Transcontinental; Blueprint Transformation Toward Packaging

The Company in a Nutshell

• TCL is the Canada’s largest printing company.
• With the acquisition of Coveris Americas, TCL is moving toward the packaging business.
• The company is now a leader in packaging and expect to develop new markets.

Business Model

Transcontinental Inc provides printing services in Canada and North America. The Company publishes consumer magazines and French-language educational, and community newspapers in Quebec and in the provinces of Atlantic. The largest printer in Canada, TCL is now moving its business toward packaging with the acquisition of Coveris Americas in 2018. The company operates 44 facilities employing more than 9,000 workers.

Source: TCL website

The company was evolving into a dying business (printing) and decided to proceed with a major transformation about a decade ago. The company now shows more than 50% of its revenue coming from packaging.

Source: Sep 2018 TCL presentation

Growth Vectors

Source: Ycharts

TCL hasn’t only diversified its business model in the past 10 years, it also found a way to generate more revenue. You can clearly see on the previous graph that it was about time. While revenues were on a down slope for several years, the acquisition of Coveris Americas is opening doors to new opportunities.

First, the company expects to generate economies of scale. Now that it operates an integrated platform with 21 new facilities, management plans on improving its margins as it integrates its new business.

Second, this transformational acquisition also leads to new markets for TCL. The company will now develop new market-ends such as agriculture, protein, beverages, performance packaging and advanced coating.

Finally, as the largest printer in Canada, TCL continues to optimize its printing business and generate consistent earnings. This is a continuous source of cash flow that will remain for several years. While revenue slowly decreases, TCL can use this extra cash flow to boost its packaging business.

Potential Risks

In a world where environmental values rise, we can wonder if it’s mandatory to print flyers and magazines.  For example, Montreal will debate if it’s going to allow the Publisac distribution going forward. While less people read printed publications, the environmental factor could hurt TCL business model faster than we can imagine. This is what often happens to consumer cyclical stocks; they either ride a wave or get swallowed by it. You can find better dividend paying consumer cyclical stocks here.

Source: Ycharts

TCL’s transformation toward a packaging business isn’t made without sacrifices either. The company saw its long-term debt surge by $1B following its acquisitions in 2018. The weight of this debt will not help TCL to remain competitive in a “hostile” environment where other US players may eye the company’s market shares in Canada.

TCL is at a cross-road and management must successfully integrate Coveris Americas. If new markets aren’t developed as expected, TCL will be left with not much growth vectors.

Dividend Growth Perspective

TCL has continuously increased its payout every year since 2002. In fact, TCL has been known for a shareholder friendly stock for a while now:

The company has been able to maintain a mid-single digit dividend growth rate while keeping its payout ratio well under control. Over the past 5 years, TCL showed an annualized growth rate of 5.59%.

Source: Ycharts

The price drop in 2018 led TCL to pay an interesting yield for income seeking investor. We expect TCL to continue increase its dividend by a mid-single digit growth rate going forward. With a payout ratio around 30%, there is plenty of room for TCL to increase its payments while continuing their business transformation.

TCL meets our  7 dividend growth investing principles.

Valuation

When you consider TCL major price drop from low $30’s to under $20, you may wonder if there is a deal here or if it’s a falling knife. Over the past 3 years, TCL valuation has been quite hectic going from a 5 PE ratio to as high as 12.50.

Source: Ycharts

For this reason, we rather use the dividend discount model to determine if there is an interesting entry point around $19. We used conservative dividend growth rates (5%) as we are a bit skeptical about the company’s growth vector. Since TCL contracted an important debt for its acquisitions, we used a discount rate of 10%.

Input Descriptions for 15-Cell Matrix				INPUTS
Enter Recent Annual Dividend Payment:				$0.84
Enter Expected Dividend Growth Rate Years 1-10:				5.00%
Enter Expected Terminal Dividend Growth Rate:				5.00%
Enter Discount Rate:				10.00%
	Discount Rate (Horizontal)
Margin of Safety	9.00%	10.00%	11.00%
20% Premium	$26.46	$21.17	$17.64
10% Premium	$24.26	$19.40	$16.17
Intrinsic Value	$22.05	$17.64	$14.70
10% Discount	$19.85	$15.88	$13.23
20% Discount	$17.64	$14.11	$11.76

Please read the Dividend Discount Model limitations to fully understand my calculations.

If you are expecting a 10% return on your investment, TCL price is still steep at $19. However, the company could turn things around fast if it successfully moves toward the packaging business.

Final Thoughts

TCL is the largest player in a mature (read slowly dying) industry; printing. As the world is going mobile, you can wonder who is reading printed copies these days. Fortunately for investors, management is well aware of the situation. This is why the company has performed a major transformation toward the flexible packaging industry. With the Coveris Americas transaction, TCL acquired of a strong expertise in technical film production that enabled insourcing of film manufacturing. This also helped to expand their portfolio and opened new markets. If management can achieve their transformation and generate economies of scale, TCL continues to please its shareholders with a ~4% yield.

 

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Disclaimer: We do not hold TCL.A.TO in our Dividend Stocks Rock portfolios.

Featured image source: Pixabay