The uptick in homebuilding in the United States has ripple effects that extend beyond its borders. One sector that stands to benefit is Canadian lumber, as many producers are closely tied to the US housing market and generate a significant share of their revenue from it.
An increase in US home construction boosts demand for Canadian lumber, benefitting major players like Stella Jones SJ, which derives 72% of its revenue from the US, West Fraser Timber WFG (67%), Canfor CFP (50%) and Interfor IFP (78%). Their substantial US revenue exposure also makes them prime beneficiaries of a strong US dollar, as well as a weaker loonie, as earnings converted into Canadian dollars result in higher reported income. These companies also stand to gain from increased homebuilding within Canada when the domestic real estate market strengthens.
The following stocks are currently trading well below their fair value estimates, offering attractive entry points for long-term value investors.
Undervalued Canadian Stocks with High US Dollar Exposure
For value-seeking investors, we screened stocks under Morningstar’s Canada equity coverage for lumber stocks with sizable US exposure and fair value discounts.
These two stocks stood out:
West Fraser Timber WFG Canfor CFP
Here’s a closer look at these undervalued names.
West Fraser Timber
One of the largest softwood lumber and wood producers in the world, West Fraser boasts significant production capacity in Canada, the Southeastern US, and Europe. The firm’s balance sheet is closely tied to the North American market, which generates roughly 85% of sales (70% in the US and 15% in Canada).
Its lumber segment accounts for roughly 42% of revenue and sells a variety of construction and specialty-grade dimension lumber. West Fraser mainly sells Western spruce-pine-fir, solely to the US market, and Southern yellow pine lumber. In recent years, the company has expanded its lumber capacity in the Southeastern US, amplifying its exposure to US housing while paring its reliance on western Canadian mills.
Although the imposition of US tariffs remain a concern for many Canadian exports, duties on Canadian lumber products were short-lived. The 25% tariff imposed on Canadian lumber products on March 4 was removed just two days later. Additionally, Canadian lumber is exempt from the 10% blanket tariff on all imports into the US.
Nevertheless, the company’s “lumber imported to the US is still subject to a 11.9% countervailing duty, which is slightly less than the 14.54% duty paid by most lumber importers,” points out Morningstar equity analyst Spencer Liberman.
While the firm’s first quarter net sales fell 10% year over year, driven by weakness in the company’s North America business, it reported a USD 65 million operating profit, up from USD 48 million a year ago, as the lumber business reported its first quarterly operating profit in over two years. “This was driven by pricing gains in lumber,” says Liberman, who recently lowered the stock’s fair value to C$ 121 from C$ 128, driven by a softer near-term profitability forecast.
Canfor
Leading Canadian lumber firm and owner of half of Canfor Pulp, Canfor operates throughout North America and Europe, with lumber mills in British Columbia, Alberta, the Southeastern US, and Sweden.
Its lumber segment includes sawmilling and remanufacturing operations, and the pulp and paper segment comprises the kraft pulp, kraft paper, and bleached chemi-thermomechanical pulp businesses of Canfor Pulp.
The firm’s products, as with other lumber and woods products, are exempt from the 10% blanket US tariff on Canadian exports. However, Canfor’s lumber products imported to the US are still subject to countervailing duties, which are lower for Canfor than paid by most lumber importers.
Countervailing duties are reviewed annually, and could be a substantial headwind for Canfor, if they are increased. To hedge against that possibility, the company has been decreasing its footprint in Canada, while expanding its operations stateside.
“Less than 20% of Canfor’s total sales are exposed to countervailing duties and tariffs, and we expect this number will continue to decline as Canfor shifts its production away from Canada,” says Liberman, who pegs the stock’s fair value at C$ 20.
Homebuilding and remodeling are the main uses of softwood lumber in North America, therefore “Canfor and its peers see dramatic profit variations, depending on the health of housing markets and overall economic conditions [in North America],” Liberman notes.
Repair and remodel represents approximately 60% of Canfor’s North American lumber sales, while new-home construction accounts for the remaining 40%.
The author or authors do not own shares in any securities mentioned in this article. Find out about Morningstar’s editorial policies.
