Boise Cascade (NYSE:BCC), a manufacturer of engineered wood products, plywood, lumber and other wood- based building materials, made its debut on the New York Stock Exchange at the start of the current calendar year. The recovering US housing sector and better than expected results had pushed the stock higher peaking at close to $33.This price was higher than the IPO price of $26. However, after the recent statement by the Fed chief, the expectation of a cut in quantitative easing spurred a fall in the stock price as all industries and companies closely linked to the housing sector started to decline. From mid-April to mid-September the stock price continuously fell eventually bottoming at $22.8. After the fears of a bond purchase cut were quelled the company's stock started to recover and currently trades close to its IPO price.
I believe that the current fall in share price has provided an opportunity for investors to garner exposure for the current recovery in the housing sector. The improving employment rate, recovering economic growth and the improving housing sector will certainly benefit Boise Cascade as demand for its products continues to rise.
At present the company is inexpensive based on multiples. Forecasts suggest that the company will be growing at a CAGR of more than 13 percent over the next five years. The company's multiples are, on average, at a 30 percent discount to the industry averages. Combining these results with the high expected growth I believe the company will offer profitable returns to investors by the end of the year.
For the valuation of the company I have forecasted the company's finances for the next two quarters. I have calculated the target share price for BCC using an industry average EV/EBITDA multiple. Based on this valuation I believe that the company will rebound to its peak with a target price of $34 and a potential return of 27.5 percent.
The company's results are highly sensitive to the overall growth in the US housing and construction sectors. In particular the company is reliant on the growth in the construction of single family housing units.
Source: Moody's Economy
Based on the current forecast the gap between household formation and single family housing is quite wide. It is expected that this gap will shorten considerably in the coming years and this means high growth in single family housing in the next few years. This growth in single family units will increase the demand for BCC products and consequently improve its revenue and margins in the coming years.
Another factor that will help in attaining positive results will be the need for the remodeling of existing homes. Based on a study conducted in 2011 current homes in the US are of a significant age with approximately 76 percent of the existing housing stock having a construction date of pre-1990.
The graph above shows the breakdown of the US housing stock based on year of construction and the remodeling market index RMI future market indicators. A large proportion of housing stock with an age greater than 23 years means that the potential for remodeling does exist in the US. The RMI indicators are reaching historic averages which suggest that this particular market will also generate demand for building materials and consequently products of BCC.
The forecast for the remodeling and spending of homeowners in the US is in line with the RMI indicators and suggests that the industry will grow rapidly in the next few quarters. This will help the company to generate cash flows and in turn help the company grow in the coming years.
Combining the forecasts for the housing starts and the indicators of the remodeling market it seems that the industry of construction materials will likely see better results in the future.
Source: BCC Earnings Presentations
BCC has been able to post solid results over the course of the first two quarters of 2013 as a public enterprise. In the initial six months as a public company BCC has been able to grow revenues by more than 21 percent. It has also been able to increase its operating margin by approximately 100bps and its EBITDA margin by approximately75 bps.
For Q1 2013 company sales increased by $157.9 million or 27 percent and were driven by higher unit volumes and average per unit prices. Average composite panel were 50 percent higher and average lumber prices were 43 percent higher compared to the corresponding period of last year. The higher demand in the company's products has been spurred by a recent uptrend in the US housing sector. The total US housing starts increased 34 percent in Q1 2013 while single family housing starts, which have a greater impact on company's sales, increased 28 percent compared to last year. The data for the total and single family housing starts is shown in the graph below.
Source: Federal Reserve Economic Data
In Q2 2013 BCC's sales increased $119.4 million or 16.3 percent in comparison to last year and were driven by higher unit volumes and higher average prices. Average composite panel and average composite lumber prices were 26 percent and 17 percent higher than last year. The unit volume increase was driven by the increase in housing starts of 17 percent and an increase in single family housing starts of 14 percent. The slower growth was primarily due to a slowdown in the growth of housing starts, as shown above, and to a lesser extent the increase in prices.
Wood products sales increased $58.1 million or 27.5 percent in Q1 2013. The increase in segment sales was primarily due to higher volumes and an increase in prices of all the products in the segment. Plywood volumes increased 5.5 percent reaching 346 "mmcf" in the quarter while its price increased by 24 percent. The increase in prices helped increase sales by $22.3 million and the increase in volumes resulted in a sales increase of $4.8 million. Laminated veneer lumber LVL prices increased 1.3 percent while unit volumes increased 28.6 percent resulting in an estimated total increase in LVL sales of more than 30 percent. I-Joists sales increased an estimated 40.9 percent with a 36.7 percent growth in volume and a 3.1 percent price rise. Higher lumber volumes of 22.2 % resulted in a $3.7 million increase and an 11.8% increase in prices resulted in a $2.4 million of increase in lumber sales.
In Q2 of 2013 wood products sales increased $38.6 million or 16.3 percent and was driven by higher volumes and prices per unit. Plywood unit volumes increased by 2.6 percent and the selling price increased 13.1 percent. These improvements resulted in an increase in plywood sales of $2.5 million and $13.7 million respectively. LVL volumes increased by 18.1 percent and prices increased by 4.9 percent resulting in an estimated increase in LVL sales of 23.8 percent. I-Joist sales for the quarter increased an estimated 21.2 percent due to a volume growth of 13.8 percent and a price appreciation of 6.6 percent. A lumber sales price increase of 15 percent and volume growth of 5.7 percent contributed to a $3.5 million and $1.3 million increase in sales.
The building materials distribution BMD segment of the company recorded a growth in sales of $129.7 million or 28.7 percent in Q1 2013. Increases in prices and volumes resulted an 18 percent and 9 percent increase in segment sales, respectively. Sales of engineered wood products EWP increased by $26.5 million (44%), sales of commodity increased by $87.6 million (39%), and sales of general line products increased by $15.6 million (9%) compared to last year's sales.
In Q2 2013 BMD segment sales increased $101 million or 17.4 percent. Increases in pricing contributed to a 12 percent rise in segment sales and a 5 percent increase in overall sales. In terms of product line, EWP sales increased by 26 percent or $20 million, commodity sales increased by 25 percent or $70.4 million and general line product sales increased by 5 percent or $10.6 million.
The company generated an EBITDA of $33.2 million in Q1 2013 compared to $14.7 million in Q1 2012 and an EBITDA of $30.8 million in Q2 2013 compared to $28.3 million in Q2 2012. The EBITDA margin of the company in Q1 was 4.5 percent and in Q2 2013 it was 3.6 percent compared to the EBITDA margin of 2.5 percent in Q1 2012 and 3.9 percent in Q2 2012.
Source: BCC Earnings Presentations
The lower margin of the company in Q1 and Q2 2013 was due to higher materials, labor and other operating costs. These costs were 88.1 percent of total sales in Q2 2012 compared to 86.5 percent in Q1 2013 and 86.9 percent in Q2 2012. On the other hand, the EBITDA margin of the company had increased in Q1 2013 due to lower costs and expenses in comparison to the previous year.
Another reason for the general improvement in the margin of the company is the rising difference between log and lumber prices. This rising price differential can be seen in the graph below. Although it has increased, the price differential is significantly lower than the historic levels. Therefore, I believe that the company's margin will improve as this differential increases and as the demand for new homes increases in the future.
Source: Forest Stewardship Notes
Another reason for rising margins is the increasing proportion of sales from high margin products. For instance the EWP sales increased to 15 percent of the BMD segment in Q1 2013 and 14 percent of the BMD segment in Q2 2013 compared to 13 percent of BMD segment sales in both Q1 and Q2 2012. Also, the increase in wood products sales as a proportion of total sales has also improved margins of the company compared to last year's reports. As the housing sector improves in the US, due to better economic conditions, higher employment and sustained low interest rates, I expect that the proportion of wood product sales will continue to increase as a portion of total sales. Consequently, this will increase the company's overall EBITDA margin.
In my conclusion I have decided to perform a valuation of the company based on an assumed year end EV/EBITDA multiple and the trailing twelve months EBITDA of the company. I have also based this on a forecast of the sales and EBITDA margin of the company.
Source: Yahoo Finance
As can be seen from the table above, the company is undervalued if compared to the industry average and is significantly undervalued compared to its closest peer Weyerhaeuser Company (NYSE:WY). For the purpose of this valuation I have assumed that the company will be trading at the industry multiple by the end of the current fiscal year.
In order to forecast the company's financial results I believe that BCC will be able to improve its EBITDA margin in the next two quarters due to a more favourable product mix partially offset by a decrease in the differential between lumber and log unit prices. I also believe that the company will be able to improve its unit volume sales in the coming quarters. The housing market is rebounding from the slowdown of the past few months thanks to rising interest rates and fears of the Federal Reserve cutting its bond repurchase program (Quantitative Easing). Based on these assumptions I have forecasted the following financials and valuation of the company.
The TTM figures are the accumulated figures of the current fiscal year and are based on the EBITDA and EV/EBITDA multiple. The calculated price of the company is equal to $34.Based on this valuation the company provides an upside potential of 27.5 percent. In order further justify the results of valuation and gauge the company's potential I have run a sensitivity analysis on its fair value by taking different EV/EBITDA multiples and EBITDA margin inputs.
Based on the sensitivity shown in the graph above the company provides a maximum downside of -11.8 percent at an EBITDA margin of 2.9 percent and an EV/EBITDA multiple of 8.12. The maximum potential provided by the company's current price and the value calculated is 73.6 percent at an EBITDA margin of 4.9 percent and an EV/EBITDA multiple of 12.12. Therefore, I believe that the company provides a good investment opportunity and a minimal downside risk. I recommend buying stocks in Boise Cascade.
Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.