Pandemic delivers transformation for packaging industry

The packaging industry will never quicken pulses, but the pandemic has wrought an improbable transformation in the status of its best-known product: the lowly cardboard box.

With lockdowns forcing millions to turn online for almost everything over the past 18 months, the daily arrival of packages has supplied many with a rare frisson of excitement in a world robbed of shops, restaurants, cinemas and travel.

The unlikely outcome has also brightened the fortunes of the $350bn paper-based packaging industry at the heart of the ecommerce economy. The volume of cardboard used to deliver goods from retailers to households last year surged almost 40 per cent, according to consultancy Smithers.

Previously unheralded packaging companies are now must-own stocks. Since equity markets hit their low for the pandemic in March 2020, shares in London-listed Smurfit Kappa are up 84 per cent, those of rival Mondi have gained 58 per cent and the stock of New York-listed International Paper has almost doubled.

The three are among the heavyweights in a globally fragmented industry that also supplies the world with paper. Riding the pandemic-fuelled delivery boom has helped cushion it against the inexorable decline in demand for paper as more of daily life is digitised.

“The industry is going through the most substantial transformation it has seen in many decades,” said Oskar Lingqvist, an industry specialist at consultancy McKinsey. “Through Covid, it has been catapulted forward.”

With governments across the world determined to reopen economies for good, the quandary facing the industry is whether shopping habits learnt during the coronavirus crisis will endure.

Rising cardboard prices, which packaging companies are passing on to retailers, increase the risk that some of the explosive growth of the past year will unwind. Over the past six months, prices for the cardboard that is recycled into new boxes jumped from an eight-year low of about €100 a tonne to €160.

None of which shakes the optimism of Tony Smurfit, chief executive of Smurfit Kappa, Europe’s largest corrugated packaging company and a member of London’s FTSE 100 index.

“Trends are looking incredibly positive,” Smurfit told the Financial Times. “The pandemic has accelerated the ecommerce trend. That’s not going back.”

Indeed, executives say their biggest fear is failing to keep pace with demand. Sourcing containerboard, the heavy sheets that are layered to make corrugated board, as cardboard is known in the industry, is complex and the world’s biggest packaging companies do so in different ways.

Mondi makes all of its own from virgin and recycled fibres, which it then uses to produce finished boxes. DS Smith, a London-listed FTSE 100 group, buys a significant amount of the raw material for its boxes.

“Markets are very tight,” said Andrew King, chief executive of Mondi, whose market capitalisation has jumped from £7bn to £9bn over the past 12 months. “Box supply is constrained at any one time. We are selling out immediately.”

Despite the danger of customers balking, charging higher prices is a welcome fillip for packaging companies whose profits have lagged behind the electrifying performance of their shares over the past 12 months.

Operating profit at Europe’s large paper-based packaging groups dropped about a quarter on average in 2020 because of higher costs, which typically take months to pass on to retailers.

Those investors enthusing about the industry’s prospects say they are not simply banking on the pandemic accelerating the shift to ecommerce. The sector is also seen as a natural winner as consumer-facing companies replace plastic packaging with more sustainable alternatives.

Companies are enjoying “the structural tailwinds from ecommerce demand”, said Rebecca Maclean, investment director at Aberdeen Standard Investments. “The sector is witnessing a shift in customers’ preferences and investment towards sustainable packaging solutions.”

In the UK, for example, multinational consumer brands and supermarkets must make good on promises to eliminate unnecessary or problematic single-use packaging as soon as 2025.

Suppliers are conjuring a stream of new paper-based packaging such as six-pack beer rings or sausage packs to help them. L’Oréal, the world’s biggest cosmetics maker, is launching paper-based containers under its Kiehl’s and La Roche-Posay brands this year.

“The question for the brand owners is: will consumers be willing to pay more for a plastic alternative because plastic is the cheapest out there today?” said Justin Jordan, an analyst at Exane BNP Paribas. “Will I gain share by having my product in more sustainable packaging?”

DS Smith’s chief executive Miles Roberts said the company had recently signed a six-year contract with a consumer goods group, far longer than the six to 12 months that is standard, to collaborate on developing new packaging.

Larger packaging companies will prosper, he argued, as retailers and consumer goods groups seek suppliers with the scale necessary to produce identical, more complex packaging in different markets.

“Our customers want to work with large companies and work across multiple geographies,” he said.

It is why speculation is growing that an industry without truly global players will now have to create them through consolidation. Mondi was reported to have explored a takeover of DS Smith earlier this year.

Europe’s paper-based packaging market remains far more fragmented than North America’s, where the top six companies, including International Paper and WestRock, control roughly 80 per cent of the market.

US companies might choose to target European groups to secure the international reach that multinational clients want, said Thomas Rands, an analyst at Investec. “I don’t think the European guys will be big enough to attack America,” he said. “The American market wants the innovation from the European companies.”

If greater scale is desirable, there are obstacles to achieving it in an industry where sporadic attempts at consolidation have quickly fizzled.

Smurfit Kappa in 2018 rejected a takeover approach from International Paper, the world’s largest pulp and paper company, calling it “opportunistic”. Memphis-based International Paper told the FT it was now focused on snapping up smaller rivals in North America and Europe.

Explaining the still-fragmented nature of the European industry, the chief executive of Smurfit said it was not just about the money. “There are a lot of big family companies who believe in dynastic situations,” he said. They “are comfortable in their skins and want to stay there.”