Inside Wall Street: Chopped-Down Weyerhaeuser Could Be Ready to Regrow

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Paper and forest-products stocks have been among the most unpopular, if not disliked, sectors in the past two years. The housing meltdown and the related decline of the construction industry paralyzed demand for paper, lumber and building products. And that has hammered paper and forest-products stocks. But some bold and contrarian pros think these crumpled stocks are poised for a comeback.Among the companies that have felt the sector's pains is Weyerhaeuser (WY), one of the world's largest integrated forest-products giants. It engages in producing timber, paper and wood products, and real estate construction and development.

Weyerhaeuser's stock plunged from an all-time high of $87 a share in 2007 all the way down to an all-time low of $18.67 on Mar. 6, 2009, when the entire stock market also crashed. That would have been the precise time, if anybody had the prescience and guts, to scoop up wads of the shares. Since then, Weyerhaeuser has bounced about halfway back to its former high and is now around $43.

A Long-Term Play on Housing

Some investors argue that it has achieved much of its potential already, considering the continued weakness of the economy. But looking at both technical and fundamental grounds, the stock still looks inexpensive. And some savvy pros believe that it's very much underpriced based on a sum-of-the-parts, or breakup, valuation. So as harrowing and cloudy the economy and the industry's future may appear to some, some emboldened pros have been buying in.

These investors believe Weyerhaeuser, which lost money in 2008 and is expected to stay in the red this year and next, is a long-term play on housing. They believe the company will be back in the black by 2011. Analysts' consensus estimates, according to Bloomberg, see it earning $1.11 a share for 2011.

"Weyerhaeuser's timberland alone is worth $40 a share," says Kent G. Croft, president of Croft and co-portfolio manager at Croft Investment Management, which owns shares. Weyerhaeuser has sold some of its ancillary businesses, including its packaging unit, which International Paper (IP) bought in August 2008. That's part of Weyerhaeuser's effort to become more "timber heavy," notes Croft.

Converting to a REIT Structure

He believes much of the troubles that plagued the company are already reflected in its stock, particularly after it cut its yearly dividend twice in 12 months, from $2.40 a share to 20 cents.

Croft's long-term approach aims to hold a stock for three to five years. So far, the strategy has worked well: Croft Value Fund has delivered average annual gains of 5.3% in the past five years, vs. the Standard & Poor's 500-stock index's 1%. And year to date, the fund is up a whopping 31%, compared with the S&P 500's 19.3%.

The Weyerhaeuser bulls got another argument for their position when the company's board announced on Dec. 15 that converting to a real estate investment trust (REIT) would best support Weyerhaeuser's strategic direction. The company says the likely date for conversion would be next year.

"That Weyerhaeuser is electing REIT status suggests that the profit cycle in wood and timber is beginning to improve," says George L. Staphos, analyst at Bank of America Merrill Lynch, who upgraded the stock to a buy from neutral and raised his 12-month target to $50 to $60 a share based on REIT valuation, from $47. (Bank of America Merrill Lynch has done banking for Weyerhaeuser).

Attractive to Dividend-Hungry Investors

Weyerhaeuser will be able to convert to a REIT with its existing business mix of timberlands, wood products, cellulose fibers and real estate, Staphos says in a note to clients. "We view these announcements as positive and supportive of our buy rating," he says. As a REIT, Weyerhaeuser must issue a special taxable dividend to stockholders of its undistributed earnings and profits, which he estimates at just below $6 billion as of the beginning of 2010.

Operating in 10 countries, Weyerhaeuser is now focusing on its timberland roots, notes Staphos. In all, the company owns about 6.4 million acres in the U.S. "We believe Weyerhaeuser's markets are gradually improving," he adds, although most analysts are still wary. Nine rate the stock a hold, seven recommend buying the stock and two tag it a sell.

Indeed, paper and forest products stocks are still risky. But for dividend-hungry investors, Weyerhaeuser is a stock to consider. A REIT "is an effective public structure for timberlands, as the vast majority of dividend distributions are treated as return of capital for investors, rather than ordinary income, explains Peter Ruschmeier, analyst at Barclays Capital, which has done business with Weyerhaeuser and owns shares. He rates the stock overweight, with a 12-month target of $55 a share.

Apart from the REIT factor which he considers a positive, Ruschmeier also expects a cyclical upturn for wood products, homebuilding and timber. Plus, the stock has a "very compelling valuation," he says. If these contrarians are seeing the forest and the trees correctly, Weyerhaeuser could be a stock worth loading up on.

Meet Gene Marcial at the World Money Show Orlando, Florida, Feb. 3-6, 2010 at The Gaylord Palms Resort.
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