As of Monday, shares of Ranpak Holdings (PACK -1.49%) were up 163% since Dec. 13, 2018 -- the day it announced it was going public via a merger with a special purpose acquisition company (SPAC). By comparison, the S&P 500 was up by just 66%.
Market-crushing stocks typically attract a lot of attention from investors. But few Wall Street analysts cover Ranpak, and it has low average trading volume, suggesting there's little interest in it from the broader market. Are they missing out? Could this under-the-radar stock continue delivering strong gains in 2022 and beyond? Taking a look at the business, its growth potential, and its finances could help answer those questions.
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How Ranpak makes money
Ranpak makes paper and specialty machines that modify it for use in three primary purposes: filling empty spaces in boxes, cushioning products, and wrapping products. In 2020, nearly 35% of the company's total revenue came from the e-commerce space -- companies use Ranpak's eco-friendly paper products when shipping merchandise rather than options such as foam peanuts or plastic cushioning.
As of the third quarter of 2021, Ranpak had installed over 129,000 of its machines with clients, a 14% increase from the previous year. However, the company doesn't typically sell these machines to its customers outright. Instead, Ranpak leases the machines, which allows its customers to deploy these solutions with little upfront cost.
Because of this dynamic, a whopping 84% of Ranpak's revenue in the first three quarters of 2021 came from paper products, not the machines. It's a classic razor-and-blade business model -- it provides the machines to clients at a low cost (cheap razors) and then sells them a steady supply of paper they consume (expensive blades), which provides recurring revenue.
The gross profit margin on this business is higher than you might think -- 48% in the first three quarters of 2021, down slightly from 49% in the comparable period of 2020. And this isn't a software company where high margins are expected -- profits like those coming primarily from sales of paper products are pretty good.
Can Ranpak keep growing?
In 2020, Ranpak derived 47% of its revenue from Europe, 43% from North America, and 10% from Asia. And since its products are primarily used to support e-commerce operations, it would be accurate to call it a global e-commerce company -- and that's a sector that's poised for long-term growth.
According to estimates from eMarketer, the e-commerce industry is expected to account for almost 20% of global retail sales this year. By 2025, that share is expected to be closer to 25%. And annual global retail sales could be over $7 trillion by then.
As e-commerce sales volume grows, investors should expect more companies will become Ranpak clients, and can anticipate that its existing customers will consume even more of its paper products.
To be clear, this trend is already underway. As already noted, its installed machine count increased 14% year over year in the most recent quarter, suggesting it's winning new customers. Meanwhile, paper product revenue was up 25%, suggesting higher consumption among existing customers.
Ranpak's opportunity is greater than e-commerce. It listed industrial manufacturing, industrial machinery, warehousing, automotive, and electronics as use cases that each account for more than 5% of its revenue. So the applications for its paper products are broad, which could help it easily identify new potential customers.
Is Ranpak stock a buy?
Based on the available information, Ranpak appears to be a sticky business with room to grow. That's good. But I do have a couple of concerns that keep me from buying the stock today.
First, its operating leverage outlook is unclear. Beyond its slight gross margin decline, its "selling, general, and administrative" (SG&A) expenses in Q3 were 27.9% of revenue, up from 21.6% in the prior-year period.
Zooming out to the first three quarters of 2021, Ranpak only spent 25.8% of revenue on SG&A expenses, better than the 27.5% it spent in 2020's first three quarters. Therefore, it's hard to tell if the company is sustainably gaining or losing operating leverage -- perhaps that metric will always be lumpy. However, great stocks typically gain operating leverage over time. It's unclear if Ranpak enjoys this desirable trait.
Second, Ranpak has $452 million in goodwill and $414 million in intangible assets on its books. Those are very high figures for a company with a market capitalization of just $2 billion. At some point, management could be forced to revise these figures downward, resulting in large paper losses.
Despite Ranpak Holdings' strong stock performance and its promising growth potential, I'm willing to sit on the sidelines for now. But more clarity about its long-term profit margins could cause me to reconsider.
