West Fraser Timber Co. (WFT)

For this week’s content analysis, we wanted to illustrate how StockPointer can be used to not only help identify promising companies, but also recognize others that might be “to avoid”, or at least be more closely monitored.

Using the pre-defined “Risky Valuation” SPFilter, we were able to find seven companies on the S&P/TSX Composite index that are trading at high multiples, representing considerable premiums. Download

We’ll study the case of West Fraser Timber Co. (WFT), a British Columbia based forestry company. The first thing to note is the drop in Intrinsic Value from $55 to $40, a 27% decrease, calculated at the end of Q4 2014 operations, ending in December. A considerable deterioration in return on capital, dropping from 20.7% in 2013 to 12.8% in 2014, is largely responsible for this decline in Intrinsic Value—one of the largest downwards changes seen for the company over the past five years.

West Fraser now trades at a P/IV ratio of 1.61 (as of March 24th), showing a substantial premium. Future growth value (FGV) agrees: current operating value as a percentage of market value has decreased for the past five quarters, causing a parallel increase in FGV over the same period. FGV is currently at 45% of West Fraser’s market value (read: WFT valued at 45% more than its 2014 current operating value, calculated as a perpetuity, would indicate). This also implies a necessary growth rate quite superior to the 8.2% annualized rate at which current operating value has grown over the past five years.

Looking at economic performance, West Fraser’s EVA looks to have started trending downwards in December 2013, a movement which persisted through 2014.

To take a qualitative perspective, we’ll note that West Fraser’s sales come mostly from the U.S. (50%), Canada (22%), and China (22%). The company’s revenues are closely tied to the volume of new construction, and the economic downturn that might occur in Energy-focused regions (West Canada, Southern U.S.) would be likely to negatively impact future results. On the other hand, we also have to consider that cheap energy will help cut transportation costs for the company.