Our view: West Fraser reported Q222 Adjusted EBITDA of $1,124MM compared to our estimate of $998MM and consensus of $1,049MM. While record profitability and large return of capital events are likely in the rearview mirror for now, we continue to like West Fraser's low-cost positioning as the cycle turns, and note potential valuation tailwinds as solid balance sheets across much of the sector help drive consolidation.
Key points:
Increasing our price target to $120 (up from $105) and reiterating our Outperform rating – Our price target is based on a blended ~6.2x multiple (up from on our Trend EBITDA of $1,525MM (85% weighting) and our 2023E EBITDA of $1,698MM (15%).
North American outlook revised downward on slowing demand, transportation constraints. In North America, management expects that softness in the housing market could negatively impact lumber and panel demand in the short term, and noted that it also continues to face transportation issues that could cause the company to revise its operating schedules lower. However, management also views longer term demand fundamentals as favourable, and said that R&R activity has remained relatively robust. New residential and R&R activity comprise 55% and 26% of North American OSB demand, respectively, and 33% and 40% of North American lumber demand, respectively. We expect West Fraser will monitor OSB market conditions carefully as it aims to restart the Allendale mill in Q123, despite what should be a long ramp to nameplate capacity. Please see Exhibit 2 for the company's 2022 outlook.
European OSB demand slowing, but new supply constraints may help balance the market. In Europe, management noted slowing OSB demand across its end markets, and revised its shipment guidance for 2022 downwards by ~100 mmsf, although it also noted that supply in the European market from Russia and Belarus should be negatively impacted by sanctions that took effect on July 10. Meanwhile, West Fraser continues to ramp production from Inverness Phase 2 and its Genk facility.
Repurchases seem likely to slow with reduced cash generation and dwindling NCIB room – After repurchasing 16.0 million shares in Q222, including 4.1 million shares for $329MM through the normal course issuer bid ("NCIB") program and 11.9 million shares for $1.13B through the substantial issuer bid ("SIB"), West Fraser noted that it has room to repurchase up to ~3.0 million additional shares under its current NCIB program, which expires in February 2023.
No comment on Kronospan and CVC – Management believes its statement issued on July 19 downplaying talk of a transaction was clear, and did not comment on the situation on the conference call. Please click here for our take on fair value in a potential takeout scenario.