July was a strong month for the S&P/TSX composite index, which advanced 3.7 per cent. Amongst the top 10 performing stocks were two forest products stocks: Interfor Corp. and the stock I discuss below, Norbord Inc.
I highlighted Norbord on May 9 in the daily TSX Breakout report that appears on The Globe and Mail's website. Since then, the share price has rallied approximately 20 per cent. Yet this gain has not been linear as the share price can be volatile.
Any weakness in the share price has, and may continue, to represent a buying opportunity as the company has numerous tailwinds that may drive the share price even higher over time.
The investment thesis is discussed below.
The company
Norbord is a global manufacturer of wood-based panels, operating 17 facilities worldwide, in the United States, Canada and Europe. The company is dual-listed, trading on the Toronto Stock Exchange as well as the New York Stock Exchange under the same ticker. According to Bloomberg, Brookfield Asset Management Inc. holds a 53-per-cent ownership position in Norbord.
- Industry leader. Last year, the company completed the merger with Ainsworth Lumber Co. Ltd., making the combined company the world’s largest producer of oriented strand board (OSB), which represents 90 per cent of the company’s production capacity.
- U.S. housing market recovery under way. U.S. housing starts in June increased 4.8 per cent from the previous month to a seasonally adjusted annualized rate of 1.19 million starts. Narrowing this down to single-family houses, which uses approximately three times more OSB compared with multifamily housing, starts increased 4.4 per cent from the prior month. Building permits data were also positive, showing a 1.5-per-cent increase month-over-month. Gradually recovering economic conditions combined with a low-interest-rate environment may slowly return U.S. housing starts to 1.5 million, the long-term annual average.
- Firming OSB prices. Supply and demand fundamentals are attractive with limited new supply and increasing demand. There is idled capacity in the industry and a long lead time to restart a mill. The North Central benchmark price averaged $264 (U.S.) per thousand square feet (msf) in the second quarter, up 37 per cent year-over-year.
- Operational synergies. During last week’s second-quarter earnings conference call, management indicated that they have realized 87 per cent of the annualized anticipated synergies to date from its merger with Ainsworth Lumber in 2015, with the balance expected by year-end.
- Growth initiatives. The company’s OSB mill in Inverness, Scotland, which is currently undergoing upgrades and expansion work, is expected to start up in the second half of 2017.
- Positive revisions. The consensus EBITDA estimate is $348-million for 2016, up from $303-million at the start of the year. Similarly, the Street’s 2017 EBITDA forecast has climbed to $510-million from $430-million. (EBITDA represents earnings before interest, taxes, depreciation and amortization.)
- Strengthening balance sheet. Management continues to improve its financial position with plans to repay $200-million in senior secured notes that comes due in February.
Dividend policy
The company pays shareholders a quarterly dividend of 10 cents (Canadian) per share, or 40 cents yearly. This equates to an annualized yield of approximately 1.2 per cent.
Valuation
According to Bloomberg, the shares are trading at an enterprise value-to-EBITDA multiple of under six times the 2017 consensus estimate, below its three-year historical average, suggesting there is upside potential, especially given the backdrop of improving industry fundamentals.
Analysts' recommendations
According to Bloomberg, since last month, there have been 10 research reports issued, of which seven are currently "buy" recommendations and the remaining three are "hold" recommendations. The average one-year target price is $37.37, which suggests there is approximately 15-per-cent upside in the share price over the next 12 months.
Chart watch
The share price successfully broke out of an "ascending triangle."
An ascending triangle is marked by a relatively flat upper boundary line and a rising lower boundary line.
In the case of Norbord, the share price topped out around $29 in early June, 2016, and November, 2015. Meanwhile, the stock price made higher lows in 2016, which formed a rising lower boundary line. Last month, the stock price experienced a major breakout, rising materially above $29. The initial target price is approximately $34.
The previous resistance area, around $29, now becomes a major support level. Failing that, there is support around $28, which is close to its 50-day moving average.
The bottom line
Given the 30-per-cent rally in the stock price last month, the share price may need to digest these gains and may pull back, especially given the volatility in the equity markets. Wait for price weakness and accumulate shares with a staggered approach.
I strongly encourage readers to consult a financial adviser, and to do their own proper due diligence before taking any investment action.
The author does not personally own units in the security mentioned in this story.
Jennifer Dowty, CFA, Globe Investor's in-house equities analyst, writes exclusively for our subscribers at Inside the Market.