Stella-Jones (OTCPK:STLJF) is a North American infrastructure company that flies under the radar. The company has increased sales 22 years in a row, and trades at a very reasonable valuation due to its small size and relatively unknown Canadian listing. Since the main listing trades only on the Toronto Stock Exchange it may be missed by most US investors, providing an opportunity. The company specializes in utility poles, railroad ties, industrial infrastructure and residential lumber – 3 slow growth areas that don’t excite investors. However, these infrastructure areas are essential long term and require consistent upkeep allowing for a steady growth profile over time. Continued increases in infrastructure spending in the United States should help boost revenues and profits over the next few years. The company is targeting 75-80% of revenue from infrastructure in the medium term from 70% today. Q4 results showed continued strength and the company continues to buy back shares and grow the dividend over time. The company has consistently grown its dividend since 2012 – over 10 years. The dividend has gone from under 4 cents per share quarterly in 2012, to 23 cents per quarter in March 2023 up 15% y/y. The consistent dividend increases have put it in Canada’s dividend aristocrat ETF’s including BlackRock’s (CDZ:CA). This stability combined with a reasonable PE ratio at 13.4x makes Stella-Jones a very intriguing play for a potentially volatile 2023 and 2024. SJ has managed an impressive 0.76 Beta against the Canadian market showing stability in otherwise choppy markets in the past year.
Q4 – Continued strength in infrastructure
As you can see below, the company has impressive metrics and a very reasonable valuation to boot. The stock trades at a 13x PE ratio while growing approximately 10% earnings growth compounded albeit in an inconsistent manner over the past 5 years. EV/EBITDA is at a multi-year low of 8.8 even with the stock sitting around all-time highs at $52.50 CAD. EBITDA grew by 12% in 2022 to $448 million on the year, giving a solid growth rate for a company trading below 9x on this metric. Operating income is heading back towards highs as you can see from the graphic above while the stock continued to trade significantly cheaper than prior to the pandemic – giving significant upside in the name. The company peaked in July 2021 at $400m operating income and should be back there in 2023. The company continues to buy back shares with its strong free cash flow profile, with 4.7 million shares purchased throughout 2022. This is a high single digit % of the float bought and is in addition to the growing dividend of 23 cents/quarter to start this year. The company is also continuing to invest in the future with capital expenditures focused on the infrastructure areas over $150m in 2023.
North America has over 105 million wood utility poles where SJ is a major player, and many of those are aging and need to be replaced. Most of that business is under contracts of 3-7 years, giving good revenue visibility and good working relationships with customers. This area has seen the strongest growth over the past 5 years, with revenues growing from $741m to $1227m. That CAGR is 10.61% which is actually significantly lower than the 27% sales growth the segment managed in Q4 before acquisitions were included. In 2022, 75% of the strength was from pricing increases, as demand continues to be strong and SJ is able to pass the costs onto customers. 25% was from additional pole demand during the year as projects continue steady growth. The strength should continue here into 2023 as infrastructure projects continue to be a top focus for the US government. Growth of 5G and fiber optic networks to the home (FTTH) are both long term drivers of additional pole replacements. This continues to be the main focus of the company as the growth is stronger and the replacement needs are more pronounced in the US. Much of the gross and operating margin improvement is coming from economies of scale as the company moves from a smaller producer, to a major one as it continues to acquire small competitors.
The second largest segment are railway ties where the company is a major player in a consolidated market. At 24% of sales this is a stable business segment with growth in the low single digits going forward, shown by a 4% growth in 2022 adjusted for FX. Demand is steady with the major Tier 1 railway operators of the United States and Canada being the main customers. Slight price increases in the mid-single digit range that are passed on will provide most the revenue growth for 2023. This segment is a low growth area that has a stable earnings profile with costs mostly able to be passed onto its customers being a major benefit. As SJ continues to ramp sales here, EBITDA margins can continue to tick up providing additional cash flow.
Residential lumber sales should be $600-650 million CAD in 2023, or a decent step down from the $744 million in 2022. This segment outperformed expectations in 2022 and could again this year as a strong consumer keeps demand high. Pricing should continue to come down some, which management called out on the Q4 conference call. However, this segment should continue to be 20-25% of the business over time, with more focus on the infrastructure opportunities in the medium term. The smaller industrial product space includes parts for bridges and crossings, grew 15% organically in 2022 and should continue to grow as a portion of revenue. This segment grew 65% of its increase by volume rather than pricing which is the best among SJ business units.
Stella Jones March 2023 (SJ March 2023 Presentation)
Conclusion – Top value pick in Canada
Canada has some strong value stocks and valuations continue to be lower than comparable peers in the United States. This gives potential for medium term outperformance, even in a potential recessionary scenario. Stella-Jones has a stable revenue base of contracts that give it good earnings visibility for 2023 which is a strong defensive characteristic. They continue to pass price increases onto customers and actually increase margins as they ramp capacity. SJ has debt at a very reasonable 2.5x EBITDA and the company has been a good steward of capital through smart acquisitions. Betting on continued government spending in the US and additional infrastructure improvements should mean SJ continues its solid long term returns with low volatility.
Editor’s Note: This article discusses one or more securities that do not trade on a major U.S. exchange. Please be aware of the risks associated with these stocks.
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