Domtar Corp. (USA) (NYSE:UFS)

CAPS Rating: 5 out of 5

The Company manufactures and sells fine paper, including uncoated free sheet and coated groundwood.


Player Avatar valuevulture999 (90.95) Submitted: 7/22/2010 8:32:06 PM : Outperform Start Price: $23.46 UFS Score: -14.21

In our search for value stocks, it usually leads us to very unconventional investments. Most stocks considered value plays are unloved, misunderstood or generally hated for whatever reason by investors. A stock becomes a value stock because something has happened which makes them very unattractive compared to sexier offerings such as Apple Inc. In my search, Domtar (UFS) is no exception to this. As a added benefit to my readers, I am a full time forrest products buyer which gives me an added understanding of both this company and this industry.

Who are they?

Domtar is the largest integrated producer of uncoated freesheet paper in North America. It’s products range from commercial printing paper to absorbant material found in diapers and tampons. They have 10 mills (8 in USA and 2 in Canada). They also engage in the business of selling raw pulp to other manufacturers. They also operate a paper merchant business where they buy, warehouse, sell and distribute their own products and products from other manufacturers to their customer base. This is the volatile part of their business!

What I see:

In this industry you must be a vertically integrated mill that owns its own pulp source or you will not survive! Many have already gone bankrupt as pulp prices have sky rocketed due to heavy chinese demand. Those who have managed to survuve are severly crippled due to incompetance of their hedge fund owners or just plain idiotic decision making at the MGMT level. I have personally seen this first hand. However, it doesn’t mean that there are a few profitable players worth looking at.

Why should you care?

Management has made significant progress for the last 3 years in improving their balance sheet thru reduction of debt to a more manageable level thru asset sales of the lumber division in canada (bad currency exchange rate) and their coated groundwood facility. All that leaves is their US pulp operations and uncoated freesheet manufacturing. At today’s closing price of $52.06 they are being sold at a 25% discount to book value and a whopping 74% discount to annual sales!!! The book value of this company is $63. Their ebita ratio is at a low of 2.77. They are showing strong margins due to their restructuring and other industry factors such as strong product pricing and high pulp prices for export. They have improved their liquidity and their earnings are now more 4 times the amount necessary to service debt. One area of concern is their total concentration on the UFS market. Even though prices have strengthened this year, it may falter in Q4 due to the Postal Regulatory commission’s decision on new postal rate hikes which should affect catalogers and publishers. I would very much like to see them diversify away fro UFS and focus on increasing more on the Fluff pulp business which should show strength in the next 3 decades. As baby boomers age they will start wearing diapers. Can’t lose business!!! The leader in this area is Rayonair but they are selling at much higher valuations which doesn’t fit in to the mission of this blog. We want to buy into good discounts!!!!! They are doing something very interesting and if it pans out could be a huge moneymaker. They are starting a pilot plant to produce Nanocrystalline cellulose. The applications are endless. Think bioplastics!!! A renewable forms of raw material that can be used to make super strong plastics and other materials while reducing our need for oil at the raw material. BTW, this stock pays a 2% dividend.

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