Packaging Corp Earnings: Softening Consumer Demand Weighs on Volume; Shares Remain Expensive

No-moat rated Packaging Corp of America PKG reported mixed operating results for the second quarter as lower volumes weighed on top line growth, but cost management initiatives provided some margin relief. Revenue fell almost 13% year over year, largely driven by a double-digit decline in both packaging and paper volumes amid softening consumer demand. Packaging Corp continues to make operational improvements that led to additional cost savings in the quarter, but macroeconomic concerns weigh on consumer spending and set up a challenging second half of the year. Nevertheless, we’ve raised our fair value estimate to $113 from $108 per share due to increased near-term profitability in our forecast.

Packaging Corp continues to navigate a challenging demand environment as the shift in buyer preferences from goods to services, elevated inflation, and higher interest rates impact the packaging business. Within the company’s packaging segment, lower volumes and containerboard pricing resulted in sales declining 13% and segment margins falling over 400 basis points year over year. Despite sequential improvements in volume and segment margins, the packaging segment faces a challenging second half of the year. Management noted that it appears much of the destocking is behind us, but we expect some additional destocking and tepid consumer demand for goods will persist through the end of the year.

Within the paper segment, price hikes announced during the third quarter of last year continue to bear fruit as segment margins rose 500 basis points year over year. Nevertheless, paper demand continues to decline, leading an over 14% decrease in volume. Despite near-term benefits realized in the paper segment due to price hikes, we believe the secular headwinds facing the industry will result in additional volume and price pressure, with margins eventually dropping to the mid-single digits as lower prices more than offset operational cost savings.