Should Weyerhaeuser Shareholders Tender For The WRECO/TRI Pointe Spin-Off?

| About: Weyerhaeuser Co. (WY)
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Since Weyerhaeuser became a timber REIT, it has shed itself of non-core assets and is currently shedding its homebuilder, WRECO, in a Reverse Morris Trust with TRI Pointe Homes.

Weyerhaeuser shareholders can choose to tender shares for the homebuilder or remain invested in WY. Both entities have interesting attributes, making the decision difficult.

This spin-off is the start of more similar activity by such timber REITs, including the forthcoming spin-off of Rayonier's performance fiber business. M&A activity could bring some parts together.

On May 22, 2014, Weyerhaeuser Company (NYSE:WY) announced that it is starting the exchange offer related to the split-off transaction of its homebuilding business, Weyerhaeuser Real Estate Company ("WRECO"). The company is shedding the homebuilding unit through a "Reverse Morris Trust" transaction, first disclosed on November 4, 2013. Through the deal, a subsidiary of TRI Pointe Homes, Inc. (NYSE: TPH) ("TRI Pointe") will merge with and into WRECO. The exchange offer and withdrawal rights are scheduled to expire on June 30, 2014. This is an analysis of whether WY shareholders should tender for spin-off shares, where I present the arguments for and against tendering WY shares.

What Tendering WY Shareholders Could Get

If a shareholder elects to tender some or all of their shares, the exchange should be U.S. federal income tax-free. Moreover, tendering Weyerhaeuser shareholders are expected to ultimately receive approximately $1.11 of shares of TRI Pointe common stock for every $1.00 of WY tendered and accepted. The amount accepted will depend upon the total amount tendered by shareholders and a fair allocation between them, if over-tendered, among other factors.

This homebuilder entity will be substantially larger than TRI Pointe was on its own, as WRECO is about three to four times its size. Though WRECO is not core to Weyerhaeuser's current plan of focusing on its timberlands, it was among the leading national homebuilders, with over one billion in annual revenue.

TRI Pointe is primarily focused on California, with some assets in Colorado before this deal. With WRECO, it will have a land position of more than 30,000 lots in seven states (plus D.C.), with approximately 19,000 lots in California. WRECO was already one of the 20 largest national homebuilders, and the combination could bring it into the top 10 in both annual revenue and closings. It may also strategically sell some of the vast WRECO assets depending upon market prices and geographic considerations.

This new WRECO unit will be a purer new home formation investment, which may appeal to a different or perhaps greater group of investors. Additionally, Tri Point's Chairman is Barry Sternlicht, who founded Starwood Hotels (HOT) and the Starwood Capital Group, and his oversight may attract interest. This also begs the question as to whether some of these WRECO assets may have some developmental potential other than homes, such as resorts, either under TPH or another entity.

The rather high short interest on TPH may be indicative of expectations for a correction to homebuilders generally, but there also appears to be a temporary exacerbation of that condition from the mechanics of this transaction. The resulting entity should have a far stronger balance sheet and a smaller short position.

Additionally, the company shall have a substantially larger market valuation. TRI Pointe has a capitalization below half a billion dollars, but TPH expects the combined entity to be worth $2.5 billion. This will take it from a small-cap to a mid-cap, and around the value of many of the top homebuilders in the U.S., such as Ryland Group (NYSE:RYL) and Standard Pacific (SPF).

Homebuilder ETFs and funds that are focused on construction and management would likely allocate into this entity, or increase their allocation. For example, the SPDR S&P Homebuilders ETF (NYSEARCA:XHB) and iShares US Home Construction ETF (BATS:ITB) both have Ryland and Standard Pacific in their top 25 holdings, but WY is not. Conversely, while WY is a top holding within the iShares US Real Estate ETF (NYSEARCA:IYR), those homebuilders are not.

These popular index funds and other homebuilder options may deliver a broad investor-base composed of both passive and active home construction allocators. This should also give the company considerable access to capital markets, which should be beneficial to Sternlicht and TPH's ability to develop and otherwise monetize locations.

Why Weyerhaeuser Shareholders May Not Want The Spin-Off

Many Weyerhaeuser investors allocated into the company for its timber business, and that investor should be much happier with what remains than what WY is shedding. Since electing to convert to a REIT, after selling its paper business, Weyerhaeuser has continued to sell non-core businesses and focus on the timberland it controls.

Timber is an especially volatile business in the short term, but timber assets generally appreciate faster than the rate of inflation over the longer term. Though the business is sensitive to homebuilding, its long-term success is not isolated to a location's growth or the achievements of any particular builder. While all the builders go out and compete with one another, they will all need building components. This should mean that a timber investment has a lower risk profile over the longer term and that if homebuilding rates increase, components like lumber and flooring should sustain increased pricing and demand from whatever companies end up building those homes, where ever they may be.

This deal will leave an even more focused WY, with a cash infusion that should help it increase its dividend and possibly also consider further land acquisitions. One example of a potential acquisition may involve Rayonier (NYSE:RYN), which is also a REIT. Rayonier owns diverse tree acreage within the United States and New Zealand. Unlike Weyerhaeuser, Rayonier's primary business is performance fibers, though it does have a growing exposure to timberland. Rayonier is in many ways at the very other end of the forestland spectrum from Weyerhaeuser, with one focusing on timber and the other focusing on cellulose.

Much like how WY is now in the process of separating its homebuilder, RYN intends to separate its performance fibers business, known as Rayonier Advanced Materials, from its other businesses. Weyerhaeuser may be interested in acquiring some of these assets after the split, or possibly further divesting non-core assets and combining them with one of the RYN entities, such as WY's specialty pulp cellulose fiber business within Rayonier Advanced Materials. Still, it would appear more likely that WY would acquire more forestland, much like it did last year from Longview.

Weyerhaeuser increased its dividend twice during 2013, which combined to hike the quarterly payout by around 30 percent. The stronger cash and liquidity position that WY should have after shedding WRECO should allow WY to sustain its dividend and possibly increase it in the second half of this year. Current management has indicated it is interested in returning cash to shareholders, making an increase somewhat likely.


As an investor that acquired WY shares a few years back as an allocation into timberlands, I am biased to prefer the timber to the homebuilder spin-off and happy to see WY shed itself of this non-core asset. If it weren't for the apparent 11 percent bonus that accepted shares will receive, and the possibility of forced accumulation of the builder entity by index and industry-based funds, I wouldn't tender any shares. As is, these factors are tempting enough for me to consider tendering some of my shares as a mid-term investment.

At the moment, and largely because of the potential to receive $1.11 of TRI Pointe for every $1.00 of WY tendered and accepted, as well as possible near-term fund accumulation, I expect to tender between 10 and 20 percent of my WY position, while continuing to hold the bulk for the long term. This may change if any additional information becomes available. Further, if WY shares decline significantly following the spin-off, or in advance of it, I would strongly consider accumulating more shares.

Disclosure: I am long WY. 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.