Louisiana-Pacific Corp (LPX) 2012 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the Louisiana-Pacific Corporation quarter three 2012 earnings conference call. My name is Catherine and I will be your operator for today. At this time, all participants are in a listen-only mode. We will conduct a question-and-answer session towards the end of this conference.

(Operator Instructions)

As a reminder, this call is being recorded for replay purposes.

I would like to turn the call over to Sallie Bailey, Executive Vice President and Chief Financial Officer. Please proceed, ma'am.

Thank you very much, Catherine. And good morning. Thank you for joining our conference call to discuss LP's financial results for the third quarter of 2012. I'm Sallie Bailey, LP's Chief Financial Officer. And with me today are Curt Stevens, LP's Chief Executive Officer, as well as Mike Kinney and Becky Barckley, our primary Investor Relations contacts. I'd like to take a moment on behalf of LP to express our sympathy and concern for those that have been touched by the devastation of Hurricane Sandy. Our thoughts are with all of our friends in the Northeast as they begin to recover and rebuild their lives.

I'll begin the discussion today with a review of the financial results for the third quarter of 2012. This will be followed by some of the comments on the performance of the individual segments and selected balance sheet items. After I finish my remarks, Curt will discuss the general market environment in which LP has been operating, provide his perspective on our operating results for the third quarter of 2012, and give some thoughts on our outlook. As we have done in the past, we've opened up this call to the public and are doing a webcast. The webcast can be accessed at www.lpcorp.com. Additionally, to help with the discussion, we have provided a presentation with supplemental information that should be reviewed in conjunction with the earnings release. I will be referencing these slides this morning in my comments. We also filed an 8-K this morning with some supplemental information as well as our 10-Q.

I want to remind all of the participants about the forward-looking comments on slide 2 of the presentation. You should also be aware of the discussion of our use of non-GAAP financial information included on slide 3 of the presentation. The Appendix attached to the presentation has some of the necessary reconciliations that have been supplemented by the Form 8-K filing we made this morning. Rather than reading these two statements, I incorporate them with this reference.

We are reporting stronger results for the third quarter. This is the first quarter in two years we are reporting net income on a GAAP basis. The trends in US housing statistics have been favorable over the past nine months, and the improvement in our end markets and corresponding rebound in OSB demand are reflected in our improved financial performance.

Turning to slide 4 of the presentation for the discussion of the third quarter of 2012 results compared to the same quarter last year, the second quarter as well as the year-to-date information. We reported net sales of $468 million for the third quarter of 2012, a 33% increase from the sales reported for the third quarter of 2011. In the third quarter of 2012, we reported net income of $31 million, or $0.22 per diluted share. In the third quarter of 2011, we reported a net loss from continuing operations of $59 million, or $0.44 loss per diluted share on $351 million of net sales. In the third quarter of 2011, we recorded an impairment on the Houlton LSS facility of approximately $65 million and a $10 million reversal of a portion of the ABTco Siding class action reserve.

The GAAP tax rate for the quarter is 20% on continuing operations, which reflects our ongoing inability to record a tax benefit on Canadian losses. The adjusted income from continuing operations which excludes certain items, such as impairments for the quarter, is $29 million or $0.20 per share based upon a normalized tax rate of 35% compared to a loss of $26 million or a $0.19 loss per share in the third quarter of 2011. Adjusted EBITDA from continuing operations was $75 million in the quarter, compared to negative EBITDA of $3 million in the third quarter of 2011. Another solid improvement in adjusted EBITDA; $78 million higher than the third quarter of 2011, on an increase in net sales of $117 million and with cash flow generation of $63 million in the quarter.

On a year-to-date basis, we recorded $1.3 billion in net sales; $17 million net loss and a loss per share of $0.13 as compared to net sales of $1 billion; a net loss from continuing operations of $115 million; and a loss from continuing operations of $0.87 per share in the first nine months of 2011. On a non-GAAP basis, we recorded adjusted operating income of $66 million, earnings per share of $0.17, and adjusted EBITDA of $133 million for the first nine months of 2012. Significant improvement over the same period in 2011 when we recorded an operating loss of $53 million, a loss per share of $0.51 and adjusted EBITDA of $7 million.

I'll now move to slide 5 and review our segment results. Starting with OSB. OSB recorded operating income of $49 million in the quarter, compared to a loss of $16 million in the third quarter of 2011. For the quarter, in terms of adjusted EBITDA, we are reporting $60 million as compared to negative EBITDA of $5 million in the third quarter of 2011. For the quarter, we had an 11% increase in volume. Sales volumes increased primarily due to improved housing starts.

Pricing for OSB was up 50% over the third quarter of 2011. The improvement in pricing was the most significant contributor to the improved OSB performance. As we discussed in last quarter's call, our pricing rate of improvement will differ from Random Lengths' North Central 7/16 exchanges due to our different geographical footprint, broader product offerings and value-added product.

In particular, in the quarter with such steep increases in commodity OSB prices, value-added product price increases did change at a much lower rate. The increase in selling price favorably impacted operating results and adjusted EBITDA from continuing operations by approximately $71 million for the quarter as compared to the same period in 2011. The improved price of OSB has another impact on our earnings due to the accounting for our 50% interest in the Peace Valley OSB mill. As a reminder, we purchased 100% of the production of Peace Valley at a market price less the commission. We sell 100% of the product.

Both the sales and the cost of sales are included in our income statement. Our OSB margins are negatively impacted when the cost for us to buy the product from Peace Valley is greater than the cost to produce the product. LP's 50% interest in the earnings from the joint ventures recorded on our income statement and the equity in income are loss of unconsolidated affiliates. This amount is also delineated in our reconciliation of EBITDA from continuing operations filed as part of our 8-K this morning. In the third quarter of 2012, Peace Valley contributed $5 million to OSB's adjusted EBITDA, as compared to decrease in the third quarter 2011 OSB adjusted EBITDA by $2 million. For the year, sales are up 39% to $571 million with adjusted EBITDA improving by $111 million to $98 million. Volumes have improved by 10% and pricing is 27% higher.

Slide 6 reports the results of the Siding business. This segment includes our SmartSide and CanExel siding products and commodity OSB produced in our Hayward mill. The Siding segment reported sales of $134 million in the third quarter of 2012, an increase of 20% from $112 million reported in the third quarter of 2011. The Siding segment reported operating income of $20 million compared to $12 million in the third quarter of 2011, and adjusted EBITDA of $24 million, an increase of $8 million compared to the third quarter of 2011. For the quarter, SmartSide average sale prices were up 2% and volumes increased 15%. Volume increased in our SmartSide Siding line due to continued penetration in several key focus markets, including retail, repair and remodel markets, and sheds.

CanExel prices were up 2% and volumes were up 26%. As we discussed last quarter, quarter-to-quarter changes to CanExel sales are driven primarily by supply chain patterns. Our distributors built inventory through the first half of 2011 and that bled inventory through the second half. Sales in 2012 reflect normal demand levels. We continue to anticipate that we will end 2012 with sales volumes in line with 2011 levels. On a year-to-date basis, the Siding segment recorded $384 million in sales, $56 million in operating income and $69 million in adjusted EBITDA. The first nine months of 2011, the Siding segment recorded sales of $337 million, operating income of $36 million, and adjusted EBITDA of $49 million. The improvement from the first nine months of 2011 is driven by increased volume of 14% in SmartSide and higher sales price and about $6 million related to improved OSB pricing for product produced in our Hayward mill.

Please turn to slide 7 of the presentation which shows the results from our Engineered Wood Products segment. This segment includes I-Joist, Laminated Strand Lumber, Laminated Veneer Lumber, plus other related products. This segment also includes the sale of I-Joist and LVL products produced by the Abitibi joint venture or under a sales arrangement with Murphy Plywood. The Engineered Wood Products segment sales increased $62 million in the third quarter of 2012 from $55 million in the third quarter of 2011. The segment's operating loss and adjusted EBITDA in the third quarter of 2012 was approximately the same as the loss in the same period a year ago. Volumes of I-Joist were up 20% due to increased demand related to housing starts, while volumes of LVL and LSL were flat compared to the same quarter last year.

Pricing was even in LVL and LSL and down 1% in I-Joist due to changes in mix in both product lines and with individual product pricing remaining relatively flat. On a year-to-date basis, Engineered Wood Products reported net sales of $162 million and operating loss of $9 million and breakeven EBITDA. The first nine months of 2011 Engineered Wood Products reported net sales of $157 million, a loss of $12 million and negative adjusted EBITDA of $1 million. Volumes and pricing for LVL and LSL were essentially flat relative to the prior year while I-Joist volumes increased 14% and pricing for I-Joist decreased 1%.

Moving on to slide 8 of the presentation. For the quarter, our South American segment recorded sales of $42 million compared to sales of $36 million in the third quarter of 2011. Operating income of $5 million was twice as high as the operating income reported in the third quarter of 2011. South America's adjusted EBITDA from continuing operations was $8 million for the third quarter 2012, compared to $5 million reported in the third quarter of 2011. Volumes in Chile were up 18% while volumes in Brazil increased by 15%, compared to the same quarter last year. For Chile, changes in volume were due to continued strong demand as wood-framed housing market penetration increased due to rebuilding efforts.

The sales volumes increase in Chile were primarily sourced by imports from the US, Canada and Brazil. The imported sales have minimal margin associated with them due to the high cost of freight. In Brazil, the improved volume came from higher export sales to China and increased penetration in local markets. Pricing was up 1% in Chile and down 10% in Brazil. These changes in price are primarily related to changes in foreign exchange rates. In local currency, both Chile and Brazil reported improved pricing of approximately 4% in Chile and over 10% in Brazil.

For the first nine months of 2012, South America recorded net sales of $127 million, operating profit of $11 million and adjusted EBITDA of $20 million. For the first nine months of 2011, South America recorded net sales of $111 million, profit of $10 million and adjusted EBITDA of $19 million. Volumes in Chile for the year are similar to the increased volume reported in the third quarter. In Brazil, year-to-date volumes are slightly down from a year ago due to lower export sales, especially in the second quarter. In local currency, our Chilean and Brazilian operations recorded improvements year-to-date of approximately 9% for pricing.

Our Molding business, US GreenFiber joint venture and various other non-operating facilities are shown in the other buildings product segment. Overall, we are showing a loss of $2 million in the third quarter of 2012, which is a $1 million improvement due to the performance of our GreenFiber joint venture compared to the third quarter of 2011. Operating results for the first nine months of 2012 improved by $1.4 million. Total selling, general & administrative expenses were $31 million in the third quarter of 2012, compared to $26 million in the same quarter of 2011. For the first nine months of 2012, selling, general & administrative expenses were $93 million, compared to $83 million for the first nine months of 2011. The increase in SG&A cost is primarily due to the accrual of 2012 management bonuses. We did not record any bonus accruals in 2011.

We had a $400,000 foreign exchange gain in the quarter, compared to a $4 million loss in the same quarter last year. The swing is primarily related to our Brazilian and Chilean operations. For the first nine-month period, we recorded a $2.3 million loss in 2012 compared to a $1.6 million loss in 2011. Interest expense was $10.7 million in the quarter compared to $14.2 million in the third quarter of 2011. This reduction in interest expense for the quarter and year-to-date was primarily related to the lower interest expense recorded due to the refinancing, as well as lower amortization related to our deferred debt expense. We recorded $4.1 million in investment income in the third quarter of 2012, as compared to $16.7 million in the third quarter of 2011. A higher investment income in 2011 is primarily due to the realization of $15.2 million on the sale of auction rate securities.

Turning to slide 9 of the presentation. As of September 30, 2012, we had cash, cash equivalents, investments and restricted cash of $504 million. We had net working capital of $688 million, net cash of $102 million and in addition to the $504 million of cash on our balance sheet, we had $100 million of availability on our asset base loan facility. Capital expenditures for the nine months were $16 million and received $7 million from our joint ventures. Given the improvement in our 2012 results and positive cash flow generation, we are increasing our estimate of capital expenditures for the year from $25 million to approximately $35 million as we begin to pull forward projects from 2013 and invest in growth capital projects such as the expansion of our Two Harbors mill and a third mill in Chile.

Now I'll turn the call over to Curt for his comments.

Thank you for that review, Sallie. I can tell you are excited by the results, as I am, and the outlook looking forward for housing. I want to use my time today to talk about three areas. The housing market, discuss with you some of the work that we're doing internally to identify the pinch points in our supply chain, and share my thoughts on the fourth quarter and next year. Before I do that, let me give you a few comments on our safety record so far this year. Through nine months, our total incident rate stands at 0.55. Remarkably, through that same period, our OSB business has had only one recordable injury that puts them at a TIR of 0.16. Over the summer, we believed that our Panguipulli OSB mill in Chile became the first structural panel mill in the world to work over two million hours without a recordable injury, again, a focus for LP.

There's a lot of good continuing news in the housing market being reported. The September annual rate of housing starts was at 872,000;35% greater than the same time last year. Single-family starts were at 603,000 and multi-family at 269,000. The September annual rate for permits was nearly 900,000; 545,000, single-family; 349,000, multi-family. The three-month rolling average for single-family permits has been an upward trend since April of 2011, a leading indicator that we watch very carefully. The current consensus forecast is reported by APA for housing starts stands at 759,000 for this year and 931,000 for 2013. New-home inventory remains very low at 115,000 and existing home inventory for sale is below 2.5 million. Foreclosures remain at very low levels, 180,000 in September, and home prices are on the rise in most regions.

One of the few negatives is that residential remodeling had a slight rise in the first half of this year and has slid backwards the last several months. While this is good news, particularly after what has happened the last six or seven years, there are certainly some headwinds. The result of today's election will have a profound effect on economic health and direction of our country. Europe remains in crisis and China is slowing. What this will mean for the US economic recovery remains to be seen. The fiscal cliff seems to be the next big economic crisis. We will need to have a more productive political environment to solve this problem in a timely manner.

Availability for credit for mortgages. Yes, we have low interest rates, but not everyone who wants to buy a house has a credit score north of 780 and a 20% down payment. Builders have been raising the issue of lots shortages and the high cost of land. The length of time to gain approval for new development has stretched out due to shrinkage of local governments and their staffs. However on balance, it is our belief that we are in the midst of a sustainable housing recovery and we are taking steps to be ready to meet higher demand. At the same time, we will remain agile to respond quickly to any short-term disruptions to this recovery.

Turning to the supply chain and our internal review of our supply chain risk, we have identified many potential problem areas that can be grouped into five broad categories. First category is fiber in the US. We do not believe there's a shortage of fiber in any of the regions where our facilities are located. The growth versus drain has been very positive due to less fiber demand in the downturn and better forestry practices. Another potential threat to supply biomass energy usage has also dissipated, due to the low cost of natural gas. Canada, there's no shortage of fiber but access to that fiber is under attack.

Specifically, the change in the management of the Quebec provincial forest land for manufacturing companies to the government is a bit concerning. Also, the Canadian Boreal Forest Agreement that is now three years old is at a challenging point in time. A more immediate concern is our belief that the logging and transportation infrastructure has been damaged during the downturn. We are spending an increasing amount of time with our core suppliers to rebuild this capability by providing them with committed volumes that will allow them to reinvest in equipment and people to meet our needs.

On the manufacturing side, as you all know during the downturn, we closed a number of OSB facilities permanently and shuttered several others indefinitely. As the recovery gains momentum, with greater levels of new construction to repair monitoring activity, we will need to reopen capacity to meet our customer needs. For OSB, a general rule of thumb is that each 100,000 housing starts equates to about 1.1 billion square feet of OSB demand plus another 300 million to 400 million square feet related to other uses. As an example, looking at APA's reported numbers, North American OSB production was about 15.6 billion square feet in 2011 and is expected to rise to 17.8 billion square feet this year on an expected housing increase of about 150,000 units.

APA reports in 2012 this increase in demand was satisfied by filling out shifts at currently running mills. In fact, in Q3, we ran all of our US mills at full capacity. That means for LP that our only remaining storage capacity is in Canada. If there are another 150,000 to 175,000 housing starts next year, then we believe there could be demand for another 1.5 billion to 2 billion square feet of OSB. We can add shifts at our Canadian mills and we'll likely do so if there's regional demand next year.

In the Southeast, we can only meet increased demand by restarting an idled mill. LP's idled 1.6 billion square feet of capacity is in three mills. Our Clarke County, Thomasville mill is a new mill that ran for a few months in 2008. This mill is located in one of the highest demand regions for OSB as housing recovers. Our Chambord, Quebec mill has been down since 2007 and our Dawson Creek mill has been down for about a year and mostly focusing on value-added OSB products, TechShield Radiant Barrier, and flooring.

Our last call, I said that we would consider starting one of our curtailed OSB mills up if we saw housing starts approach 850,000. Well, it came quicker than we thought with last month's reported annualized housing start rate at 872,000 and permits at nearly 900,000. As a result, we are putting plans in place and beginning to do the work necessary to either bring on shifts or restart idle capacity to meet our customers' needs regionally. Our current thoughts are that we will add a fourth shift at our Peace Valley mill in British Colombia in Q1. We will restart our Clarke County mill in Q2, and we will consider the restart of Dawson Creek in the first part of 2014 if we see housing starts headed towards 1 million.

In Siding, our Siding goals always have capacity in front of demand in this product line. Over the summer, our Board approved a $6 million-plus project to expand our capacity of Two Harbors mill while increasing the technical capabilities. In Hayward, we have a two-line mill where one of the lines has been dedicated to OSB. We've already made the necessary capital investments to very quickly convert this production to Siding. We're fully engaged and looking at ways to increase capacity at the existing siding mills and have started discussions on the next OSB mill to convert for our new site.

The next area of supply chain is finished goods distribution. There is a shortage of both truck drivers and equipment, primarily flatbeds. The downturn removed much of the available capacity in the new DOT rules that apply to drivers, drastically cut the supply of these workers. In response, LP has dedicated more resources towards building up our own in-house capability through our new Waverly Transportation Company. Here we manage safety, sales, dispatch and collections for qualified owner operators. Plus, we have to be ever diligent and work on the railroads to add equipment in a timely manner and meet the delivery commitments particularly in Canada of the CP- and CN-run virtual monopolies.

Next area is our channel and customers. We do not take the product the last mile. We don't deliver to the job site. So we need to focus not only on the transportation to our customer but also have a clear understanding of our customers' inventory policies and plans and their downstream transportation capabilities. Our customers share many of the same concerns we do -- shortage of transportation equipment and drivers. One of the concerns that we have solved through strengthening of our balance sheet, access to capital there to add inventory and expand their business.

Underlying all of this is the fifth area and that's people. I attended the Harvard Joint Center for Housing Studies Policy Advisory Board meeting several weeks ago. One of the questions that was asked as part of the roundtable was around anticipated bottlenecks if there's a strong housing recovery. Universally, a shortage of qualified labor was at the top of the list. I've already talked about loggers. 10 years ago, the average logger was 48. Now they are 58. And truck drivers, anyone with a trade skill, electricians, millwrights, process control technicians at the mills, and framers, electricians, plumbers, HVAC bricklayers and more at the job sites. Drug tests are increasingly a problem; immigration policies and guestworkers. So the general rule is as we go around the table, it took 10 interviews to hire for one position.

Looking into the fourth quarter and 2013, we have been getting slightly different stories on the fourth quarter depending on who we talk to. The builders are very bullish and concerned about an adequate supply of materials and labor. The channel remains skittish and unwilling to commit to inventory for fear of another false start. The retailers are seeing some pick-up in demand with Home Depot being more aggressive. Sallie mentioned Hurricane Sandy earlier, a tragedy. For building products, there has been some impact. To meet the demands of the initial phases of clean-up and temporary repairs, we are working with our channel partners to provide the products they need and, in some cases, that has been prioritizing our inventory and increasing production scheduling through the upcoming holiday periods to make sure we have availability.

As rebuilding starts in the Northeast, we will factor this additional demand into our plans to react to continuing signs of an improving demand for our products. For 2013, we have done all of our initial planning on 850,000 housing starts, which now looks to be conservative. From my perspective, I'm probably not going to change this forecast until I have assurance that we won't fall off the fiscal cliff. But as we have done the last seven years, our budget is an interesting document. A forecast is for planning but decisions are made daily based on nowcasting. Flexibility and agility will continue to be critical skills for our organization.

With that, let me turn it back to Sallie.

Thank you, Curt. Catherine, we're now ready for questions if we could go to the queue?

Thank you, Sallie.

(Operator Instructions)

Mark Connelly, CLSA.

Curt, do you have a timetable for the Engineered Wood business to become consistently profitable as you think about the rest of this? And is that a core business? And if so, why is it a core business? Second question is, with respect to your last comment on distribution, neither of your two predecessors expressed much interest in having an in-house distribution business. Could we see that change given the environment you're facing now?

Let me address the EWP business. As we have talked about for the last several years, it is part of our core strategy because it helps us frame the full house for our customers. We do believe that there is so much excess supply in EWP that until we see one million housing starts, it won't be consistently profitable is our best guess. I will say it was positive EBITDA in the Q3, which was certainly a positive. So it remains core.

We do see that with the shortage of lumber coming out of British Columbia due to the beetle kill and the advent of the Chinese business plus some of the changes in the design values for southern yellow pine that builders will increasingly turn towards engineered wood as a solution. As far as in-house distribution, Mark, I got to tell you, I've looked at that so many different times and it looks to me like negative synergies. So I don't think you'll see a change under me. I can't see that there's that much value to us.

We would tend to agree. Thank you very much.

Gail Glazerman, UBS.

Curt, I guess just a couple questions. One, any sense of what you think really drove the pop in OSB pricing? Because clearly, it didn't seem like you'd expected it on the last earnings call. In terms of your realization, I understand the regional differences, the mix, but was there any carryover where it might have just been a delay and you'll see some pricing slip into the fourth quarter? Or is it more that you just didn't transact at those peak prices?

Well, your first question was on --

What do you think just drove --

The price --

Yes, the price. It didn't seem like you or anyone expected it on earnings calls last quarter and then all of a sudden, prices ran?

Yes. I think that when pricing went up in Q3, I think the buyers put away their PO books. So while we had high prices that were published, there wasn't a lot of business transacted at those prices. They were waiting for pricing to come down. And it did come down but it didn't come down as far as they thought it would and then housing starts came out. I believe that they all got spooked and said, housing starts are that high, I've got to put some inventory in the ground when they started to do that and pricing headed up. Now what's happened in the fourth quarter so far I talked about it briefly is with Hurricane Sandy, there is going to be some pull for demand from that and it's likely to hold pricing at today's levels is my expectation. As far as on the value-added piece, generally, our value-added products are priced looking backwards over a period of time so there's a longer index that's attached to those. So we'll see a little carryover into Q4. But in general, that's what you see in a rapidly rising market.

Okay. In terms of bringing Clarke County back online, have you started the process already? Are you already along the process or have you changed your view, fiscal cliff or whatever, that you're not too far along to change that decision?

Well, when I took over in May, one of the first things I did is I asked Jeff Wagner, who heads up our OSB business, to really do this whole supply-chain risk analysis for us. We identified that we needed articulated start-up plans for the three facilities that are down. And that we needed to have good plans in place to add shifts. So one of the first things we did is commission each of the businesses to make sure that we did have those plans in place so that when we decided to trigger it that we'd know what to do. So we actually started the planning effort last May. But it accelerated really the last month as we saw housing starts come out at the higher levels and permits at the higher levels.

Now, what we said before is that it was about a nine-month timeframe to bring that up and roughly $10 million between capital and working capital. That's probably a pretty good estimate so that's why I'm saying Q2 of next year. Now, I will, again, I will be very clear on this. We are going to remain agile so we're taking the steps necessary. We're dealing with the long lead time things but if we do have a pause in the recovery due to the fiscal cliff in the first half of the year, we will make some adjustments.

Okay. And just one last quick question. Within Siding, it looks like OSB production was flat quarter-on-quarter and I thought you were supposed to be transitioning some of the commodity into higher value Siding products. Has that been pushed out or is there any change in how to think about that?

You're saying there's OSB in Siding?

The commodity Siding as a commodity OSB within Siding, it looked like production was flat sequentially and I would have expected it to go down a little bit as you moved up the value chain.

Well, what we did in Siding is we added four shifts at all three of our smaller mills and we ran those 24/7. So we've satisfied the increased demand for Siding at those other three Mills. My comments on growth going forward is we do have the ability to shift that production to Siding when demand requires it.

Mike Roxland, Bank of America Merrill Lynch.

Just a quick question on your OSB costs. It seems as though the cost on a [prime assessed basis] moved higher versus Q2. Is that entirely just due to the JV? Or are you exceeding any particular increase in cost whether it be resident or nat gas to maybe impact your operations in 3Q?

Right, Mike. Sure. Actually when we look at our costs, Q3 to Q2 there, without the Peace Valley joint venture, they're pretty much the same. They're actually below where they were in the third quarter of 2011. So it was really the impact of the Peace Valley joint venture.

And the other costs were really neutral quarter-over-quarter?

Right. And of course, we had more throughput as well. So that's really the biggest changes. What you're saying.

Thank you, Sallie. And then just one quick question on, probably what Gail was mentioning, the last question on the capacity. How quickly can you react to the market, so if market -- if the fiscal cliff really takes effect in January and you've already started to bring up Clarke County, how quickly can you react to that? If it doesn't actually materialize and you do bring up Clarke County, what type of production should we expect to see out of it in 2013?

Well, the rate of capacity of that mill is about 750,000. So you'd probably see somewhere, assume it starts in the second quarter, it cuts it in half when it is a start-up so you're probably talking about 250 million to 300 million square feet out of it for next year. Now, how quickly, what we would do is we just wouldn't -- we'd continue to train the people and recruit the people but we wouldn't start the machinery.

Got you. You'd have the people in place just in case that does turnaround so you'd be able to start the machine pretty quickly if it's --

My view is the fiscal cliff's going to be a short-lived crisis because we just can't afford to let that happen to the country. So if Congress can't get together and solve the problem by the end of the year, we could have a dip in Q1 but I'm convinced whoever the new administration is will have a mandate to fix it. So it will probably get fixed in the first quarter then we'll come back out of it. So I see this more as a two to four month delay than a fundamental change in demand.

Got it. Thanks. Good luck in the quarter.

Joe Stivaletti, Goldman Sachs.

I just had a couple of things. So if I understood right, the 903 million square feet of production in OSB in the third quarter, that was your mills in the US full-out and your -- and then in Canada you feel you can move that up a bit in the fourth quarter? So I wondered what that would likely add if you run -- what you will likely produce in the fourth quarter given that plan?

Well, it depends on what the demand is, Joe. But in Peace Valley, we're only running five days a week there. We don't intend to run full 24/7 until the first quarter of next year. So we don't have any additional capacity coming out of there. Our shifting pattern in Swan and Maniwaki are really focused at their regional demand. Maniwaki, we do opportunistically do some export business out of Maniwaki. So depending on what export pricing is, we could kick that up or down. I don't -- fundamentally I think you're probably going to be somewhere between Q2 and Q3, pretty flat. Now, what we did do and I talked about it on the last quarterly call, in the fourth quarter, we usually take downtime around the holidays. Because of Sandy, we are looking at running some of our mills through that holiday period just to supply this incremental demand that's required on the Atlantic Seaboard.

Okay. That's helpful. And I guess I had two other things. One was, what are your thoughts in general on the announcements you've seen by the industry as a whole looking at 2013? Do you think that, would you characterize that the industry is being rational? Do you feel that people are being possibly too optimistic with some of these reopenings? Or -- ?

I think I will just go back to what I talked about is if you look at the incremental demand that would come from 150,000 to 175,000 housing starts, it's somewhere between 1.5 billion and 2 billion square feet of capacity, so we need that incremental capacity to satisfy the demand should it come forward.

Okay. And then given the stronger environment, you talked about increasing your CapEx slightly for 2012. What are your thoughts on CapEx for 2013? And what kinds of projects are you focusing on?

Joe, as we think about 2013, I think we often talk about the need for just maintenance capital for each of our mills, someplace between $1 million to $2 million. As you know, we've been on the low end of that for quite a few years, so I think you can start by, with a program that would be close to $2 million per plant that would put us in the $50 million range. And then potential growth projects on top of that including the Chilean mill, which -- a third mill in Chile which we're looking at. We'll look at other growth capital opportunities which would put us someplace, I'd say for modeling purposes right now that if you look at $60 million that, that would probably be a good starting point.

What's the Chilean, what's the cost of roughly the cost of what you're considering there?

What we're considering is relocating an idle facility in North America down there. It will be a larger capacity than either of the mills that are down there now because frankly, there's no more smaller mills around. So we are currently thinking -- we did the first one for 25. We did second one for 35. I'm thinking this one's probably going to be 50 over the three-year period.

Chip Dillon, Vertical Research.

When you look at your tax situation, I know you had about, I want to say $170 million of carryforwards. If you look at the federal government, it's like $60 million and $60 million, US and Canada roughly at the end of last year. How do you -- let's say you stay profitable so let's assume that. How should we think about how that gets used up? I guess there's some minimum cash taxes you have to pay. Does it, can you use it up to a certain, or down to a certain tax rate or how should we think about how that gets used up? Is the reason the number might not be higher is because you had a lot of tax loss carrybacks, I guess you call them, that you took advantage of earlier?

I'll answer those questions in reverse order. Yes, it's because we utilize the cash that -- the carrybacks as much as we can. Going forward, I think you should anticipate that we will utilize the federal and the Canadian tax net operating losses as much as we can.

Got you. Maybe the way you would encourage us to I guess think about modeling the Company, I don't -- well, first of all, the book tax rate is obviously well below that 35% normal number. When do you think the book tax rate could get to that level? Again, I'll give you my assumption. Let's say that your pre-tax income exceeds, say $100 million next year.

Right. So the book and the cash tax rates are not, will generally not be the same as I think you're aware, but --

Of course.

Right. So as soon as Canada begins to become profitable, that Canadian income will get taxed at the Canadian tax rate, which is -- I don't have it right at hand. What is it, 26%? That's what I would think. It's about 26% or 27%.

Okay.

So for modeling purposes, it depends -- we certainly have net operating losses in both countries that will utilize it in 2013.

So maybe just a way to think about it, let's say we get into a profitable steady state in a couple of years, you would have 35% in the US plus a few percent for federal -- I'm sorry, for state. Then the Canadian part would be taxed at a lower rate so the blend, if everything's profitable, probably doesn't get much above 33%, 34%. Is that a fair guess?

Of course, that's exactly how we did the 35% and you have to remember the Chilean rates of Chile and Brazil as well.

Okay. And they are higher than Canada?

No, no. They're -- let me -- I found my sheet. So Chile is now at 20%.

Okay.

Canada is around, just under 27%.

Okay. So a lot of companies will show something north of 35% because of state taxes but because of the -- assuming you make decent profits are proportionately profitable, or you are profitable in these other regions, you should be below -- like 35% actually looks conservative.

Well, remember, again, this is going to -- Chip, that's going to be the book. We're still going to have book expense even as we use the NOL. With the exception of -- you have to think about how Canada goes back into that because we haven't been able to take valuation allowances against that.

Okay. And then shifting gears a little bit on the -- you all were giving us your thoughts about how you might bring up the capacity given the demand changes. If -- I think you mentioned the first thing would be a shift at Peace Valley and a fourth shift -- I think that capacity is at 820 million square feet, which I don't know if that's based on four shifts or how -- does that mean the increments are like 200 or how should we think about that one?

That's the way you should think about it.

Okay. And then of course, Clarke County is still 750. But if you start that in the second quarter, there will be some learning curve there, I guess, Curt, since it really hasn't opened up before?

Right. That's why I said that next year, we started the middle of second quarter, let's call it. That would be between 250 million and 300 million is what you would get out of that mill as a quality product.

Mark Weintraub, Buckingham Research.

Curt, should we be thinking about your incremental production capability next year as the 200 plus the 250 to 300, so 450 million to 500 or are there some other variables that could be at play?

That's probably reasonable. I think the only variable at play is, as I mentioned, Maniwaki, we're not running full-out and we could look at some export business incrementally there.

Okay. But that's not a big number, presumably?

Not a big number. No, and it wouldn't go in to, it would unlikely go into this market. The problem -- let me just step back a minute. We looked at running Maniwaki and Swan Valley full-out to satisfy the demand in the US. The problem is the Canadian dollar at $1.02 and the rail freight coming from either Maniwaki or Swan Valley just makes it so compelling to open up Clarke County, that basically we swapped out that volume. So we're not going to run that volume in Canada. Instead we're going to run it at Clarke County; it's a currency and a freight play.

When we think about the cost of the new incremental capacity -- Clarke, I guess you are, it's going to be a fully loaded cost but it's a brand-new mill, so maybe a little lower than the average in your system? Is that fair? And then Peace Valley, since it's incremental capacity at a mill that's already running, I would imagine that could be a fair bit lower?

I think your second comment is true. Your first comment, remember we're going to be in a start-up mode next year and so any time you're in a start-up mode, your costs are higher.

Okay. And that, beyond that $10 million, you're just in general --

$10 million is just working capital and capital.

Got it. Got it. And then as we look to 2014, presumably much of the balance -- obviously, you're going to be responsive to market conditions but in terms of potential, you would have much of the balance of Clarke up so it could be as much as 450 in 2014. And then I think you had mentioned and I apologize to ask you to repeat but what did you mention about in the first quarter of 2014 being under consideration?

Well, Dawson Creek is our specialty mill. So as we see demand for our flooring and our TechShield Radiant Barrier products, we would consider bringing that up in the first part of 2014 to satisfy that product need in the West Coast.

Can you remind us what's the capacity at Dawson Creek?

I think it's 450.

Okay. And then there's the third mill in your system which you, which basically is not in the plans at this point? Is that --

It's in Chambord, Quebec. We believe we can satisfy incremental regional demand from Maniwaki and from Swan without having to bring that up, so we wouldn't think about bringing that mill up until we had Swan and Maniwaki, from a regional standpoint, filled out.

Mark Wilde, Deutsche Bank.

Firstly, just a one question about Clarke County. Are you going to bring that up, Curt, on four shifts or might you do something like where you run two or three shifts as it comes back into the market?

Mark, I'm going to let Jeff make that decision. That is in his operating plan. I honestly don't know.

It sounds, Curt, like over the last several years, you guys have gotten more comfortable at running these mills at something less than 24/7 without really blowing the cost structure up. So I'm just curious as to whether that's something you're thinking about with Clarke County.

I'd tell you if I knew. Jeff's running that program, Mark.

Okay. All right. That's fine. Second question I had, can you just remind us of the puts and calls that might be in place around that Peace Valley JV?

Well, it's a 50-50 JV. And there is a modified shotgun with tag-along rights. So if Canfor would like to sell their interest -- well, first of all, I'll tell you. I'm not selling my interest, Mark. So LP's not selling. But if Canfor were looking for an opportunity to get cash, they would have a couple things. One, they can negotiate directly with us which would probably make the most sense. Second thing, they could market their 50% but we have a right of first refusal on that and if it's a crazy price, then we have drag-along rights so we could choose to sell our piece to the new buyer as well.

Okay. One other question, and I hate to have you make too much of this before you have the money in your pockets but -- uses of cash flow during this upturn. It seems like if you look at the OSB business industry as a whole, where producers have really struggled or how they use cash during the upturn. The last upturn we had an awful lot of new capacity added and some acquisitions made that didn't work out very well. What are you guys thinking about over the next two or three years before for uses of your cash?

Well, one of the things you just mentioned, we have some joint ventures that are strategic to our businesses going forward. So to the extent that our joint venture partners would like to exit those, that would be use of cash and there, I'm thinking not only the Canfor joint venture but the Abitibi JV and then we do have a sales arrangement with Murphy Plywood, which is a very low-cost producer of LVL on the West Coast, that we'd also be interested in adding to our portfolio. So that's a piece of it.

The Chilean mill we talked about earlier. We do plan on going forward with that, assuming that the analysis comes out appropriately and I think it will. So those are some. And then as you know, we've been in the past, we've had dividends, we've had share repurchase programs and all of that's part of our ongoing look at what we would do with excess cash.

Of course in 2016, the notes that we issued earlier this year become callable.

Correct.

Okay. That's helpful.

The only thing I'd like to add to that because I'll remind our team here in Nashville around the country, of this with some frequency that we'd like to see that cash flow generated first. So while we're very thrilled --

That's why I was -- I hated to ask the question --

I appreciate the question, Mark, because it gave me an opportunity for us to respond but we are really pleased with the cash flow generation we have this quarter. $63 million, but we'd like to see that -- see us generate the cash before we start spending it.

I think we're all in the same camp, Sallie. It's just that over time, the use of cash has been a real challenge in the business. So good luck in the fourth quarter. Good luck next year.

Steven Chercover, D.A. Davidson.

Many of my questions have been answered but you have three idled mills if I'm not mistaken, right? Saint-Michel, Athens and Silsbee. Are they all candidates to be taken down to Brazil?

They are. We also have some other options as well. Remember we had the Woodland mill, we have still peripheral equipment sitting all over the place. So there's many options but that's the point that those mills are bigger than what we had before. So the mill that goes down, there's probably going to be a 350 million or 400 million square foot mill.

Okay. And not to jump the gun but I think that the South American strategy has been pretty effective. Is there even one OSB mill in Mexico? Would it make sense to try and replicate the strategy a little closer to home?

You need trees. And we believe you need a stable political environment and a place where you'd actually want your employees to go.

You can't use cactuses, I guess. (laughter)

It's just --

Okay. And then just, can you just maybe articulate what the challenges of bringing up a mill that hasn't been utilized for four or five years are? Because you're not the only guys who are planning to bring on mills that have been idled for a substantial period.

Well, we had a skeleton crew at Clarke County including a mill manager and a maintenance superintendent so we think the machine centers are all in pretty good shape. I think the biggest challenge we're going to have is in the hiring process. That's why we've got to get started relatively early and that's the skilled trades, bringing in the maintenance people, bringing in the electricians, bringing in the process control people.

So that's probably going to be the biggest challenge, I think for us, is bringing those people in and getting them trained up to run the mill. Now, the advantage we have is we have other mills in the area so we can bring workers from our other mills in on a periodic, or a short-term basis. But that's, I think, going to be the biggest challenge.

And how do the machine centers degrade if you hadn't had on-site maintenance?

Well, if you don't bump the motors, you could have a lot of rust. You could have mold. You could have a whole bunch of problems. If you don't lubricate the conveyors, then you've got to rebuild a lot of the bearings and those kinds of things.

Paul Quinn, RBC Capital Markets.

Just two questions. One just on OSB, production volumes were down 2% quarter-over-quarter despite the robust demand. Wondering if you had any operational issues in the quarter or why we saw less production?

We did. We actually had [log shortages in two of our facilities. And then we had a piece of equipment go out, I think, in our Jasper mill. We lost a couple of days of production. So it was log outages in two mills and then we had about three days of downtime on a piece of equipment at Jasper.

And some weather in Maniwaki.

And some weather in Maniwaki.

Okay. It just seems like this is the third quarter in a row where the analyst community has overestimated what you're going to do in the quarter and we're probably most guilty on this. So I understand the value-added component to your mix and why that pricing improvement will be slower but maybe if you could give us some detail around your sales channels? And how each of those channels, whether it's to the pro dealers, to industrial customers or to the retail segment differs from the print prices?

Well, that's a --

Easy question. Easy, easy, easy. (laughter)

When we look at it, the wood that we have on contract generally is about a two-week lag. So if you [back out], you take the 13-week average during a quarter and you go back to -- into the prior quarter and you back the last two weeks out of the current quarter, that's going to give you a good indication of what the wood we sell into the home centers is going for. Right?

Okay. And that percentage is approximately?

It's about 25%.

Okay.

And then if you look at the open market wood, what you're doing there, and I think there's, again, I think you all may understand this, what we're trying to do at open market wood is we're anticipating what the price is going to be when we deliver it to them. And so we're guessing out two or three weeks what the price is going to be. And that's what the buyer contracts with us on. If they think price is going down, then they'll offer a lower price. If they think price is going up, they offer a higher price. So that could be, again depending on which direction it goes, it could be coupled positively or negatively.

And then we do have a small amount of export. I talked about the export going into Maniwaki so that's going to have some impact on the overall because that's going on out at a lower price. So adding a contribution margin but it's not the same price as we're getting in the US. The reason for that is we couldn't sell that wood in the US without affecting the price negatively and that's why it's going offshore. So the single biggest reason is that value-added that I talked about. We did about 38% of our product was in value-added. And only, so two-thirds was in commodity and one-third in the value-added piece. And then the other piece is the whole regional pricing because we operate in all different regions.

Right. Most helpful. We will endeavor to do a better job next quarter. Thanks.

The other thing, Paul, just want to be clear on this, is the people who we sell to in open market, have been in this business a long time and they're very sophisticated. They buy less product at the top of the market than they do when the market's coming down. They're good at it. Remember, the indication on Random Lengths is just what these guys in Eugene think at any given point in time. So the [call] of the market, there's not a lot of wood transacted, either on the way up or on the way back down.

Alex Ovshey, Goldman Sachs.

I'm curious if you have a view of what housing starts level would the industry start to run out of capacity? And if you have an updated view of how much it would cost to actually build a new OSB mill here in North America again?

We just had the Forest Economic Advisory guys in to see us a couple of weeks ago at a leadership meeting and they went through their housing scenario and they went through their panel demand. And what they show that what's running, what could run today that's been not announced is permanently curtailed, about 25 billion square feet. And they show that we could be out of capacity at between 1.4 million and 1.5 million housing starts. Replacement capacity today, we believe is somewhere in the $300 per 1,000 range.

Great. That's helpful, Curt. And then I think you had mentioned in your prepared remarks about potentially upgrading some of the OSB capacity to make Siding product, if I heard that correctly. Can you just talk -- if you did say that, could you talk about what the incremental cost to do that would be and what the targeted returns on capital would be there?

Well, all of our current strand-based Siding plants are former OSB plants. So the Hayward has got the two lines which is about a 500 million square feet of capacity. Others are somewhere in the 125 million range. So what I said is, as we look to be approaching the capacity of our current facilities, that we're looking three different areas. We're looking, the first area we're looking, is there something we can do similar to what we did at Two Harbors with a $6 million project where we're increasing the capabilities of the press but also we're adding capacity, about 25% of capacity for that number? So we're looking at other mills, is there anything we can do similar to that to add capacity in the mills that we currently have?

Second thing we're doing is there's discussions between the OSB business and the Siding business, is there a mill that could get converted to Siding that currently is running at an OSB mill? Now, remember the way that would work is it would go into our Siding business but you wouldn't convert 100% of it. It would still remain capable of running OSB like Hayward does. So if you converted, let's call it, Swan Valley as an example, which is a 450 million square foot mill, if we converted that to a Siding mill, it may take 50 million the first year, 100 million the next year, 150 million the next year. And so gradually, it would be converted to 100% Siding. The incremental investment when we did Hayward, it was about $35 million to convert that facility to add the Siding capability.

That's very helpful, Curt. I've just got last question, on fiber, you had talked about not being concerned that there would be some inflation there given the supply being good and the biomass demand not necessarily materializing. But maybe just on the other hand, to the extent that we have the lumber capacity coming back and more incremental wood chips out there in the marketplace, is there some reasonable probability that you may see a decline in virgin fiber prices because of that?

Being at a lower demand for pulp you mean?

Well, just lumber coming back and that driving incremental just wood chip availability because of that and as well as some of the paper grades being in [secular] decline and supply being pretty decent and biomass not materializing, is there a probability that you may see a step change lower in virgin fiber prices?

I don't think you'll ever see a step change lower but it could be because I think you're right, we compete directly with the pulp mills. That's who we compete with, with fiber and if their demand is lower, it ought to give us an advantage.

Thank you. Ladies and gentlemen, thank you for joining in today's conference. This concludes the presentation. You may now disconnect and have a very good day.