Mariia Skvortsova/iStock via Getty Images

Mariia Skvortsova/iStock via Getty Images

Louisiana-Pacific (NYSE:LPX ) still has strong upside at current prices. On the back of strong backlogs from building partners, impactful planned capacity-improving projects, and strategic shifts away from commodity-based OSB, the stock has more than enough ability to handle any near-term obstacles presented by a higher rate and more unaffordable housing environment.

My method of analysis rests in looking at the past two earnings calls of companies and seeing what changed and what stayed the same. I'll then talk a bit about what those similarities and differences mean for the stock going forward as well as how that plays into my valuation of the company through a DCF/3-Statement Model. First, some quick earnings numbers:

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Most wouldn't look at the revenue and profit LPX has gained over the past couple years from OSB (Oriented Strand Board) as a bad thing. The numbers are staggering in each quarter. Quarterly EBITDA from Q1 '21 to Q1 '22 for the company jumped up by $175 million - $151 million of this increase can be attributed to the OSB segment. When looking at Q4 '21 compared to Q4 '20, EBITDA YoY actually decreased by $32 million, but OSB had a positive contribution of $42 million. Even as we start getting to tough comps in terms of OSB price, the segment is still managing to drive a large proportion of the company's improving financials. Similarly, looking on a sequential basis we see total revenue increasing by $345 million from Q4 '21 to Q1 '22. $274 million of this increase, or ~80%, was thanks to the OSB segment.

Again, many may look at these numbers and not see any concerns and just see dollar signs. The problem is prices of the commodity are still near historic highs and any normalization in these levels could leave the company exposed to the ebbs and flow of market OSB prices. One could be of the camp that the industry's pricing is at a "new normal" and that there will be no normalization in the intermediate term until more complex supply chain issues are hammered out. However, simply looking at consensus EPS and revenue estimates for 2023 leads me to conclude that there will be a price correction eventually which will have a large negative impact to company revenues and profits (if you put any stake into what analysts say).

My last note on this topic will be giving a little bit of credit for their OSB strategy. In both calls, there's a sense that management realizes the volatility seen in the OSB market and their revenue reliance on this price isn't healthy long-term. They have stressed the importance of transitioning away from commodity-based sales of OSB while emphasizing their focus on value-added OSB products, such as Tec Shield, Flame Block, and Weather Logic. This won't solve the probable near-term up and down swings in revenue due to OSB pricing, but it's the right mindset to have. This transition is starting to be reflected in the numbers. For Q1, 55% of OSB sales were made up by these structural solutions products, up 8 percentage points from last year. I feel like this is the right transition, because as they stated on the call, structural component OSB products have more resilient margins and will especially be helpful in down OSB commodity periods.

Aligning with what is being seen across several manufacturers and retailers, Louisiana-Pacific is realizing strong price gains year over year while volume growth is relatively non-existent. The EBITDA walks below for each quarter below help illustrate this pricing tailwind. First let's look at Q1 '22 compared to Q1 '21:

And then here is a similar walk comparing the segment from Q4 '20 to Q4 '21:

The first figure shows the reader in a much more digestible way the price/volume breakout between the analysis and base period, with siding price increasing by 12% and volume by 4% from 2021 to 2022. An even greater disparity between the two can be extracted from the second walk, as price increased 11% whereas volume actually decreased by 2% from Q4 of the previous year. As mentioned in my previous article about the stock, realizing pricing opportunities isn't a bad thing, but the long term goal should be to increase capacity/volumes since it will be a more sustainable way to generate higher revenue- especially since the company is selling everything it makes and in turn implies that the market would have no issue swallowing up more product. Management is aware of this and has some volume increases in the pipeline. Their Sagola, MI plant will start production in Q1 2023 once the conversion from OSB to Siding is complete, and Houlton facility has been producing Siding since March. This means we should expect some nice volume growth in future quarters and will serve as a nice shift in revenue contribution.

Everyone loves upward revisions. On the back of a strong first quarter and solid outlook for the rest of the year, Louisiana-Pacific raised it's guidance for the rest of the year. The new expectation for Q2 Siding revenue growth is >20%, up from the >15% estimate given in the Q4 call. On top of that, they adjusted their Q2 EBITDA number from >$500 million in Q4 of last year to >$540 million in this most recent call. This upward guidance will certainly have a favorable impact to the company's valuation according to my model and DCF, but as we'll see later, there's some offsets that will also bring the price down.

The low-hanging fruit risk in this forecast is how the housing industry will hold up amid several anticipated rate hikes, rising mortgage costs, and growing affordability issues. Although a viable concern, management in the call assured investors that despite these challenges, feedback they have received from their builder partners and large backlog suggests no near-term damage in outlook. OSB volatility could be another driver. Revenue from this segment was over 50% higher in Q1 than in the latest Q4. During the Q1 call, management stated that if OSB prices remained the same as they were in that moment, OSB revenue for Q2 would be 7% lower than in Q1. This shows how much the bottom line can fluctuate due to OSB pricing. The reason they stuck with current OSB price levels in their forecast for the rest of the quarter is because they are so unpredictable. This is something that investors should be aware of because there's a strong chance that OSB prices change as the quarter finishes up - whether that be upward or downward.

As mentioned in the intro of my article, I derive my share price targets from a discounted cash flow model that is driven by a full three-statement model for each company I analyze. At a high level, here are some assumptions for 2022 and beyond I gained from each earnings call that is inputted into my models.

First, here are the assumptions that remain the same from my last article on the company.

The company's long-term EBITDA margin goal is 25%. Assuming this goal is realistic, it serves as a great way to check my other assumptions to make sure the margin that returns is not unrealistically straying from this number. After all, the finance team at Louisiana-Pacific will have better insight into future profit than anyone else.

Revenue growth will stagnate and decrease YOY starting in 2023. This coincides to when OSB prices increased so much at the same time last year. These tough comps will make some numbers look worse on paper, but I believe the company is making the right choice as it continues to invest more in its Siding segment rather than OSB.

The company cut a lot of its SG&A spend once the pandemic hit. I expect this number as a % of sales to a minimum return to 2019 levels.

High CapEx in the near term, with it hurting free cash flow as this investment is added to a large capital allocation budget. But long-term growth rate will benefit as the capacity expansion mindset leaves revenue upside.

Here are some updated assumptions I added based on information in the call and in the market:

I'm adjusting FY 2022 revenue growth for the company up to 20% from the 15% that was originally in my model. This is reflected in the upward guidance management gave in the call. This number is highly dependent on which way OSB price goes, but for modeling purposes this is the assumption I'm going to use.

The next adjustment is to the risk-free rate. In my first article about Louisiana-Pacific I used a risk-free rate of 2%. The 10-year has risen sharply since then, with it most recently settling at 2.948%. Although this seems minor, in terms of a DCF model this slight adjustment actually has a sizeable impact on the valuation of the company's shares since long-term cashflows are discounted by this number through the cost of equity portion of the Weighted Average Cost of Capital. Many dislike the DCF valuation for this exact reason and think the model is too sensitive to this type of change, but we're going to roll with it.

This is an insignificant adjustment in the grand scheme of things, but I did revise down a bit my 2022 CapEx forecast. Initially I errantly had it at $437 million which was higher than the top band of their guidance of $430 million. In this update I brought it down to $415 million which is at the midpoint of their guidance.

One last check I did was to compare analyst EPS estimates to what my model churns out to make sure the numbers tie out in a reasonable fashion. The last number I pulled for 2022 estimates was $14.87 per share while my model gives me an EPS of $14.84, so I feel comfortable with this comparison.

For those familiar with these types of models, there are obviously a lot more assumptions that go into it. In future articles, I plan on digging into my assumptions and what went wrong versus what went right. But to oversimplify everything and provide some numbers, here is a snippet of a valuation sensitivity table with a range of WACC (Weighted Average Cost of Capital) and Long-term growth rate assumptions (both very important for the terminal value of a DCF).

A few notes about the inner-workings of my model and DCFs in general. A DCF sums the present value of all future years' cash flows. There are two periods we project unlevered free cash flow for. The first stage is your forecast period, which for this model is 5 years. The stage one cash flows are ultimately determined by various assumptions such as revenue growth rate and profit margins, among other things. These 5 years of free cash flows are then discounted by some factor to get the present value of each and then summed together. For Louisiana-Pacific, the sum of its present valued cash flows for the next 5 years is $3.0 billion.

This completes the first half of the enterprise value calculation. The remaining step is to find a way to quantify the present value of all future cash flows after the initial 5 year forecast period. There are a few methods of doing this, but I use the Perpetuity Growth Model. At a high level, this model assumes an infinite long-term growth rate of free cash flows and utilizes this growth rate and Weighted Average Cost of Capital to arrive at the terminal value. This terminal value is then discounted to find the present value, and for Louisiana-Pacific this number is $3.94 billion. Adding this $3.94 billion terminal value of cash flows to the $2.97 billion of stage 1 cash flows brings us to the Enterprise Value of $6.91 billion.

We then need to get to Equity Value, which is obtained by subtracting long-term debt from cash & equivalents to get Net Debt. For LPX, Net Debt is equal to -$12 million (since cash exceeds debt). This number is subtracted from Enterprise Value and leaves us with an Equity Value of $6.91 billion. To get our final share price estimate, take this equity value and divide it by our diluted common shares outstanding (86.612 million) to get an average share price of $79.59.

As mentioned earlier, I will be reviewing particular assumptions and their accuracy (or lack thereof) in future articles when more company actuals are available.

The main risks on investors' minds, especially in this space, is how the housing market will fare in the coming months. According to recent April data, new-home sales fell 16.6% from March. This represents the lowest level of starts since April 2020 and is the biggest percentage drop in nine years. Despite a recent pullback in mortgage rates, many analysts attribute this drop to higher interest rates. Louisiana-Pacific's product demand is correlated to new housing starts, and while a sustained drop in these would surely have a negative impact on operating results, the company isn't seeing any wavering in demand from customers in the near term. The company is still largely operating on a managed order file, so most of what they make is being sent right out the door. Investors should monitor future months' data though, and be sure to pay attention to any guidance given by the company in the next earnings call.

For reference sake, here are some comparable companies and how Louisiana-Pacific stacks up in regards to some key ratios. Apples to apple comps are impossible to find in any industry, but both Boise Cascade (BCC) and Builders FirstSource (BLDR) are close as we're going to get to the company's operations. Obviously, this industry comes with low valuation multiples, but I don't think the market is fully pricing in the extreme focus management has in adding capacity over the years. As the stock shifts its focus to Siding and less so on commodity-based OSB, I see no reason why the price/earnings ratio shouldn't drift more towards that of Builders FirstSource. With that being said, both BCC and BLDR are part of the group of stocks I will analyze in future articles, so that's really where I'll be able to establish whether these multiples are justified or not. But from the outside looking in, I see no red flags for the stock with these comps.

There are certainly shortcomings to primarily analyzing earnings calls, but I believe it can be a very useful tool in a holistic analysis of a stock - especially as wording from executives across these calls can be so strategic and have a deeper meaning than face-value. Financial models also rely on forecasts and inputted assumptions, but just like earnings calls, if they are utilized correctly they can provide valuable insights into the valuation and financial health of a company.

My Discounted Cash Flow valuation model suggests the intrinsic value of Louisiana-Pacific's stock is $79.59, representing a ~11% upside from the most recent closing price of $71.85.

The stock closed at $77.90 per share on 5/3/22, so it almost reached target at one point. But this stock has been very volatile along with the rest of the market, so that high level was short-lived. This new share price also represents a 4% decrease from my previous target of $83.24 - upwardly revised guidance didn't quite offset the large rise in the 10-year yield since my last article about the company. Despite all of this noise in the last few months, I still believe Louisiana-Pacific is a solid company. Their cash generation is magnificent and the way they return this capital to shareholders is incredibly generous. With added capacity on the horizon, strong builder backlog, and an effective strategy to stray away from commodity-based OSB, I firmly believe the stock has the ability to weather any storms the housing market may bring in the following months.

This article was written by

Disclosure: I/we have no stock, option or similar derivative position in any of the companies mentioned, and no plans to initiate any such positions within the next 72 hours. 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.