A Boring Small-Cap That You Might Just Want to Put on Your Radar

Lumber isn't a very exciting business to many people, but it can be a lucrative one for investors. On the "Small Cap" show on Fool Live recorded on Feb 8, Fool analyst, Seth Jayson, takes viewers through a deep dive on lumber provider Boise Cascade (BCC -0.83%) and reveals whether this stock is one he'd buy today. 

Seth Jayson: There we go, Boise Cascade.

Brian Feroldi: BCC is the ticker?

Brian Feroldi: Yeah, everybody knows that's wood. Wood involved or wood adjacent. It's wood products, so here we go.

Brian Feroldi: Nothing to do with dish soap [which] was my original thought.

Seth Jayson: No, no.

Brian Feroldi: I do not know Cascade.

Seth Jayson: You do not know these guys? This company, well, it seems like it's been around forever, some version seems like it's been around forever. But it's actually, I'll show you. It's crazy though. The current iteration is one of those things that only American-type M&A could get you.

A $1.9 billion company these days. When I looked at this from the [stock] screen, I thought what kind of debt is this thing going to be loaded with? This company, that does construction materials, not much net debt of barely anything. That's pretty good. Four percent dividend yield showing here, free cash flow yield of 13.4 percent. Stock price has gone steadily upward lately, you can see the direction of revenues here in the upper right over time, and positive margins. Margins creeping up here past the point that you would normally expect for a commodity-type business. We'll talk about that and whether it lasts a few slides down.

When I saw that price going up, I thought, "Are investors just getting excited bidding this thing up because everything is all about this lumber shortage these days?" But you know what? The price isn't crazy. Not even compared to its historical self. You can see their earnings are running pretty high these days, but they're trading at 10 times that earnings figure instead of the 15-20 range they sometimes come in. Sales multiple here is, if you look at the scale here, you can see that these aren't big moves. We're still in that 0.4 times sales range. If we're looking at one of those [laughs] newly IPO'd or SPAC'd companies, this would be infinity over here for some of these. [laughs] Because if you follow the lumber news at all and maybe you don't. But if you are scrolling business pages, you will have noticed that lumber prices have been tight for a while.

What does Boise Cascade do? Well, if you don't know by now, it's lumber wood products. They're one of the largest producers of engineered wood products and plywood in North America, which is something like a quarter of their business or so, and a leading US wholesale distributor of building products, including their own, which is the rest of the business. They sell that stuff to other people who sell that stuff to contractors and even the people like you and me.

The two reportable segments, I've got some highlighting here. Operate with a high degree of vertical integration. Its own Building Materials Distribution segment, the BMD, is the largest customer of its own wood product segment. There you go. It makes stuff like oriented strand board and so forth. They make that stuff as well as engineered trusses, I'll show you in a minute. Then the distribution business sells all that stuff that you would see at a home center or a contractor center, which is basically like the lumberyard with a tiny showroom if you haven't been to one: siding, composite, decking, metal products, insulation, roofing, all that stuff. From a vendor base of approximately a 1,000 third-party suppliers. Products are used. You can see they're here, and you can guess: housing, remodeling, light industrial and commercial, and then sold into home improvement centers.

This is the gist of the Engineered Wood Products segment. If you can see here these are all joists or these BCI joists, which are more fireproof and all those other ones up here. If you are still seeing behind me, you can see the joists that are old-school from my crappy 1960s house. These are just two by 12 or so, and they suck. These newer engineered joists are much better because they are deeper, they are lighter, they don't twist as much. If you know anything about stiffness over the length with things like joists or tubes, and I know a little bit about it because I build bicycles, it's the vertical dimension of this thing that matters.

You can see here one of the weaknesses of old-school wood for this purpose. These aren't as deep as they should be or should have been and they actually were way too bouncy. You can see here that at some point in the past, somebody like me reinforced them with steel strapping on the bottom because when you step on these things, they go like this, the floor goes like that. I reinforce them so the floor would no longer be something like a trampoline. These engineered wood products do a much better job than traditional lumber of taking care of those challenges. They are easier on resources being built of scrap, wood and so forth. In addition to selling those kind of contractor-specific products, they sell the kind of stuff you'd see at a Menards, which is their Home Depot.

How do they do? Well, you can see here the past few years up through the December of 2019, full-year results. They are due to report actually, their most recent full-year results in a couple of weeks, so we don't have the full year yet. We'll go through a little bit of the latest quarter. But you can see here that we're talking about a sales figure of somewhere in the neighborhood of 5 billion bucks. Down here with the blue, which is reaching downward, so it's negative, that is the intercompany exclusions from selling engineered wood products into the building materials products division. The bigger portion of sales is building materials and then the smaller portion is the specific wood products.

You can also get an idea about the margins of those respective divisions by taking a look here. This is the absolute EBITDA figure. You see over here on the right, we were above somewhere around 110 million for wood products, and building materials about 100, almost 140. Sales were much larger. The margins are clearly better here with engineered wood products, but still doing OK with the distribution business.

This is a map showing the reach of the company. So they're all over the US. The red stars are the wholesale distribution centers and then the headquarters over here in Idaho. There are various manufacturing facilities, you see the yellow and the orange squares. So you've got a lot of them in Louisiana, which surprises me. I'm not surprised to see them in North and South Carolina. If you know anything about Carolina Pine or out here. In the Pacific Northwest where lumber was also traditionally harvested for home building. Nothing in northern Minnesota where I'm from. They actually cut down all the pine trees by the early 1900s. The entire north of Minnesota was pretty much stripped. That's where I grew up. I'm not saying, [inaudible] did, lumber companies did. They do better than that now.

So how is it going these days? Q3, 2020 sales were up 25 percent. That's just a pretty big figure. I think I have headphones on the dog that's right above me, getting very excited running around. Net income was up to 103 million versus 27 million the prior year, so above 4x wood products. Segment income up to 66 million from the prior-year quarter of 15, so another 4x number. Building materials division segment income 108 versus 38, not quite 4x but you get the idea, things were going really well toward the end of this year.

Some of that is attributable to pricing. You always have, like I said, there's vertical integration they pointed out but pricing fluctuations are both cost and benefits for these kinds of companies. You can see here the sales prices went a little bit crazy in Q3 of 2020. Q4, it was getting a bit better but it may have gotten worse again. Wood pricing is always volatile but it's been much more volatile the past year or so.

Did I go back too far? No. So this was the look toward the end of November. They thought lumber composite price are coming down, but given all the headlines, they'll be back up, I haven't seen the latest news, all I know is it's still a challenge for all the contractors, home builders, as well as Boise Cascade.

What's coming up? This is a fairly simple business, so I don't feel I have to go at all the details of folks running and running everything, the management. They make products, they try to sell them for more than it cost to make them. I like what I see here from management in terms of the outlook. They're saying, well, current consensus for housing estimate is 1.32 million, up 2 percent from 2019. It sounds really sleepy, right? The company's fortunes are fairly directly tied to housing starts and builds. That sounds, OK, a nice little company making a decent amount of cash on fairly slow growth for the next year.

But I think that undersells what's going a little bit. If you pay attention to the recent headlines, here's my kiddo bringing me snickers. Thank you, hun. But I just brushed my teeth, so I'll save this for after the run. We're still looking probably at a housing shortage especially with single-family homes. We are still in a hangover from that big housing bubble that popped. You can see here that Zillow, if you follow Zillow and Redfin, and I do, there's been very little supply of homes for them to sell. Part of that is because not a lot of single homes are being built and you can't get people shuffling from place to place and there's no place for them to go or for them to start. 

This is still ongoing and the mortgage bankers association actually thinks that next year will be the first year since 2007 that we'll see above a million single-family housing starts and we'll get at least a couple more years of rising numbers. Everything I've seen from Zillow regarding demand for housing, even before COVID really seem to jump-start housing demand in the US. Everything seem to me to indicate that there are several years at least of better than average sales coming for home builders, as well as for folks who supply them, Boise Cascade being a prime example.

Which brings as back, as usual, to the snapshot on whether or not you think the stock price is decent. This probably shows you how a boring investor I can be sometimes. This might be the one I'm most eager to buy as long as my window I'm talking about is over. A four percent dividend yield is not bad. I see a very good near and probably medium-term going on in a company that's well managed. I think this is a very small boring small-cap and I'd be happy to do put some money in this one myself and may just do that early next week when I know I won't have violated our [trading] rules.