Canfor Corp RBC Report (target increase to $40)Commodity boom or commodity supercycle?
Our view: Canfor Corporation (“Canfor”) reported Q420 results that were above our expectations but modestly below consensus. In our view, Canfor has fallen below the radar of most investors for a few reasons, including: 1) its higher exposure to BC; 2) its higher leverage to pulp; and, 3) its more complex corporate structure. With a significant reduction in duty rates and rapidly improving global pulp markets, we view Canfor as an attractive way to gain exposure to rising commodity prices.
Key points: We are reiterating our Outperform rating and increasing our price target to $40 – Our price target is based on a blended multiple of ~6.5x on our Trend EBITDA of $815MM (85%) and our 2021E EBITDA of $1.8B (15%).
Lumber prices remain high and are showing no sign of cracking in the near-term – The Random Lengths Framing Lumber Composite surpassed the $1,000 mark this week, with both SYP and W. SPF pricing remaining at record levels. Given that we haven't even entered the busiest period of demand, we see few negative catalysts for the space. Even with the recent rise in interest rates, the 30-year fixed mortgage rate remains near record-lows at 2.97%. On a conference call earlier this week, Toll Brothers noted that mortgage rates would need to go over 4.0% to really have an impact on the soaring demand for housing. Even export markets, which are important for Canfor, are starting to pick up and could help to pull some supplies away from the North American market. At our current forecast, we expect Canfor to generate over $1 billion of FCF this year which translates to a ~25%+ FCF yield.
The European SPF business is looking like a great buy now – In 2020, VIDA generated ~$178MM of EBITDA and we expect that the company could do even better next year with the integration of the acquired Bergs Timber assets. While the company took some heat for the acquisition back in 2018, we think Canfor is coming out well ahead with the acquisition. Given the implied valuation at the time was ~$830MM, at 2020A EBITDA the acquisition multiple of ~4.6x screens as quite attractive.
We also upgraded Canfor Pulp to Outperform today – With pulp prices soaring on increased demand from China and a number of other factors (incl. a global container shortage, increased winter downtime, currency, futures markets, etc.) we expect that the pulp business will swing from a detractor to a material contributor in 2021. We expect that this will add to the Canfor story and offer some diversification going forward.
Let's not forget that Canfor has almost $5 per share of duties on deposit – While a resolution is likely still a few years away, we expect that Canfor will eventually receive a large portion of the duties back. We ascribe no value to the duties in our valuation, so any cash back would be gravy.
Price target/base case Our $40 price target is based on a blended multiple of ~6.5x on our Trend EBITDA of $815MM (85%) and our 2021E EBITDA of $1.8B (15%). We believe the company should trade near the middle of the typical range for Canadian Paper and Forest Products companies (range 5.0x to 7.0x), reflecting extremely strong lumber markets in North America, its high quality European franchise, and improving pulp fundamentals.
Upside scenario Our upside scenario value of $49 corresponds with a blended valuation multiple of ~7.0x.
Downside scenario Our downside scenario value of $12 corresponds with a blended valuation multiple of ~2.0x.