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Canada’s commodity sector is red hot right now. These stocks have been in an odd place for two years due to volatility. It is not surprising that institutional investors are taking advantage these distortions to acquire targets. Lumber giant West Fraser Timber Looks like the latest target.
West Fraser shares rose 25% this morning after a private equity company announced that it would acquire the company. Kronospan and CVC Capital announced that they are in negotiations to buy West Fraser.
Here’s a closer look at the potential deal and what this means for investors seeking undervalued bets in the commodity market.
Acquisition West Fraser
West Fraser’s market value is closely correlated with the price of its underlying product: lumber. The pandemic caused lumber prices to soar as people spent more of their savings on home-improvement projects. The boom has ended since then. Lumber trades at 56% of its historical high. In fact, it’s trading at the same level as it was in 2018.
Unsurprisingly, this bust pushed West Fraser’s stock lower. Since the beginning of 2022, West Fraser’s stock has lost almost a fifth its market value. The stock was trading at only 2.5 times earnings per shares and 0.82 times its book value pershare last month. It was, in other words, deeply undervalued despite lower lumber prices.
That’s probably why CVC and Kronospan want to acquire the firm. The deal hasn’t been finalized yet, but it’s likely that the final acquisition price will be much higher than West Fraser’s market value from yesterday’s close. This is why stock prices are up 22% this morning.
Other stocks that are undervalued
Vancouver-based Canfor The stock (TSX:CFP), is also undervalued at the moment. The company is West Fraser’s smaller rival. The stock trades at 2.2 times earnings per shares. If West Fraser is acquired for a premium in the near future, it could raise the industry’s valuation metrics and push stocks like Canfor higher. Canfor could be an acquisition target at these levels.
Investors can also expect consolidation in the energy sector. The volatility of oil and gas prices has been as high as that of lumber, so energy producers could be underpriced at the moment.
Companies that are mid-sized like Tamarack Valley Energy (TSX.TVE) stock is trading at a discount. The stock has lost 35% in value since June and trades at a mere 3.9 times earnings per shares. If crude oil prices remain at US$100, earnings could rise significantly in the coming year. Companies like Tamarack Valley can generate significant free cash flows even if crude oil prices drop to US$70.
Canadian energy companies have pledged to reward shareholders and not invest in expansion. Nearly all the sector’s excess cash flow is being used to pay down debt, buy back stock, or boost dividends. Mergers and acquisitions may be a strategy to increase earnings without having to invest in infrastructure. Keep an eye out for this trend in energy.