GreenFirst Forest Products (TSXV: GFP)
Written on June 20th, 2021
Price at time of writing: CAD 6.38 (That price includes 3 rights that strike at $1.5, the implied price of the common is CAD 2.72)
Disclaimer: This report is not financial advice - please do your own due diligence.
Summary
GreenFirst Forest Products is a former cash shell that just acquired seven lumber mills from Rayonier via a rights offering. GreenFirst’s stock (GFP) is currently trading with the rights attached, so we believe that this is causing a significant mispricing for what was an extremely accretive deal for shareholders. GFP’s current price implies a $C441 million enterprise value – we lay out below a case for how shareholders could realistically receive the entirety of their capital back within 2-3 years with added optionality, which makes for a potential multi-bagger investment in GreenFirst.
Overview
Green First Forest Products is a Canadian lumber mill owner/operator. Up until the recently announced transaction, GreenFirst was just a cash shell managed by Kyle Cerminara and Larry Swets that owned just one inactive mill in Kenora, Ontario. The stock, which currently trades on the TSX Venture as GFP and on the OTC as ICLTF, became interesting after it announced that it acquired 6 softwood lumber mills and one newsprint mill from Rayonier Advanced Materials (RYAM). The Kenora mill plus the acquired assets give GreenFirst a ~900 MMBF (million board feet) capacity per year, making it one of the top Canadian lumber producers.
The total purchase price for the mills was C$285.8 million, which includes C$92.8 million in inventory and C$17.4 million in transaction fees. GreenFirst will finance this deal by i) raising C$144 million in debt, ii) issuing C$40 million worth of GreenFirst shares to RYAM, iii) management injecting C$5 million worth of equity, and iv) a C$94 million fully backstopped rights offering.
The rights offering is incredibly attractive to current shareholders as it allows them to buy into the deal at a discounted price; each GreenFirst shareholder was granted three rights to purchase an additional GreenFirst share for C$1.5. The rights are expected to trade separately from the common sometime in Q3, after which shareholders can execute them and the deal will close after ~30 days.
Valuation
Following the rights offering, GreenFirst will have ~145 million fully diluted shares outstanding. The rights are still attached to GFP’s stock today, so at GFP’s current price of $C6.38, this implies that the common is trading at $C2.72 plus three rights valued at $C1.22 each.
At the common’s price of $2.72, we get to a market cap of $397 million. Add the $C144 million in debt raised, subtract the $C93 million worth of inventory available, and subtract the $C 7 million in cash and NWC as of 3/31/2021, and we ultimately get a $C441 million pro forma enterprise value for the combined business.
This enterprise value represents an extremely attractive price. The stock hit a high of $C11.0 when strip prices reached all-time highs at US$ ~1670 but has come back down 42% to $C6.38 with strip prices now at US$ ~900. In 2020, the acquired assets generated $C580 in revenues and $C80 in EBITDA at an average price of US$641 per thousand board feet, equating to a ~14% EBITDA margin. If the Kenora mill (which has 20% of the capacity of the acquired assets) had been active in 2020, the entire business would have generated a pro forma 2020 EBITDA of $C96 million.
Management believes that the acquired mills were under-utilized and that freight costs can be reduced significantly, so a normalized 17% EBITDA margin for FY 2022 is more in line with expectations. Assuming that strip prices remain where they are at US$ ~900 for 2022, then this business is generating $C ~200 million in EBITDA. That is a 50% return on equity and almost half of the enterprise value. Assuming that strip prices go down to US$ 575 in 2022 instead, we get to $C 130 million in EBITDA – a 30% return on equity. All this to say, if strip prices remain above US$ 400-500 in 2022, this is a multi-bagger.
Capital Allocation
Once the mills are up and running, the intended use of capital for the first eighteen months is to i) pay down debt as quickly as possible (which will continue increasing return on equity), and ii) perform light capex for the purpose of improving utilization rates. As the debt is paid down and the business becomes cash-rich, we can expect capital to be returned to shareholders at increasingly quicker rates. In the second eighteen months following the transaction, more capex heavy projects will be done to increase the acquired assets’ capacity from 755 MMbf to 900 MMbf.
Lumber Cycle
We obviously have to address that this is a commodity business whose outcome is highly dependent on lumber prices, so you have to be bullish on lumber’s short to medium-term prospects for this pitch to work for you. There are several secular trends, however, that give fundamental credibility for lumber prices to remain elevated in the next three to five years. The graphs below further fuel my belief that the housing boom in the US has merely started and is not temporary:
The graphs above strongly indicate that the average American homeowner now has better credit and more equity in his home than previous cohorts, all positive indicators for the price of lumber in the medium term.
Years of low lumber prices led to mill under-investment and under-management, which led to fires and mill closures. As work from home becomes more pervasive, there has been a shift in consumer spending to remodeling, shifting to living in suburbs, and using wood instead of brick and concrete for construction due to its lower carbon-absorbing properties. Moreover, US housing starts are at a 15-year high and forecasted to keep growing as remote workers demand larger accommodations amid a shrinking housing inventory. If these trends continue, we can expect lumber prices to remain elevated in the foreseeable future.
Management
This being a microcap lumber mill, it also makes sense to at least address the people who will manage its capital allocation. The team will be led by experienced management, including CEO Rick Doman (former CEO of EACOM Timber) and Chairman Paul Rivett (President of Fairfax Financial). The largest shareholders following the closure of the deal will be Ballantyne Strong and Fundamental Global, both holding companies run by Kyle Cerminara.
Management is well aligned with shareholders, and I expect them to continue acting in their best interest. Senvest, who backstopped the rights offering, wanted to make sure that they owned at least US$50 million of GreenFirst shares once the deal was completed. To make the deal work for them, management saw themselves in a position where some had to transfer their rights to Senvest. While Cerminara did not see himself in a position to give away the rights owned by Ballantyne Strong and Fundamental Global shareholders, Doman, Rivett, and Swets graciously gave their rights to Senvest for backstopping the rights offering. While this may strike you as a lack of incentive alignment on part of management for giving away their rights, they will each invest $US 1 million as part of the management equity injection mentioned above to continue invested in the deal.
Conclusion
While this is a volatile commodity-dependent business, there are several fundamental factors that point to lumber prices remaining elevated in the near to medium future. Even at more normalized strip pricing levels of $US 575, this is a 30% ROE business. If the commodity ‘super-cycle’ continues in an upward trend, however, an investment in GFP could return multiples on invested capital. GFP could well turn out to be a limited downside, unlimited upside investment.
Moreover, once the deal closes, the company will uplist to either the NYSE or the NASDAQ within 6 months, which was a condition for Senvest to take part in the deal. This will undoubtedly increase the stock’s visibility and could serve as an added catalyst for its rerating.