WFT - West Fraser Timber

[Viking]

West Fraser just posted very strong results for Q2. However, the stock has sold off due to the weak US new home construction numbers. I just listened to the Q2 conference call and management continues to feel lumber prices will remain high due to growing demand and constrained supply. The US south is the only region in North America increasing supply.

 

West Fraser is a best in class operator and is ideally positioned to continue to benefit from rising lumber prices. Looks to me like lumber prices might stay higher for longer than currently expected.

 

Overview of their business: https://www.westfraser.com/investors/presentations

 

Insider buying: https://www.theglobeandmail.com/investing/markets/inside-the-market/article-insiders-buy-shares-even-as-west-fraser-timber-tumbles/

 

 

[no_free_lunch]

Thanks, spent some time on it and it seems solid.  Still much work to do.  Their track record is excellent and the data for housing starts is compelling.

 

This guy has a good track record and focuses on housing data:

 

Higher mortgage rates and the new tax policy appear to be impacting home sales in some areas. But this is a slowdown from a hot market, and I expect the key sectors - single family starts and new home sales - will see further growth. 

 

https://www.calculatedriskblog.com/2018/07/housing-comments-from-soylent-green.html

[Viking]

West Fraser said that increase in demand for lumber is running at twice the increase in supply. They expect this trend to continue for the next few years. One reason is lumber supply coming from BC cannot grow as mills transition from mountain pine beetle wood (which was being overlogged) to new wood; the allowable cut in the BC interior has come way down the past couple of years.

 

West Fraser has done a masterful job of anticipating the lower volumes in B.C. and grown its operations into the US south over the past 5 years. Their purchase last summer of Gillman was timed perfectly and they said on the Q1 call that it will exceed their return expectations (already). They also said on the Q1 call that as they upgrade the Gillman mills they will be able to extract 20% more lumber from the same tree volume (less waste). West Fraser is the low cost producer and they understand what it takes to improve operations at mills.

 

They are very good capital allocators. They are now buying back shares very aggressively in 1H at prices from $85 to $95. This looks to be continuing in Q3. This tells me that they see high lumber prices as not just being a temporary 2018 blip. They see demand growing more than supply for the next couple of years and this should keep prices high. Lumber is very cyclical; we are just starting the good times and the amount of cash the lumber companies are starting to earn is very impressive.

 

If the US economy continues to grow and if new housing starts continue to grow (which is what Calculated Risk feels is most likely the next couple of years given starts are still low based on historic numbers) then lumber prices could remain high for an extended period.

[Viking]

Lumber market running hot

https://www.woodbusiness.ca/industry-news/markets/lumber-market-running-hot-5031

 

Lumber producers profit from record prices

https://www.ft.com/content/3dc676f8-74d3-11e8-aa31-31da4279a601

 

What do forest fires, wood-eating beetles and US President Donald Trump have in common? They have all helped push the price of lumber to historic heights, leading to record share prices for lumber producers and higher prices for US homebuyers.

 

The price of lumber has increased 57 per cent since the start of 2017, according to the Random Lengths framing lumber composite price index, going from $356 to $571 per thousand board feet.

 

Analysts attribute the price spike to steadily increasing demand and a coincidence of supply shocks in British Columbia, one of the world’s largest producers of softwood lumber.

 

“When you have a tight supply chain, as soon as one thing goes wrong, prices skyrocket,” said Brendan Lowney, principal and macroeconomist at Forest Economic Advisors. “You almost have a vertical supply curve.”

[no_free_lunch]

Viking, how do you value WFT?  Earnings could probably be $10+ for next few years but then I am not sure what happens during a downturn.  Any general sense of full cycle average earnings?  Maybe it's not possible to calculate such a thing given it's commodities but I have to try.

[Viking]

No free lunch, I am still learning and getting back up to speed with West Fraser so I do not have my own strong thoughts on earnings. RBC is currently forecasting adjusted earnings of $14 for 2018 and $12 for both 2019 and 2020.

 

At this point I am thinking mostly about supply and demand for timber the next couple of years. I am from the B.C. interior so am very aware of the issues with pine beetle and what that will be doing to lumber supply coming out f that region in the coming years (flat to lower supply). It sounds to me like the US south is the only region that will be growing supply in the coming years. If demand grows as expected then prices will remain elevated.

 

It is also interesting to see the impact disruptions have on price. First we had abnormally bad forest fire issues last summer in BC. Then there were severe shipping issues, also in B.C. interior, in Q1. Given how tight the market was already both of these events spiked prices higher.

 

WFT looks to me like a decent leveraged play on the US economy. If the US economy continues to grow at 2-3% the next couple of years then WFT should do exceptionally well. As I continue to read more the next month or two I will get more of an opinion about earnings and the various probabilities.

 

I should also warn you; I worked in a WFT plywood plant for 4 summers (it put me through university) so I have a soft spot for the company :-)

[Viking]

What a difference a year makes. We had what appeared to be ‘peak lumber’ in 2018. Prices and profits were at cycle highs. 2019 has been a disaster for lumber companies. Prices and profits have plumetted. Lumber prices (and share prices of lumber producers) have been on a roller coaster ride. The good news? Most lumber producers are trading at or near 52 week lows.

 

How is demand doing? While new housing starts are soft, they are not falling off a cliff. More importantly, if bond yields continue to fall, mortgage rates should stimulate demand for new housing.

 

How is supply doing? The BC interior (one of the largest producing regions in North America) in the last 2 months has announced mill closures that will permanently reduce production by about 15%, which is significant. More closures are expected (this is being driven by the massive reduction in harvestable wood available due to pine beetle and forest fires). Bottom line, a supply shock is coming in Q3 or Q4.

 

Article discussing closures ( more have been announced since it was released): https://www.kamloopsmatters.com/local-news/slump-in-bc-forestry-industry-not-over-yet-bad-news-for-interior-communities-1590677

 

Investment thesis: if you think the US economy will continue to bubble along at 2% growth in 2020 and beyond then we may see another spike in lumber prices (and lumber stocks). If we get an uptick in demand for lumber (free money from the Fed goosing the housing market in the US) at the same time lumber supply is significantly ramping down (significant permanent mill closures in BC interior due to lack of fibre) we should see a spike in lumber prices and profitability of lumber companies. Not a bet the farm type of investment but perhaps one worth considering with a small amount.

 

As central banks rush to lower rates i wonder if all the free money will not over time create another asset bubble (bonds, stocks and real estate). If we get a real estate boom in the US in the next few years the lumber companies will once again soar in price.

 

North American lumber production down 3.5% through April 2019 (Western Wood Products Association's Lumber Track publication)

- Total production was 20.306 billion board feet, down from 21.037 bbf through April of 2018.

- U.S. output totaled 11.718 bbf through April, up 0.9% from the first four months a year ago. Production in the West was down 1.8% to 4.797 bbf, while output in the South gained 3.0% to 6.370 bbf.

- Canadian production totaled 8.588 bbf through April, down 8.8%. Output in B.C. dropped 16.2% to 3.587 bbf, while production East of the Rockies fell 2.7% to 5.001 bbf.

[no_free_lunch]

Thanks for the post.  I still don't have a position but it's getting interesting.

 

I came across this. They argue for significant increases in wood frame construction for environmental reason s.

 

http://www.bbc.com/future/story/20190717-climate-change-wooden-architecture-concrete-global-warming

 

[Castanza]

Lumber is up 26% since July. Potentially beginning to see the supply shock take effect. Q3 management seemed mildly optimistic that supply and demand would reach “a more balanced situation.” Q3 Lumber shipments exceeded production by 179 million board feet. Q4 results could be interesting.

 

 

[Viking]

Bought a little West Fraser today. In for an ugly couple of months perhaps year. But looking out 2 or 3 years, more houses will need to be built. With historically low interest rates it would not surprise me if home building was a growth engine in US GDP in the coming years. Stock looks cheap and they will be a survivor. Not as impressed with some of the decisions the past 2 years; clearly were too aggressive with share buybacks (at much higher prices) and their debt level is elevated compared to the past. I wonder if the current management team is average (past CEO’s were very good). I also bought A little Interfor (IFP) as they have made some solid moves over the past decade and look positioned well.

 

Does anyone have an opinion of what one is better today: WFT or IFP?

 

PS: Western Forest Products (Vancouver Island lumber producer) had a scrap with its union last year that resulted in an 8 month strike and a severe reduction in its operations. The company got through it just fine. This tells me i am likely way over-estimating the economic impact/cost of even prolonged shutdowns (i.e. of even 6-8 months) due to the virus. Prices of forestry stocks are likely crazy cheap.

 

———————————————————

 

Some recent buyers of WFT shares

 

West Fraser Timber Co. Ltd. (WFT-T)

 

Between March 9 and March 18, billionaire businessman Jimmy Pattison steadily accumulated shares in the market. He acquired a total of 1,275,000 shares at an average price per share of approximately $33.55 for an account in which he has indirect ownership (Great Pacific Financial Services Ltd.). The cost of these purchases, not including trading fees, totaled over $42-million.

 

Between March 9 and March 24, president and chief operating officer Raymond Ferris invested over $278,000 in shares of the company. He bought a total of 9,250 shares at an average cost per share of roughly $30.11, increasing this account’s holdings to 35,137 shares.

[Gregmal]

Anyone still following this? Interesting developments here of late.

[Viking]

Is there a way to update the ticker on this thread (to WFG)? With the Norbord acquisition (and NYSE listing) West Fraser changed their ticker from WFT to WFG. 
————————————

West Fraser is certainly interesting at current prices (US $74). Their acquisition on Norbord looks almost perfectly timed. They are going to earn crazy money in Q2.
 

Investor presentation (May 2021): https://www.westfraser.com/sites/default/files/presentations/pdfs/Q1-21 Earnings Presentation FINAL_0.pdf

 

In terms of what to do with all the cash:

1.) accelerate internal investments. = US $180 million (2H and into 2023)

2.) de-lever balance sheet - pay off all Norbord debt of US $650 million resulting in interest cost savings of $40 million per year

3.) return cash to shareholders - buyback stock: 6 million share authorization. My guess is with shares trading under $75 WFG will be aggressive and we could see this authorization increased when they report Q2 results. 
- https://www.westfraser.com/investors/news/news-releases/west-fraser-enters-automatic-share-purchase-plan-2
 

Brookfield is selling their significant stake in WFG; this will likely act as a headwind for WFG shares until it is completed and the shares are digested by the market. This may actually help WFG by enabling them to buy back a large amount of stock with a motivated seller on the other side. 
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Forbes article suggesting lumber prices may have peaked. Should we see lumber prices come down materially (lumber tends to move pretty quickly) it makes sense lumber stocks will sell off.

- https://finance.yahoo.com/news/market-tipped-lumber-prices-finally-214354176.html
——————————

Here is an article from the Atlantic that provides a pretty good summary of the current demand / supply imbalance. 

- https://www.theatlantic.com/science/archive/2021/04/climate-origins-massive-lumber-shortage/618727/

Edited June 6, 2021 by Viking

[Viking]

With its recent purchase of Norbord, West Fraser is now the largest OSB producer in North America. West Fraser has a current market cap of about US $9 billion. RBC estimates WFG will earn about US$4.5 billion in EBITDA in 2021; OSB will be about $2 billion = 45% of total. 
 

There is lots written about the spike in lumber prices. What about OSB prices? In short, the OSB ‘story’ is even better than lumber as the demand / supply imbalance is more acute. On the demand side, OSB is more levered to housing starts which are booming and expected to stay high (thanks to record low interest rates and very favourable demographic trends). On the supply side there is very limited excess capacity (lumber has more excess capacity than OSB).
 

There are only 10 producers of OSB in North America (much more concentrated than lumber) and their production facilities are running full out (there are only 33 OSB mills in operation today in North America). There are 3 facilities that were shuttered in recent years that can be brought back on line. West Fraser is bringing one back on line starting in Q2 (Chambord, Quebec). Louisiana Pacific is also bringing their Peace Valley (BC) facility online in 2H 2021 (they will be converting one of their other US facilities to siding in 2022 so this will not add new volume to the OSB market looking into 2H 2022). It takes 5 years to build a greenfield OSB plant. Bottom line, OSB supply in NA will be increasing modestly right as the US begins what will likely be a multi-year housing boom. 
------------------

Top 10 OSB producers in NA: https://forisk.com/blog/2021/03/23/top-10-north-american-structural-panel-producers/

Map of OSB mills in NA (slide 12): https://www.westfraser.com/sites/default/files/certifications/Q4 2020 Norbord Investor Earnings Presentation_FINAL.pdf

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Here is what the Louisiana Pacific (#2 OSB producer in NA) CEO had to say on their Q1 call on supply and demand dynamics for OSB:

 

John Babcock -- Bank of America -- Analyst - ...And then as far as overall demand for both Siding and OSP, can you just remind me when that tends to peak seasonally? I think it's sometime during the summer, but what is kind of the typical seasonal pattern here?

Brad Southern -- Chairman and Chief Executive Officer - Yes, John, really for -- in my experience here, and most of my time, I was inside and a little bit in OSB, really, September, October, historically in Siding has been really good. I think that's also true for OSB as people move into the winter and try to button up some jobs and get the house siding or [Indecipherable]. So we've typically seen really good seasonal demand now, have that demand plateau and the summer is kind of at a constant rate of construction. And then we would generally see a little surge in demand September, October as people were trying mentioned trying to -- what I think was people trying to complete some jobs before the winter weather hit.

So we're certainly in a historically in a really good time and season right now, and we're expecting to see continued very strong order files at least until October. But given the lack of inventory in the channel right now for both OSB, Siding and for EWP in there as well, I anticipate that even in the winter, we'll see pretty good order files as distributors and dealers take that opportunity to rebuild some inventory, they're looking into what we expect to be a strong building season next year as well.

Mark Wilde -- Bank of Montreal -- Analyst - Brad, I'm just curious, if you just think about the OSB market overall right now, if we were to see housing starts continue to move up, and let's say, we moved up to two million starts. Is it the capacity then there to serve two million starts?

Brad Southern -- Chairman and Chief Executive Officer - No. The capacity after the start-up of Peace and Chambord be 1.6 million, 1.7 million, probably. So we're looking at the -- so yes. Well, you think about it this way, Mark, in 2007, 2006, the industry was serving the two million start housing market. And we shut down and didn't start back up two or three facilities to -- and converted three or so to Siding. And then if you look at all the permanently shuttered plans since then, there hasn't been an offset in greenfields to get us back to that level. So the industry is more of a 1.5 million, 1.6 million, 1.7 million, with creep taking advantage creep in there. So it could be tight for a while.

Mark Wilde -- Bank of Montreal -- Analyst-Okay. And just remind me, like 100,000 starts is what, like 1.5 billion square feet?

Aaron Howald -- Director of Investor Relations - Yes, Mark, this is Aaron Howald. The two rules of thumb to keep in mind are about 100,000 starts, consumes about one billion feet of OSB. And you have to adjust that for the single-family mix. So a single-family start consumes about 3 times as much OSB and Siding as a multifamily start. So the market we're in right now is single-family mix north of 70%. You want to adjust that one billion feet per 100,000 starts upwards a little bit to account for that.

Mark Wilde -- Bank of Montreal -- Analyst- Okay. And then, Brad, I'm just curious, I mean, we're so far beyond anything that we have ever seen in terms of both lumber and OSB pricing. Are you guys sensing any areas in the market where you think there's some demand destruction taking place or demand deferral taking place right now?

Brad Southern -- Chairman and Chief Executive Officer - Well, yes, demand deferral, yes... But I do think that there is an issue around that from an affordability standpoint, of our projects for and maybe even some housing starts, and I think there could be some housing starts deferred just from an availability standpoint.

I don't currently believe there's demand destruction going on. Yes. You know that export panel exports, that's a little bit more coming in than in the past. But most other local markets are pretty strong. We're certainly seeing that in South America, I believe it's similar in Europe. And so I don't -- what we haven't hit yet is any kind of substitution threat. But I think we have to be realistic. I think there probably is some deferral happening either due to affordability or lack of availability of immediate supply.

 

Edited June 7, 2021 by Viking

[gfp]

I hadn't thought there was much of a substitution risk for OSB, since OSB is what I buy when I would prefer plywood but won't pay the price of plywood.  So as plywood stays high, more and more of the the plywood substitution goes to OSB.  It used to be I would never use OSB for roof decking and now it is almost 100%.  I never liked it for subfloors but now it is close to 100% (or at least the AdvanTech product from Huber, which is essentially OSB & resin).  With trusses and engineered joists backordered at a lot of yards, we are seeing plain vanilla OSB subfloors sit out in the Louisiana rain for months...  I wouldn't want to own one of those homes.

 

I wonder what the price point of Densglass sheathing (and similar products) is compared to OSB.  I have never used it and it seems mostly commercial construction but at some point if OSB keeps rising products like Densglass must become substitution threats for exterior sheathing.  I guess its like metal framing for residential - if the labor pool isn't used to using it, it won't get adopted.  OSB and house-wrap is still the cheapest way to sheathe a house and the labor pool can do it in their sleep.  I know our labor pool is still struggling to get competent with the zip system tape, which has been out for ages now.

[Viking]

US housing starts for May have come in just under 1.6 million. The issue appears to be shortages of some building items and my guess is OSB is one of them. Bottom line, the US/Canada are in a housing boom fuelled by crazy low interest rates. While we are seeing weakness in lumber pricing it appears OSB is holding at the highs. Overall this continues to be a very favourable set up for WFG.  

- https://www.calculatedriskblog.com/2021/06/comments-on-may-housing-starts.html

 

Total housing starts in May were below expectations, and starts in March and April were revised down slightly. Supply constraints probably held back housing starts again in May. 

...Single family starts are getting back to more normal levels, but I still expect some further increases in single family starts and completions on a rolling 12 month basis - especially given the low level of existing home inventory.

 

 

[Viking]

Forestry stocks are pretty unloved right now. Sentiment appears focussed on lumber futures and the fall from $1,600 to $900 level. A 44% decline must mean terrible things are coming... So lumber stocks are trading down around 25% from their highs. The interesting thing is the previous PEAK in lumber futures pricing was $600 in 2018. So with futures at $900 lumber pricing is currently 50% higher than the previous peak. Forest stocks are historically profitable at current lumber pricing levels. Terrible times indeed

 

(And the OSB market is still at all time highs.... but let’s just ignore that minor piece of information.)

[Spekulatius]

Mindboggling that these folks pay a 0.25 CAD dividend, while earning almost 7 CAD last quarter. Capital allocation at it's finest.

[Castanza]

Really pissed I missed the boat on this last March when it was in the teens. Caught sucking my thumb....DCA is low 40's