A Future Winner, But a Current Loser (LPX)
The tripods of the housing market are wobbling precariously: The subprime mortgage lenders who funded the boom are imploding, the financial alchemists who repackaged their loans into tradable securities are unraveling, and the homebuilders who slapped together the two-by-fours are sinking.
Concerning the latter, I'm looking very closely at Louisiana-Pacific (NYSE: LPX), one of the largest producers of oriented strand board (OSB) - a ubiquitous plywood-like sheeting used as roof decking, sidewall sheathing ,and floor underlayment - and residential home-building materials.
Needless to say, Louisiana-Pacific's financial well-being is directly tethered to residential construction, as recent financial performance proves.
In the 2006 fourth quarter, Louisiana-Pacific's revenue tanked 41% to $369.6 million compared to the year-ago period, while earnings turned to a $370 million loss.
For the full year, Louisiana-Pacific reported earnings of $124 million, or $1.17 per share, on revenue of $2.2 billion, which is disappointing compared to earnings of $456 million, or $4.15 per share, on revenue of $2.6 billion in 2005.
Don't expect much improvement in 2007, at least in the first six months: Louisiana-Pacific's revenues are expected to decrease another 15% while 2006 earnings are expected to turn to 2007 losses.
Slow but Unsteady
So why do I like Louisiana-Pacific? The company has demonstrated persistent cyclical resiliency, having performed more comebacks than The Who. And that's no fluke; management anticipates these rainy days and plans accordingly. Long-term debt as a percentage of capitalization was reduced during the good times, falling from 47% in 2000 to 24% at the end of 2006. Meanwhile the cash stands at $8.00 per share, more than adequate to sustain the $0.60 per share dividend.
As for valuation, my 12-month price target for Louisiana-Pacific is $24 per share, assuming the company holds at 1-times book value. My valuation is further supported by a quick, but conservative, discounted cash flow analysis based on operating cash flow of $1.20 for 2007 that grows 5% into perpetuity, discounted using a 10% rate.
Buy on Good News, Sell on Bad - Really!
I'm not the only one who thinks along those lines, to be sure. Berkshire-Hathaway (NYSE: BRK.A) snapped up large chunks of USG Corp. (NYSE: USG) during it a recent dry spell, and Carl Icahn is doing the same with WCI Communities (NYSE: WCI).
Rumors circulating in the financial press suggest that more than one value-oriented private-equity shop is sniffing around Louisiana-Pacific. Of course, buying on rumors is often a loser's game, but buying a sound cyclical company during bad times is often the opposite.