Trade wars and volatile crude oil prices have not been very kind to the share prices of pulp and paper leader WestRock (WRK 2.27%) or low-cost oil and gas producer EOG Resources (EOG 2.06%). The two stocks have lost 13% and 18%, respectively, of their value since the beginning of October. And that's exactly why investors should be poking around the two businesses.
WestRock just closed a major acquisition that will increase its presence in cardboard products. Aside from being a little boring, cardboard just so happens to be the strongest segment of the global paper industry right now, thanks to growth in online shopping and China's idled fleet of paper machines. Meanwhile, EOG Resources is getting whacked as crude oil prices fall from their multiyear highs, even though management has built the business to thrive in exactly this kind of environment. Here's why investors should consider buying these two bargain stocks now.
China still isn't threatening the global paper industry
Shares of WestRock have receded 26% since the beginning of the year as a result of analysts worrying about the impact on the business from the ongoing trade war between the United States and China. The argument falls apart quickly, though. China has been a driving force behind a global pricing surge in corrugated paper products (read: cardboard) in recent years. So slapping tariffs on American imports would presumably halt that growth story, but it's not quite so simple.
While China has the newest fleet of paper machines in the world, it's highly dependent on imports for raw material (virgin pulp or recycled fiber). But before the trade war even began, the government restricted all imports of recycled fiber due to concerns over quality. Unable to run their paper machines at full force, Chinese companies turned to importing finished products such as cardboard instead. Tariffs on finished paper products don't change those imports, as there aren't any alternatives to good old cardboard boxes. Products need to be packaged regardless of the cost to do so.
Wall Street hasn't caught up to the fact that cardboard is an inelastic product in China, but that just creates a sweet discount in shares of WestRock for individual investors. In fiscal 2018 (the year ended on Sept. 30), the business delivered 9% higher sales, 53% higher operating income, and 27% higher operating cash flow compared to the prior year. The corrugated packaging segment delivered 39% growth in EBITDA in that span. So much for the trade war.
And things should actually get better. That's because WestRock closed the $4.9 billion acquisition of Kapstone in the first month of its fiscal 2019 (October). The merger will tack a healthy amount of growth onto the existing $11 billion business and should save $200 million in synergies by 2021. Even if the synergies aren't realized (they rarely are), WestRock shares trade at a PEG ratio of just 0.67, just 9.6 times future earnings, and just below book value. That's roughly in line with peer International Paper's PEG ratio of 0.65 and future price-to-earnings ratio of 8.4, but IP trades at a whopping 2.6 times book value. Throw in the fact that WestRock is a cash cow and pays a 4% dividend, and there's no denying this is a great bargain.
Built for low oil prices
Shares of EOG Resources have taken a beating since crude oil prices began their precipitous drop in October. While that's understandable considering the company is the third-largest producer of petroleum liquids in the United States, it's a bit of a head-scratcher considering the business is built to thrive in a low-price oil environment. How? The company has built a superb acreage portfolio focused on returns, not outright production volumes. In fact, it expects to deliver 30% returns on new wells at crude oil prices of $40 per barrel.
That's not hyperbole, either. In the first nine months of 2018, the business delivered $3.3 billion in operating income, compared to just $450 million in the year-ago period. That's an increase of 633% thanks to a healthy rise in commodity prices in that span. More important, the numbers from 2017 demonstrate its ability to deliver profitable operations even in relatively low oil-price environments.
As a result, EOG Resources thinks it can deliver 19% annual growth in its dividend payout, as well as double-digit returns on invested capital. In other words, although the stock currently only boasts a 0.9% dividend yield, investors with a long-term mind-set wouldn't want to overlook it. After all, the stock trades at a PEG ratio of just 0.15 and only 14.5 times future earnings, the latter of which is among the lowest levels since the Great Recession.
There are stocks on sale in any market
Individual investors often have an advantage over Wall Street: the ability to focus on the long term. That's especially true in the case of WestRock and EOG Resources. Both are near the top of their respective industries in terms of operational health, but despite that, each business is being punished irrationally by analysts worried over growth prospects. The numbers reported thus far in 2018 seem to indicate that those concerns are being given too much consideration. That, plus the low stock valuations for each business, hints that these are two stocks long-term investors can feel good buying right now.