International Paper: Hold Rating Pressed Between A 5.5% Dividend Yield And Earnings Declines

Research Note Summary

In the late 1980s movie Wall Street, the character of Gordon Gekko tries to take over a fictional company called Teldar Paper, in a well-known scene that is memorable to us 80s kids who love movies about what the "street" was like in those days long before the internet and online trading.

Today in 2023, I am covering an actual company, International Paper (NYSE:IP), and taking what some may consider a boring product, packaging material, and deep diving into whether this stock presents a portfolio investment opportunity right now.

Turns out, sometimes boring is a good thing, as a potential dividend-income play.

That is why in today's note I gave it a neutral/hold rating, as I don't consider it quite a sell at this price, but also it is not pointing me to a buy opportunity either.

Positives include a dividend yield of 5.6%, as well as decent return on equity and positive cash flow.

Negative points include lackluster YoY declines in revenue and earnings, a struggling sector, underperformance vs. the S&P500, and falling equity.

A key risk identified was rising debt loads, but this was offset by lower interest expenses.

This year's holiday shopping season is almost upon us, and we know how important packaging is in that regard, so I am hopeful that Q4 numbers will be slightly better.

Methodology Used

My WholeScore Rating methodology looks at this stock holistically across multiple categories including key risks, and assigns a rating score. I exclusively cover stocks and foreign ADRs that are dividend-paying and trade on major US exchanges only (NYSE, Nasdaq).

Some of the data comes from the most recent FY23 Q3 results from October 26, while the forward-looking sentiment relates to the upcoming FY23 Q4 earnings results expected on Feb. 1st.

Growth vs. Industry Peers

I put together the following table to compare 5 peers in the packaging products sector, and how International Paper compares to some of its peers.

As the table shows, this peer group generally struggled with YoY revenue growth, indicating sector weakness in sales and demand most likely.

International Paper was somewhere in the middle of the pack, but still underperformed the peer average and missed my goal.

Within this peer group, International Paper described itself as follows in their earnings release:

"Global producer of planet-friendly packaging, pulp and other fiber-based products, and one of North America's largest recyclers. We serve customers worldwide, with manufacturing operations in North America, Latin America, North Africa and Europe."

From what I gather in researching their commentary, this industry is impacted by customer demand for packaging which affects sales volume, while at the same time it is impacted by input costs such as the raw materials to make the packaging, and running the manufacturing facilities and so on. This appears to be a capital-intensive industry, from what I see.

A slump in demand for what they produce certainly has an impact, which was highlighted back in July by an article in Kiplinger.

According to the article,

"Weaker cardboard box demand signals weaker demand for goods, a blow to leading North American boxboard producers like International Paper and WestRock. But service industries in developed economies like the U.S. remain resilient, which is cushioning the blow from the diminishing demand for physical goods."

So, another reason for me to not be super bullish on this stock or industry right now, yet not overly bearish just yet either.

Financial Statements

The financial statements of relevance would be the income statement, cash flow statement, and balance sheet.

The picture is not too rosy, with YoY revenue seeing an almost 15% decline after the recently released results, and net income dropping YoY by almost 83%.

Positive equity also fell, and it is worth noting that this company has a growing debt load, which I will discuss further later in the section on risks.

The bright spot in this table was a YoY increase in positive cash flow per share, so I think that positive cash flow is one good metric about this company.

The cost side certainly saw headwinds, particularly in the industrial packaging segment. According to the company's Q3 remarks, "input costs increased, primarily for energy, freight and recovered fiber."

Now that Q3 is behind us, if we look at the company's outlook for Q4, we can see a mix of higher cost inputs for OCC (old corrugated cardboard) but also expected higher demand. Keep in mind, the holiday season is just around the corner, and all the boxes that will be needed!

One positive call out about this company is that it is on the path to reducing its cost burden. Within its industrial packaging segment, for example, it has taken necessary steps to control costs, which in my opinion may help the bottom line numbers eventually.

Dividends

The dividend yield of 5.6% is 147% above the sector average, so it beat my goal and I would include this stock in my "dividend quick picks" of the week for this reason of having an above-average yield.

However, in terms of comparing the quarterly dividend from this fall with that of 3 years prior (Nov. 2020), the dividend actually saw a 9.4% decline in this period, which I don't think is a great sign.

When that occurs, it typically may be because the company is on hard times and needs to preserve as much capital as it can, so will reduce the dividend.

It appears from the 10-year dividend growth chart that the dividend decline began around 2020, which was the pandemic year, and continued to now. I think first the company will have to improve its profitability, and then will likely bring that dividend back up to its prior level again.

Share Price vs. Moving Average

For this share price, I am tracking the 200-day simple moving average (orange line) to gauge the longer-term price trend. As you can see, it has been on a downward slope for the better part of the year, and then plateauing this summer and autumn, so I think the price free-fall off the cliff is done with.

However, the question is whether at $33.25, as of the writing of this article, it presents a value buying opportunity?

In the table below, I determined that this share price did not meet my goal, which was to find a stock that is dipping 5% or more below its 200-day average, as a dip buying opportunity. This one has not quite dipped enough to justify a buy, I think, considering all the other negative factors of this company I mentioned.

So, I will pass on this buying price for the moment.

Performance vs. S&P500 Index

When talking about the market momentum of this stock, since spring there has not really much of it to speak of. As my table shows, its 1-year price return is in the negatives, and also near 113% below the S&P500 index.

It is not alone in its sector when it comes to downward momentum. For example, its peer Amcor (AMCR) has a -25% price return over this period, far worse than the S&P500. You can see a similar story with Sealed Air Corporation (SEE), which saw a -34.6% price return.

So, I suspect the headwinds are sector-wide in this industry as it is struggling with drops in demand coupled with trying to manage costs.

Valuation and ROE

When it comes to looking at this company's valuation and return on equity, it is a mixed bag.

On the one hand, its forward P/E ratio is overvalued by almost 10% vs. the sector average, even though earnings are struggling. That tells me perhaps the market is expecting forward earnings to improve, or are a little too optimistic. However, it is more likely that the "earnings" side of price-to-earnings has declined, as I showed earlier, and it impacted the ratio.

At the same time, the forward P/B ratio is undervalued, and almost 22% below the sector average. I would say it is likely due to the drop in equity, so in other words the book value side of that ratio is likely lower. Earlier I had mentioned that shareholder equity had seen a YoY decline.

One positive to call out in this section is that return on equity beat the sector average by almost 2%. I think this could be a step in the right direction. However, its peer Amcor has a much better "ROE" at 26%. Just something to think about when comparing peers.

Key Risks

I have been preaching lately on this portal the key risk of too much debt, which leads to high cost of interest in the current environment.

In the case of International Paper, the long-term debt has risen by 18% on a YoY basis, which I think is too much rising debt for a company that is also struggling with revenue and profitability.

However, interestingly enough the downside risk is offset by an interest expense that has actually declined by 61% on a YoY basis.

The last quarter it came down to $58MM in interest expenses, a far improvement from the prior two quarters where it topped above $100MM.

Based on the above, I created the table below which determined that the risk impact is medium and the risk probability is medium-high, so the total risk score is still within my tolerance level for now, though it is borderline with being too risky at this point.

A potential "upside" risk to my neutral sentiment may be that this upcoming holiday season turns out to be a blowout season for sales, and that demand drives the need for more packaging, which will help this firm.

I think that remains to be seen, and we have a Fed doing everything it can to "cool down" the economy in the name of reducing inflation.

WholeScore Rating

In today's note, this stock got a WholeScore rating of 4, earning a hold/ neutral rating from me today.

My rating today agrees with the SA quant system which also gave this stock a "Hold" as you can see below, but I think the analysts and Wall Street may be unjustifiably too bullish on this stock right now.

My Forward-Looking Sentiment

Let's face it, this company makes a relatively boring but highly necessary product, without which a lot of the world's supply chain of products would not be possible since you need packaging for your product inventory.

However, its peer group has been in a difficult spot lately, affected by revenue and earnings sluggishness, and in the case of International Paper a high debt load as well.

I remain neutral on this stock, seeing it as a dividend income opportunity at $0.46 per share quarterly dividend and over 5% yield.

Looking forward, the holiday season should give its Q4 numbers a bump I think, and I hope to do a 3-month review of this stock at a later date.