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FRANKFURT - A decade ago, private equity couldn't get enough of plastic packaging. They snapped up companies making bags, films and trays to contain everything from food and fashion to drink to drugs, drawn by reliable cash flows and consolidation prospects.

But now the sector's not quite so in vogue. Many buyout firms are steering clear, and some of those holding assets are struggling to offload them at what they consider attractive prices, according to people involved in such deals.

This reversal illustrates how much the investment world has recalibrated itself in a matter of years, with environmental factors becoming dealmakers or breakers.

"No plastic packaging firm would pass our internal ESG check and we would pass even if such an investment would promise a large return," said Marcus Brennecke, co-head of EQT's private equity advisory team.

"While we have invested in plastic packaging in the past – we owned Faerch Plast from 2014 to 2017 – we would not buy a plastic packaging firm today."

Such ESG - environmental, social and governance - risks include new EU rules due to be brought in next year requiring packaging to be reusable or recyclable by 2030.

Private equity investment in the global plastic packaging sector has already slowed in recent years, with the combined deal values in 2016-2020, of $1.3 billion, being a third lower than in the five prior years, according to Refinitiv data.

HUNTING ECO-CHAMPS

That doesn't mean there are no deals to be done, though.

The plastic packaging market was worth $265 billion in global sales last year, according to figures from Market Data Forecast. Many investors continue to see the value in packaging assets, banking on solid growth prospects as no comparable substitute has been found for mass-market goods like food.

But they are hunting the eco-winners, which requires a close look at the details.

This week, buyout firm Lindsay Goldberg sold food and pharma packaging maker Schur Flexibles to Austrian investor B&C, days after CVC sold Sweden's AR Packaging to U.S.-based Graphic Packaging last week.

"We still consider the packaging sector to be highly attractive," Thomas Unger, managing partner at Lindsay Goldberg Europe, adding that the trend towards sustainability was becoming a decisive factor.

"Companies that score points with material efficiency, closed material cycles and the most positive ecological footprint possible will win," he added. "Companies that fail in this challenge will lose drastically in their value."

Partners Group, which was close to striking a deal to buy Schur in 2019, did not participate in the bidding this time, sources close to the matter said.

"We are very cautious about future investments in plastic packaging firms, for reasons including ESG concerns," said Juergen Diegruber, partner at Partners Group, whose portfolio firm Hoffmann, a caterer, recently switched to paper packaging from plastic to improve its environmental footprint.

SO, WHAT'S THE PLAN?

Having a plan to make an acquired company "greener" is proving essential, deal experts say.

Ontario Teachers' Pension Plan Board, which bought a majority stake in Portuguese packaging maker Logoplaste in February in a 1.4 billion euro deal, said it planned to make all the firm's packaging reusable or recyclable by 2025 and would increase the recycled content in its products.

Logoplaste even added ESG-linked interest costs to an institutional term loan last year, with the level of interest payments tied to its carbon emissions and use of recycled plastic.

Similarly, private equity firm SVPGlobal has revamped German packaging maker Kloeckner Pentaplast (kp) since it acquired it in 2012.

"kp's use of recycled materials is about three times higher than the competition. We have supported the company to set tangible ESG targets and we were delighted when kp issued the first-ever ESG ratchet-linked term loan in the U.S. market earlier this year," said SVPGlobal founder Victor Khosla.

That loan also sees interest payments linked to ESG factors.

Investors are likely to pore over ESG credentials in upcoming auctions.

Information packs have just gone out to prospective buyers of Polish plastic packaging firm Alupol, owned by Grupa Kety, while London-based private equity firm 3i is expected to launch a sale of Germany-based Weener Plastics next year.

Grupa Kety and 3i declined to comment on the upcoming auctions.

UNDER ESG MICROSCOPE

An investment banker who worked on a European plastic packaging deal earlier this year said the environmental factors had been under the investor microscope.

"Does the target use recycled raw materials, how good is the recyclability of its products etc? A low ESG score translates into a low multiple," he added, referring to a company's valuation as a multiple of earnings.

"While ESG was a marginal topic two to three years ago a large amount of work went into preparing ESG reports this time."

Some investors said that even companies in associated sectors face being impacted by the tougher line being taken on ESG.

A test of this could come when with the sale of printing ink maker Flint's flexographic unit, whose products are used to print on plastic and paper packaging, and which asked for first-round bids from prospective buyers earlier this month.

Flint declined to comment.

While there are doubtless opportunities to be seized in packaging, some investors aren't willing to take the risk.

"Plastic packaging - not for us. Our teams aren't fond of this, they'd struggle to explain it to our investors," said the Europe manager of one of the largest U.S. private equity firms.

"And who'll buy it in five years when ESG will likely be taken much more seriously than today."

($1 = 0.8193 euros)