After reporting its half-year results in December, DS Smith (LSE: SMDS) shares have come back onto my investment radar. The stock looks appealing to me and I’d buy the shares in my portfolio.
Here I’ll cover the investment case for DS Smith in detail.
An overview of DS Smith shares
In a nutshell, DS Smith is leading British packaging company. I think it has weathered the pandemic storm fairly well. I reckon this is down to its high exposure to two key customer groups: (1) fast moving consumer groups (FMCG) and (2) e-commerce companies.
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Let me explain what FMCG means. DS Smith makes packaging for some of the largest global food brands. These companies typically sell their goods in supermarkets and through online channels. Throughout the coronavirus pandemic, supermarkets have remained open as an essential service.
E-commerce companies have also remained busy during Covid-19. Like many others, I’ve been extremely dependent on online shopping during the lockdown period.
Covid-19
Despite these tailwinds mentioned above, the company has been hit by the crisis.
The Covid-19 restrictions caused disruption to DS Smith’s industrial and hospitality customers. This has impacted volume of packages being delivered. An increased in costs during the crisis has hit the company too.
I think the real knife in the gut was the fall in paper prices as European demand fell during lockdown. DS Smith manufacturers corrugated thick-paper and it derives a lot of its revenue from Europe. So a fall in paper prices has meant that DS Smith has had to sell the stuff at a cheaper price, thereby reducing revenue.
For now, the company reckons paper prices have somewhat normalised. I think things should improve from here as the economy benefits from the rollout of the vaccine.
Dividend
I’m pleased to see that DS Smith’s management team are prudent. This is one of the things I look out for when looking for stocks to buy. Prior to the pandemic, DS Smith shares offered a dividend yield of approximately 3%, which was covered by earnings.
During the Covid-19 crisis, management decided to suspend the dividend in order to conserve cash. In December, DS Smith decided to resume its income payments by paying a 4p interim dividend. For me, this is encouraging and I reckon that if the recovery continues, DS Smith may be able to resume full dividend payments soon. As an income hungry investor, this is one of the reasons why I’d buy the stock in my portfolio.
The risks
DS Smith is a cyclical business, which means that it’s dependent on how the wider economy is doing. This means that if the economy is suffering, DS Smith shares are likely to suffer.
There’s no guarantee on the dividend. So if conditions turn sour again, management could decide to suspend the dividend. DS Smith is dependent on the price of paper. If lockdown restrictions persist, there could be a fall in paper prices, which could impact revenue.
Growth drivers
What I really like about DS Smith shares are the long-term growth drivers. I think the shift to online shopping and sustainable packaging should help the stock.
I reckon the company is in a good position to capitalise these trends. The stock trades on a reasonable price-to-earnings ratio of 12 times. For these reasons, I’d buy DS Smith shares in my diversified portfolio.
