Boise, Inc (BZ) is a manufacturer of paper and packaging products. The stock was tremendously beaten down in 2008/2009, dropping all the way to $.25 per share, and despite its subsequent recovery the company still appears to be an attractive value opportunity. It first caught my eye on a Piotroski screen, where it scored a perfect 9 with a P/B of 1.07.
With that in mind the question is: why is it cheap? Are there any ticking time-bombs in the balance sheet or is the industry in an overwhelming secular decline? If not, it makes for an appealing value investment quantitatively.
Financially, the company looks stable (which makes sense…that’s what the F-score is for). D/E is 1.14, down from 1.26 in 2009. Long term debt has been declining every quarter for over a year. Current ratio is likewise solid at 2.11. Recent refinancings have pushed the maturity dates on BZ’s long term debt farther into the future, with $300M coming due in 2017 and 2020. The new interest rates aren’t exactly stellar (9% and 8% respectively) but judging by their recent actions the company intends to repurchase much of that debt before it matures. The only downside there is that the 2017/20 Notes can only be prepaid during their first two years by an equity issue, which would dilute existing shareholders substantially if they chose to use that option. Luckily the company has issued very little stock over the past two years – diluted shares outstanding only rose from 83 to 84 – so they seem to have a promising history of not diluting shareholders.
Asset-wise, the company sells for the aforementioned 1.07x multiple of book value, which is currently $7.86 per diluted share to a price of $8.30. That consists mostly of hard assets and a really rough liquidation value breaks down like this (assuming 0% liquidation value for non-listed assets):
|Carrying Value||Liquidation Value|
Even with relatively generous recovery values – if this thing goes, it’s likely industry troubles are the cause and the equipment will not be in high demand – that comes out to a big ol’ goose egg for shareholders after accounting for the existing liabilities ($956.9M – $1304M = bad). Investors looking for safety at that level should look elsewhere; there’s just too much debt.
On a brighter note, the company is valued pretty conservatively if you expect it to remain a going concern. I think that’s pretty fair considering its financial stability and free cash flow. P/E is 7.63x and P/FCF is only 3.14x. Again, that suggests the question, what’s wrong?
The clearest is that the industry as a whole seems to be experiencing a moderate secular decline. Boise has been shedding excess capacity over the past few years and other participants, like AbitibiBowater, have gone into Chapter 11. This has clearly impacted Boise, but a careful reading of the income statements shows that BZ has been profitable – and increasingly profitable – in spite of this. In 2008, restructuring charges and losses due to other extraordinary events like Hurricane Gustav account for the entirety of BZ’s $46M loss. The company still produced a positive free cash flow that year (granted, only $17M). 2009’s figures are distorted in the opposite direction: large alternative energy tax credits appear to make the company more profitable then than it has been in so far in 2010 though the opposite has been true. Here is a comparison of the 3Q 2010 and 2009 numbers:
|3Q 2010||3Q 2009|
|Net Income – Extraordinary Items||$36.6M||$10.3M|
|EBITDA – Extraordinary Items||$110.9M||$66.2M|
Gross margins have improved steadily over the past three years: from 12.5% in 2008 to 17.4% in 2009 up to 19% for the TTM period (the 24.6% gross margin from the most recent quarter is nice, but probably won’t continue). The steady debt reduction has also done a lot to boost BZ’s bottom line, saving $16M so far in 2010.
There also should be a tax benefit in 2011 that was absent in 2010. The company retains NOL carryforwards, but was unable to use them due to Boise Cascade’s large stock sales. Boise Cascade (not to be confused with BZ) is the previous owner of Boise, Inc’s paper products division and the current owner of OfficeMax. As part of the sale to BZ it acquired a substantial amount of BZ stock which it disposed of during 2010. This in turn prevented the use of the tax benefits due to IRS regulations. This ought to reduce 2011’s tax rate below the 41% rate the company paid last quarter.
Future earnings don’t seem to be a major concern in those respects. The concentration of BZ’s sales might be another problem area, though. OfficeMax accounts for about a quarter of Boise, Inc’s sales, with the rest of its customers amounting to less than 10% each. OfficeMax is locked into a contract with Boise until the end of 2012 which gives Boise exclusive rights to provide their paper products. After 2012, OfficeMax’s commitment to Boise (if it isn’t renewed) will phase out 25% per year. I would expect that OfficeMax’s decision on this matter would depend on the prevailing market conditions in 2012. Prices in the contract are linked to an index and roughly track market rates with a 60 day lag, so in a period of rising prices OfficeMax would have the minor advantage of paying slightly below-market rates. Unless Boise is providing sub-par service, this might be enough incentive to maintain their arrangement.
Another possible dilemma is labor relations. Several of their union contracts have expired and the endorsements of union leaders didn’t prevent members from voting down the new proposed contracts. I’m not sure if this bodes well for Boise’s future relations with its workers. There don’t seem to be any news reports of discontent or feuding between unions and management, which is an encouraging sign, but any work stoppage could seriously impair production at Boise since the majority of its workforce belongs to the Association of Western Pulp and Paper Workers. It’s undeniably a risk, but I think the low valuation and the fact that union relations haven’t shown any public strain since the rejection of the contracts at the start of 2010 are enough to offset the potential issues.
Uncertainty regarding resource prices is probably the last major factor that’s helping to keep the stock’s price down. The company is somewhat sensitive to changes in the price of wood fiber and natural gas. A 1% change in wood fiber prices takes a $4M bite out of pre-tax earnings and a $1/mmBTU change in natural gas prices takes out $12M. Natural gas prices are near a multi-year low, so it’s probably optimistic to assume they’ll stay here forever. Boise has hedged a lot of its energy exposure and a $1 change amounts to an increase over 20% from current price levels, so that seems to be a less pressing worry (though investors ought to watch closely). Wood fiber is harder to gauge, especially since wood price indexes seem to be proprietary. Judging by BZ’s filings, prices for wood fiber seem to have been rising generally throughout 2010, which is one reason why I expect margins like the company saw last quarter won’t last. Even without them, though, the company’s increased sales and lower debt level ought to maintain continued profitability.
The company isn’t perfect – that’s why they’re practically giving it away in P/FCF terms – but I think that overall its risks are manageable (like unions and price levels) or exaggerated (like its “weaker” performance in 2010 vs. 2009).