Inexperienced income investors often see the word “REIT” and think it's a sure ticket to good income growth. That's not always the case, though, and Rayonier (NYSE:RYN) is case in point. Although I do believe Rayonier will see improving demand for the output of its timberlands, not all of the company's earnings are shielded by its REIT status and investors may well find that the market has already more than anticipated the business improvements to come from the housing recovery.
Good Assets, Relatively Speaking
The problem with Rayonier is not that it isn't a quality business. Rayonier owns relatively attractive timberland assets and has a very attractive “performance fiber” business that manufactures specialty cellulose and absorbent materials used in everything from diapers to cigarette filters to fluids used in drilling oil and gas wells.
SEE: The REIT Way
Rayonier's 2.6 million acres of timberland assets are predominantly (70%) in the southern U.S., and particularly in Georgia and Florida. This is a mixed blessing for the company. While the southern/southeastern U.S. has been seeing better population growth (which means better demand for Rayonier's timber as saw logs), about half of the harvest has historically gone to lower-value uses like pulp or paper. What's more, while Rayonier does export a pretty sizable amount of its timber, it's not as well-positioned geographically as Weyerhaeuser (NYSE:WY) to benefit from demand in Asia.
All told, Rayonier ends up falling in basically the middle of the range in terms of EBITDA and value per acre for its timberlands. The company is well below Weyerhaeuser due in large part to Weyerhaeuser's much greater percentage of valuable acreage in the northwest U.S., but ahead of Plum Creek (NYSE: PCL) for similar reasons (more acreage in more valuable areas, less acreage in less valuable areas). As something of an aside, the smaller timber company Potlatch (NYSE:PCH) shows how much mix can matter – while Potlach's timberlands in Idaho, Arkansas, and Minnesota aren't nearly as valuable on a per-acre basis, the company generates more value per acre because a larger percentage goes into lumber (vs. paper).
Performance Fibers Continue To Perform
A large portion of the value generation at Rayonier has relatively little to do (directly) with the timberlands. Rayonier operates a large specialty fibers business that basically turns low-value wood into higher-value cellulose and specialty materials. As I said before, these products are used in a wide array of products, and the business has been a consistent generator of strong margins and earnings throughout this downturn in the housing market. While the acquisition of Buckeye Technologies (NYSE:BKI) by Georgia Pacific should give GP some additional scale and synergies, it likely won't hurt Rayonier to see more consolidation in the space.
SEE: The REIT Stuff
Higher, Better Uses On The Way?
A key part to every timberland story (including Weyerhaeuser and Plum Creek) is the extent to which the company can take timberland and sell it up into the real estate market. With undeveloped land for residential use selling for as much as 2x to 6x the value of timberland, it's not hard to see how shifting land to “highest and best use (HBU)” can produce value.
In the case of Rayonier, this should be a meaningful value contributor once the housing market recovers in the southern/southeastern U.S.. The company has meaningful acreage along the I-95 corridor in Georgia and Florida, and that is likely to continue to be an area of above-average real estate development activity.
The Bottom Line
The problem with Rayonier today is that while it is listed as a timber REIT, it doesn't pay an especially high dividend and it's not particularly cheap. The sell-side is already assigning multiples on full-cycle EBTIDA estimates about 50% higher than the 2013 estimates, and likewise baking in a “return to normal” when valuing the future contributions of HBU timberland sales. While I'm certainly willing to agree that better days are ahead for Rayonier, and that should translate into higher EBTIDA and dividends, I think assuming that the years leading into the bubble and crash were “normal” may be a stretch. Consequently, I wouldn't chase this stock today, nor would I assume that dividends will increase enough to offset the risk of overpaying for these shares.