Is Brambles a buy, hold or sell?

Brambles (ASX:BXB) does pallets well. It does pallets very well.

It is a very focused business, on this one, rather dull, component of the supply chain.

Pallets are 1.1m x 1.1m wooden platforms that are used to stack goods so that they can then be conveniently loaded onto trucks and transported to warehouses, stores and so on.

The history of Brambles

Pallets form an integral part of the logistics supply chain for fast-moving consumer goods, fresh produce, retail and general manufacturing. It is not glamorous, nor high growth, but Brambles make a lot of money by being the best at it.

From humble beginnings in Newcastle, NSW, in 1875, it has grown into the world's largest pallet business.

Its business model is not selling pallets.

Rather it manages a pallet pool, which refers to their business model of issuing pallets to customers and then taking the pallets back when the customer has finished with them.

The company's main capital expenditure is for producing new pallets, so the more returns it receives, the less capital it has to spend building new pallets, improving its cash flow.

In its main markets of the US and Europe, most revenue comes from issuing pallets to customers, as opposed to a time-based fee for the period of use of the pallet. So, getting the pallets back and reusing them adds to Brambles revenue.

Circular business model

It places a lot of emphasis on having a circular business model. This is not only for its own sustainability credentials but is also part of its value proposition to customers to help the customer reduce their carbon footprint.

Brambles is now a top 30 company on the ASX with a market capitalisation of over $20 billion. It listed on the ASX in 1954.

During the 1970s it expanded into the UK and Europe and into the USA in the 1990s. Throughout its history it has diversified into different businesses only to divest them at later dates.

These have included the Cleanaway waste management business and the Recall records management business.

Today it is a global business with operations in over 60 countries mostly through the CHEP brand.

Market share

The vast majority of revenue is derived outside Australia with 55% coming from the Americas, 37% coming from Europe, Middle East and Africa (EMEA) and only 8% coming from Asia-Pacific.

Brambles has a competitive advantage in that it is the dominant player in the areas in which it operates. It is the only global operator providing pallet-pooling services at scale.

It is able to capitalise on economies of scale due to its extensive network of depots and service centres and operating efficiencies from the large pallet pool. This enables it to operate with a low cost base.

Brambles has 45% market share in the US and Canada, and 35% in Latin America. Its nearest competitor in North America has just 10%. Brambles is the biggest player in Europe with 33% market share. In Australia it controls 75% of the market with the other 25% held by competitor Loscam.

Brambles ranks very high for quality, with a Stockopedia Quality factor score of 97. The ROE is high at 24.5% and has grown strongly from below 14% five years ago to above 24% now. Operating margins are also consistently above 16% having hit 17.9% in the most recent period.

EPS has been growing at a five-year CAGR of 9.5% and over three years is even better at 13%. It is forecast to improve 12% this year and 11% next year.

Cash flow

Complimenting this is very high operating cash flow when compared to profits. Capex is quite high leading to a lower level of free cash flow, but still very healthy. During the pandemic customers had been hoarding pallets due to supply chain concerns.

This meant Brambles needed to produce more, increasing their capex spend, however over the last year this trend has reversed with a net return of pallets.

The balance sheet presents some areas of concern, without being alarming. The Bankruptcy risk, as measured by the commonly used Altman Z-score, is in the Cautious zone.

Contributors to this include the net debt to equity ratio of 64%. Working capital is negative meaning that trade payables are well in excess of trade receivables plus inventory.

There is also over $600 million in short term borrowings. Property, plant and equipment makes up 70% of total assets, a major portion of which is the pallet pool. Finally, asset utilisation is fairly inefficient with a sales to total assets ratio of only 0.7.

Results

In the first half FY24 results, revenue grew 10%. Net new customers were flat and like-for-like volumes declined 1%. Price growth of 11% was what drove revenue.

Following a trading update in April the share price took a tumble.

Despite reported sales growth of 9% and revenue growth on track with the guidance previously provided, the market interpreted the update as a slowdown.

This was due to sales growth declining from 12% for the first six months to 9% for nine months.

Price increases were 3% for the quarter compared with 8% in the first half. Volumes fell by 1%, driven by inventory optimisation at retailers and manufacturers.

Longer term, Brambles outlook is impacted by economic conditions as consumer demand flows through to demand for pallets.

The economies of some countries, including Australia have been slowing, but major economies like the US remain resilient.

Brambles continues to look to grow the business, planning to expand into geographies where its presence is limited including India, the Middle East and Africa.

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