North American Paper & Forest Products: Q1/23 Preview
Extended Earnings Trough Sets-in; No Commodity Price Traction Awaiting Further Permanent Supply Reductions
Q1/23 earnings season for our forest products coverage universe starts April 25. For most companies, we expect q/q earnings improvement (helped by less- material inventory revaluations), but still close to near-trough results. Our Q1/23 EBITDA estimates are below consensus for five of the nine companies in our coverage, but most variances are minor. Our revised Q2/23 and Q3/23 earnings forecasts have a wider negative variance versus consensus estimates. Q1/23 downside expectations are weighted to lumber and panel producers.
Lack of traction necessitates changes to our 2023 commodity price forecasts for lumber and oriented strand board (OSB). Our 2023 Western SPF 2x4 price forecast declines 12% to US$405/Mfbm (three-year low and below trend). Our 2023 benchmark OSB price forecast declines 16% and is below trend. A lower liner-board price estimate (down 4%) for this year affects our Cascades forecasts. We have also tempered most 2024 commodity price expectations, but revisions are generally modest.
We are lowering our target prices for seven of the nine companies, primarily to reflect lower mid-term free-cash-flow forecasts. Our average adjusted trend EV/EBITDA target-price multiple of 4.8x is unchanged. Lower commodity prices are the main driver of our tempered earnings outlook, amplified by a more conservative wood products margin improvement profile. Canfor Pulp's target price declines to $2.50 from $4.25 previously, reflecting expectations of higher mid-term capex. Our recommendations are unchanged.
We are reluctant to take an overly negative bias near the trough of the earnings cycle. We expect that cash war chests will be eroded by seasonal working-capital builds in Q1/23, but expect that balance-sheet flexibility will be sustained in 2024. Current lumber valuations on P/BVPS, EV/EBITDA, and EV/Mfbm metrics are well- below long-term averages. On P/BVPS, the gap between lumber and home-builder equity valuations has expanded to 0.5x — the biggest discount in a decade.
We reiterate our sector MARKET WEIGHT stance. Our positive investment biases skew toward mid- to large-cap lumber producers. The sector is not immune to recession risk and is not catalyst-rich, but is, in our view, better positioned than previous cycles, given balance-sheet flexibility. Our top pick is WFG.