Is UFS a good value bet?

January 7, 2019

Is UFS a good value bet?

After closing out the year on a decidedly negative note, and leaving more and more investors guessing that 2019 could be the year the market, and the economy officially turns bearish, stocks generally rebounded over the last week. The market seems to have decided to use the market’s drop to near-bear market levels in December as a new opportunity to buy low and to start trying to build a fresh round of upward momentum. Half a dozen sectors are up more than 1% in the last week. One of those is the Materials sector, which based on the S&P 500 Materials Sector SPDR (XLB) is up 1.5% so far this year.

The Materials sector is one of the areas of the market I like to pay attention to, because it is one of the segments that feeds into so many other sectors and industries of the U.S. and global economy. It’s a sector that is full of companies you might not recognize by name immediately, because their products are used to build the finished products that you and I use. We’re more familiar with the companies that make those finished products; but Materials companies are among the businesses those industries rely on.

Domtar Corp. (UFS) is a company in the Paper & Related Products industry of the Materials sector. One of the other reasons you may not be familiar with this stock by name is because it isn’t one of the largest, more recognizable names in its industry; it is a small-cap stock that nonetheless has some interesting fundamental strengths working in its favor right now. The stock is down almost 34% since its peak in September; but the sector’s rebound so far this year has been good for this stock, as it has bounced a little over 3% in the last week from its latest low point. That could be a sign the stock has reached a point that the market is willing to treat its current price as a good value.



Fundamental and Value Profile

Domtar Corporation designs, manufactures, markets and distributes a range of fiber-based products, including communication papers, specialty and packaging papers and absorbent hygiene products. The Company segments include Pulp and Paper and Personal Care. The Pulp and Paper segment consists of the design, manufacturing, marketing and distribution of communication, specialty and packaging papers, as well as softwood, fluff and hardwood market pulp. The Personal Care segment consists of the design, manufacturing, marketing and distribution of absorbent hygiene products. The Company is a marketer of uncoated freesheet paper in North America serving a range of customers, including merchants, retail outlets, stationers, printers, publishers, converters and end users. It is also a marketer and producer of a line of incontinence care products, as well as infant diapers. It has a network of wood fiber converting assets that produce paper grade, fluff and specialty pulp. UFS has a current market cap of about $2.3 billion.

  • Earnings and Sales Growth: Over the last twelve months, earnings increased nearly 42%, while revenues increased a little less than 6%. In the last quarter, earnings more than doubled, while sales modestly at 1%. The company’s margin profile has been negative over the past year, as Net Income as a percentage of Revenues was -3.5% in the last year, but improved in the last quarter to 7.24%.
  • Free Cash Flow: UFS’s free cash flow is healthy, at $295 million over the last twelve months. This number translates to a healthy Free Cash Flow Yield of nearly 13%.
  • Debt to Equity: UFS’s debt/equity ratio is conservative, at .43. The company’s balance sheet shows that long-term debt is about $1.1 billion, while cash and liquid assets around a little over $1 billion against $256 million in cash and liquid assets. The improvement in the company’s margin profile over the last quarter is a good indication that management has sufficient ability via cash flow and operating profits to service their debt.
  • Dividend: UFS’s annual dividend is $1.74 per share, which translates to a very impressive yield of 4.8% at the stock’s current price. That yield could be an interesting draw reason to think about taking a long-term position if you think the stock’s current price reflects a useful bargain.
  • Price/Book Ratio: there are a lot of ways to measure how much a stock should be worth; but one of the simplest methods that I like uses the stock’s Book Value. UFS has a Book Value of $40.59. That translates to a Price/Book ratio of .89, while their historical Price/Book ratio is 1. The stock’s Price/Cash Flow ratio is very different, since it is trading more than 60% below the stock’s historical average. Together, these ratios put the stock’s long-term target price somewhere between $41 and $57 per share, depending on which measurement you prefer to use.



Technical Profile

Here’s a look at the stock’s latest technical chart.

 

  • Current Price Action/Trends and Pivots: The red line on the chart traces the stock’s downward trend since mid-September; it also provides the baseline for the Fibonacci retracement calculations shown by the red horizontal lines on the far right side. The size and slope of the stock’s decline in December is the reason that the stock would probably need to break above $42 as shown by the 38.2% retracement to actually represent a legitimate bullish trend reversal. If it breaks below the latest swing low at around $34, the next most likely support point is around $30 based on the last pivot support in early 2016.
  • Near-term Keys: If you’re willing to be very aggressive, a continuation of the stock’s current bullish bounce could be taken as a signal to buy the stock or use call options to take advantage of the nearly $6 difference between the stock’s current price and the next resistance at around $42. The best signal to take a new long-term bullish position, however would really come either after a push above that $42 resistance, or by waiting to see if the stock can set up a new consolidation range somewhere around its current support level. Either signal is going to take time to materialize, which means that the best option right now, even with the stock’s interesting value proposition is to be patient until a pattern with a higher probability success can be seen.