Editor's note: This Stocks Under $10 alert was originally sent to subscribers April 20 at 12:58 p.m. EDT. It's being republished as a bonus for TheStreet.com and RealMoney.com readers.


In our search to find new ideas for stocks trading under $10, we came across Abitibi-Consolidated ( ABY), one of the top newsprint companies in North America, which was recently trading at $2.82. But there's a twist to this story: The company is awaiting word from regulators about a proposed merger, and its shares would trade at about $47 if the merger is completed, according to the terms of the deal. (Abitibi shareholders get .06261 shares of the new company per ABY share.) This adjusted price would be higher than our Stocks Under $10 threshold, and so we can't include Abitibi in our model portfolio. However, we'd still like to take a look at this name.

The newsprint market has been in a secular decline for most of this decade, notably in the advertising space. According to the Newspaper Association of America, an industry trade group, online advertising is expected to grow 25% while print advertising is forecast to decline 2% in 2007.

Also, the industry appears to be getting weaker as newsprint consumption in North America fell 6% in 2006, its worst year-over-year decline in five years, according to the Pulp and Paper Products Council, an international alliance of industry groups.

Based on these statistics, it's no wonder many of the companies in the newsprint industry have seen a considerable decline in their stock prices over the past few years. However, a recent merger and a surprising shift in U.S. trade policy could signal a turnaround in the industry and benefit Abitibi.

The company has seen its share price decline more than 90% since 1997 to lows near $2.25 in 2006. Abitibi has been restructuring its operations over the past few years to compensate for the terrible industry conditions, and its Jan. 29 announcement that it plans to merge in an all-stock transaction with competitor Bowater ( BOW) could drive shares higher.

If U.S. and Canadian regulatory authorities approve the deal, it would create the largest newsprint producer in North America based on sales, and the third-largest producer in the world based on total enterprise value, behind International Paper ( IP) and Weyerhaeuser ( WY).

The new company, which would be called AbitibiBowater and begin trading at a price north of $45 under the terms of the deal, will control roughly 50% of the North American newsprint market and have revenue of $8 billion.

We consider the merger a positive on many levels, particularly in cost synergies. AbitibiBowater would shed $250 million in annual costs within the first two years after the merger is complete, according to the companies' estimates, and we believe this figure is conservative. The combined employee base will total 21,000, leaving room for aggressive job cuts if the industry continues to weaken. Also, this estimate does not include potential savings from asset sales.

AbitibiBowater will either own or operate 32 pulp and paper facilities as well as 35 wood product facilities, located mainly in eastern Canada and southeastern U.S. Part of these assets could be sold off to reduce the entity's large debt. For example, a South Carolina plant owned by Bowater produces about 900,000 metric tons of annual capacity of coated paper and market pulp, according to the company's Web site. (Market pulp is used to make various paper products, including printing and writing paper, paperboard, tissue and paper towels.)

Analysts believe this particular plant could fetch $1 billion. Abitibi's hydro assets, which are already starting to be sold, are also estimated by analysts to be worth $1 billion.

Despite the value of its assets, the combined company could still face the prospect of further secular declines in the U.S. newsprint industry -- leaving little upside potential for AbitibiBowater domestically. However, a look at the global newsprint industry shows a brighter picture.

On the international front, the newsprint market grew 1% in 2006, according to the Newsprint Producers Association, and analysts expect it to rise further through 2008 because of strong demand in Europe, India and Asia. This is a far cry from the declining trends in North America and could provide an opportunity for expansion and market-share gains by AbitibiBowater, which earned 16% of its 2006 revenue abroad.

Apart from the merger, another potential plus for Abitibi and Bowater is the U.S. government's decision March 30 to impose countervailing duties on imports of coated free sheet (glossy) paper from China, South Korea and Indonesia. The tariff could result in a rise in overall paper prices in the short term.

I don't expect the decision to have the same impact as the 30% steel tariff President Bush imposed in 2002, but the news is a positive considering the depressing trends in the paper industry.

Although we believe the outlook for Abitibi shares is promising, the stock also has risks. U.S. and Canadian regulatory authorities may squash the merger when they announce their decision later this year, which would probably pressure shares of both companies.

Also, the combined company will have a total debt position of $6.2 billion, giving it a debt-to-capital ratio of 60% -- much higher than that of International Paper and Weyerhaeuser. Finally, as noted above, the decline in the North American newsprint sector could worsen.

However, based on the value of the combined company's assets and cost synergies, we believe AbitibiBowater offers price-appreciation potential for long-term investors. Also, despite the widely reported declines in newspaper circulation -- which have depressed the outlook for many of the 1,000-plus daily newspapers across the U.S. and contributed to the decline in the newsprint industry -- we don't believe newspapers will become obsolete, and circulation worldwide is growing.

So we suggest that investors consider purchasing Abitibi shares at the current price and then holding them long term.
In keeping with TSC's editorial policy, Frank Curzio doesn't own or short individual stocks. He also doesn't invest in hedge funds or other private investment partnerships. Frank X. Curzio is a research associate at TheStreet.com, where he works closely with Jim Cramer and and writes TheStreet.com Stocks Under $10. Previously, he was the editor of The FXC Newsletter and senior research analyst for Greentree Financial, and passed his Series 7, 63 and 65. He appreciates your feedback; click here to send him an email.