For These 2, It's Timber!

Two very strong companies I follow reported earnings Monday that were hit by weakness in the U.S. housing market. The fact that neither one of them is a homebuilder reveals that housing pain reaches all the way up the value chain, far beyond the likes of KB Home (NYSE: KBH  ) and Lennar (NYSE: LEN  ) .

While Canadian National Railway (NYSE: CNI  ) didn't quite come out and say it, the housing harvest figures prominently in the company's struggling forest products segment. Unfortunately, that commodity group is Canadian National's largest by revenue. Additional pressures came from just about every conceivable angle, from fuel costs to the strong Canadian dollar. It all added up to a flattish top line, a 9% drop in operating income, and a deterioration in the all-important operating ratio.

Yes, the operating ratio jumped a few percentage points, but it's a lower ratio that indicates better efficiency. Think of it as the mirror of operating margin -- when margin falls, the ratio rises. Even with a bump up to 62%, it's still an enviable figure.

A year of flat earnings growth, adjusted for one-time gains, doesn't get anyone's engine running. But I like how this rail operator conducts itself, and I'd be reluctant to abandon it for less timber-exposed rival Canadian Pacific Railway (NYSE: CP  ) .

Ratcheting up that exposure a notch or two brings us to Plum Creek Timber (NYSE: PCL  ) . Forget flattish -- Plum Creek's quarterly revenues slipped by double digits, and per-share earnings fell by a third. But to judge this business on a quarterly basis misses the beauty of the model. Even when profits aren't growing, the trees are, and that timber gets more valuable when it's left unharvested.

Rayonier (NYSE: RYN  ) is a real estate investment trust that operates similarly, albeit on a smaller scale. Both businesses have the potential to become very attractively priced as housing despair fills the air. Housing cycles will run their course, but keep in mind that over the long haul, trees are the bee's knees.


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  • Report this Comment On October 24, 2008, at 10:07 PM, UltraContrarian wrote:

    The share price of PCL is now down $.04 from 1994. Yes that's right, a 14 year low and still falling. Trees suck.

  • Report this Comment On October 24, 2008, at 10:09 PM, UltraContrarian wrote:

    Correction: not a 14 year low, that was the high price in 1994. PCL still sucks though.

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