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Stella-Jones Inc. has been rallying for most of the past decade, but the company’s softer profit margins are now weighing on the share price. What will get the stock moving again?

The Montreal-based company isn’t exactly a household name, probably because it doesn’t make household things. It makes treated-wood products, with a particular focus on utility poles and railway ties.

It’s a nice niche, and Stella-Jones’ strategy of snapping up rival players within the once-fragmented treated-wood sector, including the big US$232-million deal for McFarland Cascade Holdings in 2012, has paid off handsomely for investors.

Over the past decade, Stella-Jones’ revenue has risen six-fold, profit has more than quadrupled, and the shares have delivered a total return of about 480 per cent after including dividends.

But the company’s fourth-quarter results, released in mid-March, highlighted a simmering concern: Momentum has stalled.

Earnings before interest, taxes, depreciation and amortization (or EBITDA) margins have retreated below 10 per cent from average margins of about 15 per cent.

Weak numbers appeared elsewhere, too. For all of 2017, revenue increased just 2.6 per cent over 2016, while net income shrank about 15 per cent – hardly the sort of financial figures that investors have been accustomed to.

At the same time, mergers and acquisitions, once a robust pipeline to growth, have slowed. And while dividends have been rising at a nice clip, the yield is still below 1.1 per cent, leaving the stock largely unknown among dividend-loving investors.

The share price is approaching three-year lows, suggesting many investors believe the golden years for utility poles and rail ties may be ending.

But hold on: With the shares down more than 15 per cent from their high of $53.46 in late 2015, it may be time to look at the upside opportunity here, now that investor expectations are less than lofty.

First, the market appears to be losing patience with Stella-Jones, which could be a gift for longer-term investors.

Walter Spracklin, an analyst at RBC Dominion Securities, noted that the shares were relatively unchanged after Stella-Jones released its fourth-quarter results on March 14, suggesting that weaker margins were not a deal-breaker.

But the shares sold off after management revised its outlook for EBITDA margins. Whereas management previously said margins should exit 2018 at 15 per cent, they subsequently pushed that date to 2019.

Is this an unacceptable delay? Mr. Spracklin doesn’t think so, given that the key reasons for lower margins look temporary.

A shift toward railway ties in the business mix amid weak pricing, and rising costs as plants struggle to meet higher demand, has led to inefficiencies that management expects will be corrected within the next year.

“Though the margin recovery is taking longer than expected, these factors increase potential for an EBITDA margin inflection,” Mr. Spracklin said in a recent note.

Meanwhile, the company’s strong cash flow and relatively low level of debt give it considerable financial flexibility to either raise dividends or make additional deals.

Mona Nazir, an analyst at Laurentian Bank Securities, noted that M&A activity is picking up again after a quiet nine months: The company has announced a $26.1-million takeover of Manitoba-based Prairie Forest Products and a $4.2-million deal for Ontario-based Wood Product Industries – both of which should boost Stella-Jones’ expansion into residential lumber.

Admittedly, these are small deals. But with low debt, Stella-Jones could grab something considerably larger. Mr. Spracklin estimates that the company could raise $385-million in incremental debt before reaching management’s upper limit of three-times EBITDA.

As for dividends, the company’s current payout ratio is just 24 per cent, even after more than doubling the quarterly payout over the past five years. The bullish argument here: Sure, the dividend yield is low today, but it could rise substantially in the years ahead.

And finally, consider the steady environment in which Stella-Jones operates: Utility poles and railway ties are needed in good times and bad, giving the company staying power even if the relatively strong U.S. and Canadian economies falter over the next couple of years.

If you missed Stella-Jones during its era of strong growth, you may have another buying opportunity today.

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