CIBC EQUITY RESEARCH
October 12, 2023 Earnings Revision
Q3/23 Forestry, Building Products & Packaging Preview
Expecting Another Weak Quarter
Our Conclusion
Heading into Q3 reporting, we are making further downward revisions to our
wood products estimates as high mortgage rates (7.6%+), concerns around
offshore lumber imports (+17% M/M in August) and Southern capacity
additions are weighing on industry operating rates. Last week, we
highlighted that 2024 consensus estimates may see meaningful downward
revisions in coming weeks (potentially over 50% for some LumberCos), with
the rebound that had been expected next year likely pushed out to 2025 (and
only a moderate uplift next year). Reflecting our more cautious outlook, we
have now reduced our EBITDA estimates on the lumber companies in 2024
by an average of ~51% (as well as reducing our Q4/23 estimates by ~70%).
Reflecting healthy OSB profitability, our estimates for West Fraser next year
have been reduced only ~20%. While R&R volumes held up well over H1,
channel checks suggest demand has eased in H2 with less renovation
activity tied to buying/selling (as active listings are down ~15% with
homeowners ‘trapped’ in their homes by low legacy mortgage rates).
While the sector is somewhat lacking in near-term catalysts, valuation looks
quite attractive on longer-term metrics (mid-cycle EV/EBITDA multiples two
to three turns lower than historical averages and 55%-75% discounts to
replacement), while SPF lumber prices have limited downside risk with
current levels already below breakeven for BC Interior producers. With share
prices across the group already having sold off since the summer, we expect
the market to look past weak H2/23 performance given still-strong balance
sheets, favorable medium-term demographic tailwinds for housing, and the
likelihood of the depressed lumber market accelerating permanent supply
reductions in BC.
Key Points
Commodity Deck Changes: Given the weaker demand backdrop and
downward pressure on wood products prices over the past few weeks, we
have decreased our lumber price deck. We now see W. SPF lumber prices
averaging $385/mfbm over Q4, $40/mfbm (~9%) lower than our prior
$425/mfbm estimate and slightly below spot prices (~$385/mfbm). We have
decreased our 2024 lumber price forecast by ~14% to $415/mfbm, and have
set our 2025 lumber price estimate at $490/mfbm.
On the OSB side, we still see North Central prices averaging $300/msf over
Q4. We have increased our 2024 OSB price forecast by ~7% to $365/msf,
and have set our 2025 OSB price estimate at $400/msf. Our Q4 and 2024
forecasts are still below spot prices (~$370/msf).
Commodity Deck Changes (Cont’d): We have increased our expectations for housing
starts (SAAR) in Q4/23 by ~5% from 1.45MM to 1.53MM (August permits were 1.54MM). We maintain starts holding at 1.45MM over 2024 and forecast starts at 1.58MM in 2025. Despite high mortgage rates, we expect new residential demand to be supported by builder
incentives. For NBSK pulp (China), we have increased our Q4 pricing assumptions ~4% to
$675/tonne, reflecting recent strength in pulp futures. We have increased our 2024 NBSK
(China) price estimate by ~1% to $750/tonne, and set our 2025 NBSK (China) price estimate at $800/tonne.
Recommendations: Within the LumberCos, our pecking order is: 1) West Fraser (low-cost
producer with best track record), 2) Interfor (pure-play producer, albeit with the least robust
balance sheet of the three), and 3) Canfor (cheapest valuation with greatest potential of being acquired). We remain on the sidelines on smaller-cap lumber producers with operations focused in British Columbia (Western FP and Conifex). In the building products space, we have Outperformer ratings on Doman and ADENTRA (specialty distributor with share gain upside). In the pulp/packaging space, our Outperformer-rated names include CCL (diversified global packaging platform), Transcontinental (printing demand concerns easing and falling input costs) and Winpak (defensive food/bev play with above-market growth prospects).
Price Target Revisions: Reflecting our more cautious outlook and the implications for
demand and pricing for wood products, we have decreased our price targets on ADENTRA
(from C$39 to C$35), Canfor (from C$28 to C$23), Canfor Pulp (from C$2.25 to C$2.00),
Conifex (from C$1.50 to C$1.00), Interfor (from C$32 to C$26), Mercer (from $8.00 to $7.50), Transcontinental (from C$17 to C$16), West Fraser (from C$141 to C$119) and Western FP (from C$1.25 to C$1.00).
We are also increasing our price targets on Doman (from C$8.50 to C$9.00) and Stella-Jones (from C$72 to C$74). The raises largely reflect higher EBITDA assumptions for 2024 (due to a reduced Canadian dollar forecast).