Adam Smigielski/E+ via Getty Images
Adam Smigielski/E+ via Getty Images
If you have ever been to a lumber yard or home improvement store that sells lumber, you have probably seen wood products from one of the leading timberland owners in the world. Weyerhaeuser (NYSE:WY ) has been around since 1900 and they now own or control more than 11 million acres of timberlands in the US, after completing the acquisition of an additional 80,800 acres in the Carolinas. The company also manages about 14 million acres of additional timberlands in Canada under long-term licenses.
During inflationary times like we are experiencing in 2022, and with the cost of lumber considerably higher than before the pandemic (although prices have been retreating from the 2021 highs), a well-run timber company is a welcome addition to an investment portfolio seeking inflation protection. WY offers investors an opportunity to realize growth and income from a sustainable and climate-friendly business that has ample room to grow.
Classified as a REIT, WY offers shareholders a regular quarterly dividend payment that was raised from $0.17 in 2021 to $0.18 in March 2022. In addition to the quarterly dividend, two special dividends have been distributed over the past 6 months to meet the stated goal of paying out 75-80% of FAD (funds available for distribution). In addition, the company has returned $100M to shareholders by way of stock repurchases in 2021 with additional shares repurchased in Q122.
I view WY stock as a very appealing addition to a long-term portfolio looking for a total return that has met or exceeded the S&P 500 index over the past 10 years and has performed far better over the past one year. It offers outsized returns in an inflationary environment and reduces the risk of drawdowns during market corrections like the one we just experienced in the first few months of this year.
WY 1-year total return vs S&P 500 (Seeking Alpha)
WY 1-year total return vs S&P 500 (Seeking Alpha)
WY is structured as a REIT and operates in 3 primary business areas - Timberlands; Real Estate, Energy, and Natural Resources; and Wood Products. Revenues and earnings from the wood products segment is the biggest contribution to EBITDA, but other revenue sources supplement the bottom line and include land sales, climate solutions (including wind, solar, and carbon mitigation), and royalty and lease income from surface and subsurface assets.
Customers for the Timberlands segment include the company's own lumber mills, third party domestic customers, and export customers. Japan is the largest export customer, responsible for 69% of the export revenues in 2021. WY has a unique relationship with Japan going back decades supplying a steady post and beam housing market.
GAAP operating income from the Timberlands business segment in 2021 was $464 million compared to $455 million in 2020 and $347 million in 2019.
The company plans to spend $1B through disciplined investments (such as the recent Carolinas acquisition) to grow the Timber portfolio between 2022 and 2025. The capital expenditure plan allocates $110M to Timberlands in 2022. Primary uses of capital will include reforestation and silviculture, and roads and infrastructure improvements.
Capital Expenditures (June Investor presentation)
Capital Expenditures (June Investor presentation)
With a stated goal of maximizing the value of every acre they own; WY is generating consistent and reliable cash flows to supplement the other business segments. They are doing so by unlocking higher and better use value via land sales at premium prices; royalty and lease income from both surface and subsurface assets; natural climate solutions including wind, solar, forest carbon offsets, and carbon capture and storage projects.
In 2020, the first year they tracked operating income for the Natural Climate Solutions business segment, they reported only $12M in GAAP operating income. That number more than doubled to $27M in 2021. The goal for natural climate solutions is to generate $100M in EBITDA by 2025 as carbon markets develop.
Natural Climate Solutions business (June Investor presentation)
Natural Climate Solutions business (June Investor presentation)
The wood products business segment is by far the largest contributor to EBITDA, especially in 2021 with the GAAP Operating Income rising to $3,211 million versus $1,340M in 2020 and only $353M in 2019. Lumber prices went through the roof in 2021, reaching a high of $1,733 per board foot. The price has since retreated to around $600 as of June 1. Although, even with lumber prices coming down, they are still quite elevated relative to previous years.
Lumber pricing (June Investor presentation)
Lumber pricing (June Investor presentation)
While new home construction slowed down in 2020 and 2021 due to rising lumber prices, supply chain issues, labor shortages, and elevated home prices keeping many new buyers on the sidelines, things started to pick up again in the first quarter of this year. In fact, new home construction starts rose 6.8% in February, 22% above the level in February 2021. There is much pent-up demand for not only new construction, but also remodeling and home improvement projects as more employees work from home in the post-pandemic world.
US housing supply/demand (June Investor presentation)
US housing supply/demand (June Investor presentation)
The inventory of new homes available for purchase is beginning to rise just in the past few months, which could lead to a slowdown in construction in the second half of 2022. The fears of an economic slowdown or possible recession and rising inflation has led to a pullback in lumber prices, which could have the effect of lowering construction costs and increasing the incentive for builders to build new homes while the demand remains high, and costs are coming down.
The wood products portfolio is one of the largest in North America and consists of a scale and diversity that are unique to WY due to the extensive timberland holdings and end to end supply chain capabilities.
Wood Products Portfolio (June Investor Presentation)
Wood Products Portfolio (June Investor Presentation)
The demand mix is relatively diverse as well with about 65% of demand from single and multi-family residential construction, 20% from repair and remodel, and 15% from non-residential and industrial sales. The expected forward demand is largely from lumber, which is growing production at 5% annually thru 2025, and engineered wood products.
In addition to the growing demand for US housing, there is also rising global demand for wood fiber and there is increasing demand for wood-based building. This blog from Think Wood explains the growing use of wood construction in tall buildings now that the building codes have been modified.
Wood construction and innovation continues to soar in the U.S., where taller wood buildings are about to become more common. Preliminary voting results released by the International Code Council (ICC) in late 2018 approved 14 tall mass timber code change proposals, clearing the way for their inclusion in the 2021 International Building Code (IBC).
Earnings increased substantially in Q122 compared to the fourth quarter of 2021 and compared to Q121. All 3 business segments realized an increase with EBITDA from Wood Products more than doubling over the previous quarter. Key drivers for the increase in sales of wood products included 76% increase in sales realizations for lumber compared to Q421, comparable unit costs, moderately higher production volumes, and considerably higher log costs. Oriented strand board also realized an increase in sales of 61% over the previous quarter with slightly higher production volumes and considerably higher fiber costs.
Adjusted EBITDA (Q122 Earnings presentation)
Adjusted EBITDA (Q122 Earnings presentation)
The cash balance at the end of Q122 was $1.2B compared to $1.879B in Q421, and total debt decreased slightly to $5,053M versus $5,099M in Q421. In Q421 about $74M in shares were repurchased, while $121M was spent on share repurchases in Q122. Adjusted funds available for distribution amounted to $850M, which leaves about $659M available for additional share repurchases and/or supplemental dividends after subtracting $134M for base dividend payouts.
The outlook for Q222 expects lower earnings realized from the Timberlands business, but comparable results to Q1 for the Real Estate, Natural Resources and Energy segment, and higher earnings for the Wood Products segment.
PotlatchDeltic (PCH) is the closest peer that is a REIT focused on the timber industry. At a market cap of $3.6B they are much smaller than WY at $29B market cap. West Fraser Timber (WFG) with a $9.5B market cap and Louisiana-Pacific (LPX) at $5.9B market cap are the closest peers in the forest products industry. BlueLinx (BXC) is a competitor in the wood products segment with a market cap of $940M.
Looking at YTD total returns, WY has a slight lead compared to its competitors.
With the increased size and scale of operations, and greater diversity of revenue sources, I believe that WY is better positioned to take advantage of rising costs and inflationary pressures going forward. Performance compared to peers is generally superior as explained in this slide from the June investor presentation.
Performance vs Peers (June Investor presentation)
Performance vs Peers (June Investor presentation)
The biggest risk that I am seeing as I write this analysis on June 7, 2022, is the continued trend tower lower lumber prices so far this year. According to this news article published yesterday:
Lumber prices fell 7% on Wednesday and are down 12% this week as the commodity hits new 2022 lows.
The building material has come under pressure as mortgage rates surge and new home sales drop.
Lumber inventories are starting to pile up at mills and at home improvement stores.
This slowdown may continue as mortgage rates have climbed above 5% for the first time in over 10 years. The impact on demand may negatively affect the bottom line in Q2 as sales realizations are lower according to this May 27, 2022 update.
Change in Sales Realizations (June Investor Presentation)
Change in Sales Realizations (June Investor Presentation)
On the other hand, a whole new demographic of home buyers is entering the market. Gen Z and Millennials are the largest population cohort in the US currently and are just entering their peak homebuying years. Their preference leans toward single family homes, which use roughly 3X as much wood as multi-family.
In addition, there is strong remodel and repair spending by homeowners who find themselves with increased savings and higher home equity. New home construction is expected to continue even if it slows down temporarily. The long-term demand for lumber between 2021 and 2026 is expected to reach 13%.
Shorter term, while concerns persist over inflation and the possibility of entering another recession, the lumber demand appears to be declining in Q2. My expectations for earnings results for the 2nd quarter are diminished somewhat from the expectations announced after Q1 results back in April. I would caution new investors to be patient and wait for Q2 results before initiating a new position.
Long-term WY is a solid Buy, but shares may be available to purchase at a better price than the current market price of $38.76 (as I write this). I rate the stock a Hold above $37 and a Buy below that price.
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Disclosure: I/we have a beneficial long position in the shares of WY either through stock ownership, options, or other derivatives. 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.