Morningstar | Lumber Market Conditions Remain Dire Amid Sky-High B.C. Log Costs for West Fraser. See Updated Analyst Note from 19 Jul 2019
Market challenges weighed on second-quarter adjusted EBITDA for West Fraser, coming in at only CAD 56 million, down substantially versus the year prior. Low lumber prices and rapidly rising log costs in Western Canada dented profitability for West Fraser across all of its segments. Management announced further lumber curtailments with its second-quarter earnings, bringing total permanent curtailments to over 600 mmbf on an annual basis, or around 15% of its Canadian capacity. While we expect conditions to improve in 2020, we think 2019 will remain challenging for West Fraser, even moreso than we originally expected. Accordingly, we've reduced our fair value estimate to CAD 42 per share from CAD 46. Our no-moat rating is unchanged.Lumber adjusted EBITDA collapsed to CAD 39 million from CAD 467 million in the year prior as prevailing lumber prices fell and log costs spiked. Relatively weak U.S. homebuilding exacerbated the supply-demand imbalance. Benchmark lumber prices were down 35% year-over-year, crushing EBITDA margins. We expect conditions to be challenging over the remainder of the year as industry capacity recalibrates to match current demand. Major industry participants in Western Canada have nearly all announced curtailments taking effect throughout 2019, which should eventually shore up market prices. An additional tailwind as we head into 2020 should be modest improvement in homebuilding based on favorable demographics in the United States.
Panel and Pulp operations faced similar fiber cost issues during the quarter, largely due to the pricing mechanism for fiber in the region. Even as wood product prices have collapsed and demand is falling, the pricing mechanism for government logs has continued to tick higher, squeezing margins. Given that curtailments are resulting in significant job losses, we think there is a chance that regulators revisit the mechanisms driving log pricing, which could favor West Fraser.
West Fraser Timber is an integrated wood products company producing lumber, newprint, wood chips, plywood, panels and pulp and paper products.
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