Forestry stocks face challenges in 2017

The U.S. has slapped duties on lumber imports from Canada—yet again. These duties average almost 20 per cent. Worse, the duties apply retroactively from January 28 to April 27. This is likely to hurt the profitability of some Canadian lumber producers.

forestry stocksWe last published our Canadian forestry stocks survey in November, 2016. At that time, we wrote: “In 2017 . . . we expect forestry stocks to face challenges. One is growing protectionist sentiment in the U.S.” Indeed, the U.S. is imposing duties averaging almost 20 per cent on imports of Canadian lumber.

It’s possible that some American companies will protest against these duties. Home builders, for instance, will face substantially higher costs for their lumber. Home-improvement chains such as The Home Depot and Lowe’s Companies sell lumber to consumers. Significantly higher prices is likely to reduce their profit margins and demand for lumber.

Lumber exports elsewhere could raise earnings

Then again, the American, Canadian, Japanese, Chinese and some European economies continue to grow—albeit more slowly than before the financial crisis of 2008.

Canada’s trade agreement with the European Union could open up new opportunities for Canadian forestry producers.

Until this trade agreement gains traction, the U.S., China and Japan are likely to remain Canada’s top markets for exports of forestry products.

Western Forest Products (TSX—WEF) says China and Japan are its “key markets”. That’s likely why it’s doing relatively well. The company says Chinese urbanization has created a need to build 20 million new homes a year. Pacific Rim demand for lumber may rise since wood homes are safer than concrete buildings during Asian earthquakes.

Policy makers worldwide are using low interest rates to stimulate their economies and reduce unemployment. Low interest rates make housing more affordable. As long as rates remain low, we expect demand for housing in Canada and the U.S. to remain brisk. This, in turn, should raise lumber demand.

Also, relatively-low oil prices reduce production and shipping costs. So we still include lumber producers among our forestry stock buys.

Paper is suffering from structural shifts. The Internet is hurting paper publications. Some have folded. Survivors, such as Newsweek, are often available only online. Even when publications are printed, fewer copies cut the amount of paper needed.

Canadian producers face other problems. One is Canada’s aging plant and equipment. A second is the pine beetle that’s killing trees in Western Canada. So restrain your enthusiasm for forestry stocks. An experienced and successful investor told us: “I wouldn’t touch forest stocks with a 10-foot pole.”

If you still want to diversify your portfolio, however, we rate five of a dozen producers as ‘buys’. This is based on our six-criteria rating system: 1) profit; 2) forward price-to-earnings, or P/E ratio; 3) dividends; 4) operating margins and return on assets; 5) share price relative to its book value; and 6) net debt-to-cash-flow ratio.

Here are the five ‘buys’ based on these criteria.

■ Acadian Timber Corp. (TSX—ADN) is a Canada-based supplier of primary forest products in Eastern Canada and the Northeastern U.S. The company organizes its operations in two segments: N.B. Timberlands and Maine Timberlands.

■ Canfor Corporation (TSX—CFP) is an integrated forest products stock with facilities in Canada and the United States. The company produces softwood lumber, pulp and paper products, remanufactured lumber products, specialized wood products, wood pellets and energy.

■ Conifex Timber (TSX—CFF) manufactures structural grade SPF (spruces, pines and firs) dimension lumber and produces clean, renewable energy. Its segments include lumber and bio-energy.

■ Norbord Inc. (TSX—OSB; NYSE—OSB) produces wood-based panels with 17 plant locations in the United States, Europe and Canada. The company also manufactures oriented strand board, particleboard, medium density fibreboard and related value-added products.

■ Western Forest Products (TSX—WEF) is a Canada-based softwood forest products stock. Its operating business includes the harvesting of timber, reforestation, forest management, the manufacture and sale of lumber and wood chips, and the sale of logs. Western’s lumber products are currently sold in over 25 countries worldwide.

(You should remember that, while we currently rate these five forest stocks as ‘buys’, they are often viewed as trading buys as opposed to buy-and-hold investments.)

‘Fair’ lumber trade can hurt

U.S. President Donald Trump said in his campaign that he’ll either ‘re-negotiate’ NAFTA (the North American Free Trade Agreement) or rip it up.

In this environment, the U.S. Coalition for Fair Lumber Imports has gotten its way. This lobby group is making life difficult for Canadian forestry producers. This is likely to hurt the exports, sales and earnings of lumber producers in 2017. Keep this risk in mind.

This is an edited version of an article that was originally published for subscribers in the May 12, 2017, issue of The Investment Reporter. You can profit from the award-winning advice subscribers receive regularly in The Investment Reporter.

The Investment Reporter, MPL Communications Inc.
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