Questor: this firm’s Russian assets may be worthless – but here’s why we’re not selling

War in Ukraine is having profound consequences for companies that operate in Russia. They face the moral dilemma of deciding whether to maintain their exposure following the invasion of Ukraine and, as the Russian economy experiences the pain of sanctions, they also face considerable financial uncertainty.

One of this column’s previous recommendations, Mondi, has significant exposure to Russia. The packaging and paper specialist, which we advised readers to buy in September 2018, has made around 20pc of its underlying profits from the country over the past three years.

In response to Russia’s invasion it said it was “assessing all options” regarding its interests in the country. In an update earlier this month, though, it said it would rid itself of its Russian assets.

Clearly, is it highly unlikely to receive anything like the £587m valuation of its Russian assets as of December 2021. In Questor’s view, it may even be prudent for investors to assume that it will receive nothing at all in view of the scale of uncertainty that faces the country.

As a result, we need a wide margin of safety to reflect a decline in its near-term prospects when we assess its valuation, financial health and income potential.

Since the invasion began on Feb 24 Mondi’s share price has fallen by 18pc and is now 27pc lower than at the time of our original tip.

The stock trades on a price-to-earnings ratio of around 11.7, which suggests that investors have priced in a highly challenging period for the company. With dividends covered 2.4 times by net profits last year, its 3.6pc yield remains highly affordable and relatively attractive. Dividend growth, however, could be more limited in future than last year’s 8pc rise.

Meanwhile, its net-debt-to-equity ratio stood at a very modest 36pc in 2021. Even a likely reduction in net assets caused by the disposal of its Russian interests would still leave the ratio at an acceptable level. Similarly, interest cover of 11 last year highlights that reduced profits and an increasingly uncertain global economic environment are very unlikely to present difficulties in servicing present debt levels.

Of course, Mondi’s short-term future could also be hit by an increasingly likely global economic slowdown. Around half of its revenues are generated from sales of packaging and paper products to consumers and retail. High inflation that causes reduced spending power for consumers is likely to lead to lower demand for its products.

On a long-term view, though, Questor remains upbeat about the company’s prospects. The long-standing trend from bricks-and-mortar retail to online avenues has been accelerated by the pandemic. 

Today, 26pc of all UK retail sales are conducted online, against 9pc a decade ago, while Europe experienced a 15pc annualised growth rate in e-commerce sales between 2019 and 2021. The company’s investment in innovative e-commerce packaging solutions could therefore benefit from a long-term tailwind.

The world’s ongoing drive towards sustainability offers another major catalyst for growth. Around 50pc of the world’s consumers are willing to pay more for sustainable packaging. Since 78pc of Mondi’s revenues are generated from products that are either reusable, recyclable or compostable, it is well placed to capitalise on this trend.

Separately, the firm’s vertically integrated business model should help it to cope with high inflation. Owning various stages of the production process should make it less susceptible to price rises than would otherwise be the case.

In a trading update for the first quarter, the company said “higher average selling prices more than offset continued cost pressures”. As inflation weighs ever more heavily on investors’ minds, businesses that can pass higher costs on to customers may attract more of their attention – and money.

But we must accept that Mondi faces a tough near-term outlook. The disposal of its Russian assets and the prospect of a global economic slowdown are likely to weigh on its profits. However, with a low valuation, significant long-term growth prospects and a sound business model, it merits more time to deliver on its potential. Hold.

Questor says: hold

Ticker: MNDI

Share price at close: £15.64

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