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Stock to Watch: Interfor a pure lumber play with dividend potential

Logs to be processed are pictured at Interfor's Acorn Division mill in Delta, B.C., on Friday September 14, 2012.

Darryl Dyck/The Globe and Mail

International Forest Products Ltd. (Interfor)

Tuesday's close: $10.40, down 10 cents, or 0.9 per cent

52-week trading range: $4.28 to $10.70 a share

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Annual dividend: none

Analysts' ratings: There were 7 buys, no holds and 1 sell, according to Bloomberg data. Target prices ranged from $11.50 a share as estimated by Scotia Capital analyst Benoit Laprade to $13 a share by RBC Dominion Securities analyst Paul Quinn.

Major shareholders: Fairfax Financial Holdings Ltd. is the largest with a nearly 10-per-cent stake.

Recent history: Shares of the Vancouver-based forestry company have soared 123 per cent over the past year on the coattails of surging lumber prices. The swift price climb has been fuelled by a U.S. housing recovery as well as tight lumber supply caused by rising Asian demand, sawmill closures and forests ravaged by the B.C. mountain pine beetle. Interfor, which harvests and sells lumber products, logs and wood chips, has been on the acquisition trail this year. The operator of sawmills in British Columbia, Washington and Oregon recently acquired U.S.-based Rayonier Inc.'s wood product business in Georgia for $80-million. It also bought two timber properties in the Kootenay region of British Columbia. Interfor will report first-quarter results on May 6. The consensus estimate for adjusted earnings per share is 23 cents.

Manager insight: Interfor is a pure lumber play that can benefit from surging commodity prices, but also has potential to become a new dividend payer, says Frank Mersch, a portfolio manager and co-founder at Front Street Capital.

Once Interfor has upgraded the sawmills purchased from Rayonier, it will likely be looking at instituting a dividend, suggested Mr. Mersch, who has owned its stock for about three years. "Everyone wants dividends and income."

The company's first-quarter results should meet or slightly surpass analysts' expectations, he said. The Rayonier mills, which are operating at about 50- to 55-per-cent capacity, require capital spending to boost margins and productivity, he said. "Once the refurbishment is done, you will have the full effect of the earnings leverage from the acquisition."

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Interfor shares have gained traction because of the U.S. housing rebound, but that recovery has largely been ignited by multi-residential or apartment units, he said. If single-family housing starts begin to gain traction "you are looking at a cycle that may go longer. I am just looking out two years."

Once housing starts are back to more normal levels, there is no reason why Interfor couldn't hit $15 or $16 a share over the the next 12 to 18 months although there could be a correction along the way, he said. "Typically, this group [lumber] rolls over in the summer. Whether it will be any different this year I don't know."

Lumber prices could stay high longer than most people are expecting, he said. "Forestry stocks ... haven't really participated in the commodity boom that we have experienced from 2001-2002. That is a function of the overbuild in the United States because of cheap money. We are just coming off that hangover."

Tight lumber supply is also being affected by a shortage of labour as many western Canadian workers were lured to the oil patch when the U.S. housing market was depressed, he said. "All of a sudden the lumber sector is improving, but there is lots of competition [for labour]."

Mr. Mersch, who has a bearish outlook on the Canadian dollar, also likes Interfor because it has been acquiring assets in the United States. He prefers to bet on domestic firms with a good chunk of revenue and earnings from south of the border. "It's also one of the few companies over the last years that have bought mills and added more capacity," he said.

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