stocks, but the shares continue to trade at a deep discount to the average paper
stock. Durango is trading at 0.6X book vs. an industry average of 2.3, and at 0.7X
sales for 0.98 for the industry. The company is one of the few Mexican company's
with a low short-term debt level, and has strong cash flow. The shares are trading
at 2.7 times cash flow versus the paper industry average of 10 times cash flow.
Durango's return on equity is 20.1% versus the industry's 6.6%.
The shares are a play on a continued rebound in the
emerging markets economies and in the deeply cyclical containerboard and packaging
industry. The IMF's recent approval of a peso insurance fund for next year's Mexican
elections partly alleviates the currency risk of investing in Mexico. The
principal risk faced by investors in these shares is the lack of pricing power and
falling demand that would result if either a).the global economy suffers a setback, or b).
if paper producers fail to deal with industry overcapacity.