This is the second in a series related to Forisk’s Q2 2017 forest industry analysis and timber price forecasts for North America.

This week, the U.S. imposed a 20% tariff on the imports of softwood lumber from Canada. Tariffs are taxes placed on imported goods or services. Countries use tariffs to restrict trade, to protect domestic industries, to raise revenue, to achieve something…

About ten years ago, I heard Steve Chercover, a forest industry analyst for D.A. Davidson, give a talk about the softwood lumber dispute between the U.S. and Canada. To paraphrase Steve, he said “the dispute makes it sound like Canada has $20 bills scattered on the ground throughout its forests…if it’s so great in Canada, why are the big guys moving to the United States?”

Why indeed? Today, in the U.S. South, the top five softwood lumber producers account for over 60% of the region’s capacity. Of the five, three are Canadian firms: Canfor, Interfor and West Fraser. And these firms started reallocating their capacity to the South back in 2006.

How should timberland investors and U.S. producers think about this moving forward? A simple framework explains the dynamics of North America’s softwood lumber industry: production versus available capacity.  Consider these facts on Canada (updated from an earlier post):

• Canadian domestic use of softwood lumber is rising (up 9% for 2016 over 2015).
• Canadian softwood lumber capacity continues to fall (our analysis has Canadian capacity below 30 billion board feet now, down from nearly 38 billion board feet ten years ago).
• Canadian provinces continue to reduce the allowable annual cut (AAC) from public forests.

 

So this gives us our “constraint” in the framework.  Regardless Canadian exports or U.S. tariffs, Canadian sawmills are near capacity while timber supplies continue to fall and domestic demand continues to rise. The Canadian softwood lumber industry is effectively in a shrinking box.

How does this compare with the U.S. South?

• Production is increasing (up 4% for 2016 over 2015; we expect the South to break its all-time production levels in two years).
• Capacity continues to grow (Southern sawmill capacity is nearly 2/3 as big as all of Canada).
• Capital expenditures are up (firms such as Biewer, Conifex, GP, Interfor, Weyerhaeuser and others have hundreds of millions of dollars of active improvement and expansion efforts).
• Margins are the highest of all North American regions due to cheap logs and cheap labor.

 

So this gives us our trend.  While the month-to-month will bounce around unpredictably, the year-to-year view – assuming U.S. housing starts continue to grow – has been dictated to us by the location of the mills that will be called upon to produce the necessary lumber, and by the capital investment that continues to flow South.

From a strategy and industry capacity point of view, the production story has been written.  While it could play out differently in the next quarter or so, most incremental lumber production in North America will occur at mills in the U.S. South for decades.

 

To learn more about the Forisk Research Quarterly (FRQ), click here or call Forisk at 770.725.8447.