The housing market is crashing. Rising mortgage rates and still-elevated commodity prices caused new single-family housing starts to decline 4% in November (the latest period) while residential permits tumbled 11% for the period. The National Association of Home Builders housing market index sits just above the lowest point hit during the onset of the pandemic.
So why did Warren Buffett's Berkshire Hathaway buy Louisiana-Pacific (LPX 0.12%), a leading manufacturer of building products, including engineered wood products, siding, and other products used in residential and commercial construction? And if Buffett is buying, should you?
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No place like home
Although existing home sales fell 7.7% in November, the 10th consecutive month they've been down, there is actually a housing shortage in the U.S. A shortage is considered when there is less than a six-month's supply and today the National Association of Realtors says there are just 1.14 million unsold existing homes, or just 3.3 months worth of inventory.
For that reason alone, the housing industry isn't expecting the same sort of wholesale plunge in pricing that marked the collapse of the housing market 15 years ago. Today, the median existing-home sales price is $370,700, an increase of 3.5% from last year. It may be more of a buyer's market now, but it's not the rout many have been expecting.
There may be some pessimism amongst homebuilders, but there exists several reasons why Louisiana Pacific could still be a good investment opportunity for you.
The right price
Of primary interest is valuation. Even after news of Buffett's purchase sent LP's stock soaring in November, the stock remains 16% lower over the past year and is 22% below the highs it hit in 2022.
Shares trade at an enviable 4 times trailing earnings and just 16 times next year's estimates, while also going for a fraction of its estimated earnings growth rate. Of course, at a compounded rate of 5% annually for the next five years, Wall Street isn't expecting a massive growth spurt, but at just 5 times the free cash flow Louisiana Pacific produces, shares certainly give the appearance of offering a bargain basement discount.
Now the wood products company itself doesn't often trade at sky-high premiums and sometimes a stock is cheap for a reason. Analysts are expecting the housing downturn could impair LP's future prospects.
New opportunities for growth
Fortunately the company has been transitioning to a more holistic approach to the industry, having a greater presence in the repair and remodel market as well as developing valued-added products.
LP's focus on innovation has been a key driver of growth as it has invested in research and development to develop new products and technologies. This, in turn, has helped the company to improve efficiency and lower costs, which has improved margins.
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Its siding business saw a 27% increase in third quarter sales, which it says helped set new records for pricing and volume, while its structural solutions unit saw sales volumes increase 10% year over year. Oriented strand board, or OSB, still comprises the largest component of Louisiana Pacific's business, but it's trying to take that in new and innovative ways.
For example, in the structural solutions division, it created a radiant barrier product for OSB, which is an aluminum panel affixed to the plywood that helps block heat from emitting into an attic space. Its air and water barrier panel protects against the elements while also increasing the structural integrity of the house. During the quarter, the majority of the revenue for LP's OSB segment came from its specialized structural solutions portfolio.
Solid stock at a good price
Louisiana Pacific has a solid balance sheet, with low debt levels and a strong cash position. This gives the company the financial flexibility to make additional investments in growth opportunities while weathering any short-term challenges.
Yet, as a lumber stock it's cyclical, and buying now would mean having patience to let the sector rotation occur until the housing market was back in favor. It might not decline as sharply as it did a decade or so ago, but these depressed valuations may be with LP for a while.
In the meantime, the wood products company will continue to return value to shareholders through a nominal dividend payment that currently yields 1.4% annually, while buying back large tranches of stock. It has cut its outstanding share count in half over the last five years.
For investors with a long investment horizon, which you should have, Louisiana Pacific could make a solid addition to your portfolio.
