Potlatchdeltic Corp (PCH) 2003 Q2 法說會逐字稿

Good morning and good afternoon ladies and gentlemen. Welcome to the Potlatch Corporation second quarter earnings conference call. My name is Rob, I'll be your operator today. Throughout this conference you'll be on listen only. If you require assistance, key star-0 and an operator will be happy to help.

I'll now turn the call over to Jerry Zuehlke.

Thanks, Rob. Before we begin, I remind you this call may contain forward-looking statements within the meaning of the U.S. securities laws. These statements include statements about the company's future business prospects, and anticipated performance and upcoming quarters.

These statements are not guarantees of future performance, and the company undertakes no duty to update them. Although these statements reflect management's expectation today, they are subject to a number of business risks and uncertainties. Actual results may differ materially from those expressed or implied in this call.

For a discussion of certain factors that may cause actual results to differ from the results anticipated, please refer to Potlatch's recent filings with the SEC.

I will now turn the time over to Pen Siegel, our CEO, who will discuss second quarter results and provide an over overview of our markets. After his comments, I will read some statistics that we normally provide, and then we will open it up to questions and answers. Pen?

Thanks, Jerry. Good morning. I will dispense with going through the quarter to quarter Numbers, which you should all have in front of you, and go into business segment discussion, starting with our resource segment.

Resource income was substantially higher than a year ago, with the increase, as stated in the report, primarily attributable to a sale of something a little bit over 15,000 acres of surplus, hardwood bottom land in Arkansas.

At the request of the buyer, this is a private transaction At the request of the buyer, we have not disclosed the price per acre,. But the vast majority of the revenue is profit, since it was very low basis, Timberland, and it did account for the majority of what happened in resource.

Other than that, in the resource business, the business is performing well. There are always ups and downs in terms of a given month or quarter related to weather. Weather in certain areas, you may deliver fewer logs for that period. We had that situation slightly in Arkansas this time. But, by the end of the year we anticipate being on budget with feed harvest and log deliveries from our own timber timberlands.

The sale of the timber land--this is the largest sale we've had over the last few years, but there have been sales of higher and better use property or surplus property, in virtually every quarter, in one or more of the three regions where we operate. So that is, I would say, normal activity for us.

Moving to wood products, wood products was profitable slightly by the tune of about $2.3 million dollars. That was all attributable to higher shipments and selling prices for oriented strand board, relative to the prior year. Lumber shipments are up quite sharply for us, as a result of productivity gains.

No new mills, but lumber pricing continues to be affected by a surplus of product in the market, with Canada being a major player there. And we'll probably get some questions later on the Canadian trade situation and I'll try to give you what I know on that.

In the OSB business, we sell almost a third of our volume under contract, which means that we have contracted with certain buyers to take product week in and week out, and the price is determined by an earlier print off of the price reporting services (inaudible) of random lengths (ph), depending on the customer.

We also extended our backlogs pretty substantially in the OSB business. And it continues to do that in the third Quarter, so our backlog at this point in time are about six weeks. We are selling OSB to be produced in the week of August 25 25th primarily prime -- primarily, at this point in time. And that market has remained quite strong.

The plywood market has moved up perhaps in sympathy with OSB in recent weeks, and the particle board market remains somewhat depressed. In pulp and paper board, we reported an operating loss in the second quarter of $1.2 million.

The comparison with the favorable comparison there is pretty much solely a function of productivity gains, with Lewiston, our Lewiston mill, pulp and paper board producing quite well-- productivity gains are substantial at that mill. The pulp mill has run well for over a year but the paper board began running well about six months ago. So there's a major gain in productivity or production.

In spite of that, and the higher shipments, the market has seen order backlogs gradually extending for us in that product and that's a plus. We've seen some price increases, but, to date, not much has really hit the bottom line on the price side. It's still a competitive market, but the market situation is improving.

In consumer products, we reported an unusual loss for us in the quarter, $5 million. Pricing continues to be affected very substantially by promotional expenses, driven by overall industry conditions. It's affecting us and affecting others, and that doesn't seem to have gotten much worse in the second quarter from where it was in the first quarter, but it clearly is-- promotional expenses have remained high and the market is quite competitive.

In addition, we took -- we had last fall built substantial inventories in tissue, finished products, because we were in a very difficult labor negotiation in Lewiston, Idaho. And as a result, while we did not anticipate a strike, we thought we knew one was possible, and didn't know how lengthy it would be. And as a result we needed to build inventories to protect our customers and our own business, ultimately, in the event we had a labor stoppage.

We did not, and signed a contract in January. The market has been competitive enough that -- to have sold that additional volume into the market would have required even greater promotions, and looking at the numbers, we elected not to do that. Instead, we took substantial downtime on converting lines in primarily in May and June. And that was sufficient, more than sufficient to swing consumer in the quarter to a loss position, versus having run full and not taken the downtime.

There is still some down time in July to get finished inventory back into the shape we would like it to be in. My take would be that 80% or 85% of the required downtime had an effect on income occurred in the second quarter. And we will have everything back up and running normally by the end of July and most of us back up and running by the first week in July.

Jerry, I'll turn it over to you for some financial information.

Thanks, Pen. What I will do is the normal case. I will read through shipments and realizations, again this being the second quarter of realizations, according to GAAP.

So, I will proceed with OSB, 344,290; Lumber, 214,542; Plywood, 34,863; Particle board, 18,784. Paper Board, 180,806; Pulp, 6,505; and tissue, 38,537; Realizations, OSB, 181; Lumber, 345; Plywood, 281; Particle board, 208; Paper board, 638; Pulp, 361; and tissue, 1,749. Additionally, CAPEX for the quarter was $15.9 million, $6 million of which was our tab (ph) machine in Las Vegas.

And year to date CAPEX then, is about $29 million, with about $14.5 million of that, the tab machine. DD&A, was $25.2 million for the quarter, interest expense 12.1. Those are the statistics I normally give. At this point we would be happy to turn it over for questions, Rob.

Thank you, sir. Ladies and gentlemen, if you wish to ask a question, key star-1 on your Touch-Tone phone. All questions will be taken in the order received. Once again, if you would like to ask a question, key star, then 1.

Your first question is from Joe Stilevetti (ph) of Goldman Sachs.

Good morning. Just in trying to look a little bit forward in the tissue business, can you quantify the cost of that significant down time you took in the second quarter? You basically said that pricing was pretty similar to the first quarter. I didn't know if that would imply that the cost of the down time was close to $12 million, because that was the swing.

No, price something actually down first to second quarter by about 5%, a little over 5%, Joe. What I was saying was the market tone is a lot better, within pricing every quarter there's some mixed changes which you can't see, which affect the net pricing.

All I said on the downtime was that had we not had the down time, consumer products would have been profitable. That's about as far as I will go to specify. It was clearly in excess of the loss. .

Okay. And then, similarly, up in resource, I know that you're bound to not pay the proceeds from the divesture of the timber lands, but you're basically saying that the gain there was about $10 million bucks?

We are basically saying that the improvement in resource, which was $11 million, was primarily attributable to the sale of the timber land. And if we give -- if we were to give a gain, it would be very easy to back into the sale price, and so we haven't gone further than that, Joe.

Okay. All right, thank you.

Your next question from Richard Schneider.

Pen, I would like to just discuss the whole tissue area here. If you look at, as we enter the third quarter, what does pricing look like now? Is it a stable situation?

I'd say stable with second quarter.

Okay.

And we have not, I have been anticipating, like I said in the last conference call, that given pulp price increase, pulp is now going down and there's a question as to where it will go in the future. But I had stated in a prior quarter, actually at the end of the first quarter, that with pulp going up, I anticipated tissue pricing to follow sometime in the second half.

We haven't seen anything other than something initiated by P&G, in their (inaudible). So we have not seen pricing change there yet.

And so the key difference in the third quarter is the reduction on the converting downtime, then, for you when you look at your operational picture for the third quarter?

Yeah. As pricing--the average realizations are slightly lower, but that's correct.

Okay. So, removing that, there's a chance that you guys would be back in the black in the third quarter in tissue?

All things being equal, I think I would say, that yes.

Okay. If you look at, your situation with the new machine starting up early next year, how are you weighing this? If it's a problematic situation, disposing of some excess inventory now in the marketplace, is this going to be a really a real headache for you come next year?

We don't think so. We have been adding new customers in anticipation of that machine, and we continue to. But from the time you add a new customer, and then go through all the packaging, get the product into the market, there's a lag of 3 to 8 months, depending on who the customer is and how quickly we can work through all the package design decisions. So we've been doing that this year and are continuing to, and we do not anticipate a problem moving that tonnage.

And this issue in May, June, with having to take downtime and take that approach to inventory-- that was a surprise to us. I mean, was this something that sort of crept up on you,? That the market wasn't near to put these tons in the marketplace? Because, you know, after the first quarter conference call, there wasn't a lot of indication that that was going to be really necessary.

We didn't at the time of the first quarter call, we didn't anticipate doing this, Rich. In the tissue business, you can always move more product with the existing customers by altering promotional levels. And promotions are already quite high just base on industry situations.

You can also take the gamble, which I think we would have done “ex” the new tissue machines, to live with higher finished goods inventories for a period of time and let the market gradually take care of that. With the new machine coming on, we thought that was not a wise decision, plus the longer you leave something in inventory, the more cost there really is tied to that. So we made the decision in early may to go ahead and do this pretty aggressively, and we did so.

Okay. If you look at your pulp and paper segment, how much of an impact on the improvement came from pulp in the improvement from the first quarter levels would you say?

I mean your profits went up, or your losses went down by $8 million. Was there much attributed to higher pulp prices?

Virtually, nothing, Rich, and the reason is as the Lewiston paper mill has run better, while pulp prices went up, we don't sell pulp within the segment, and as our productivity goes up, we have less pulp to go to sell.

And as a result, our pulp unit sells outside went down fair fairly sharply, and if you look at the net effect in pulp, it will have been a positive effect for product which remains in inventory and there is an elimination category. You can't take the profit until the product leaves us, and as a result there's really no effect from pulp--no positive effect.

Right, Rich, in fact the elimination you see in our P&L is for that pulp inventory at tissue. And reviewing the statistics, we had less external sales, either year over year quarter, or sequentially by about 45% or 46%. So very low quantity of external sales, which means not a lot of profit to the company. Most of the additional pulp was going internally.

So a lot of it is coming from the improvements that I guess you made at Lewiston and a little better tone to the bleach board market. Going forward; there more to be realized from the productivity and the improvements that you're doing at Lewiston, or are we totally dependent upon what happens in the bleach board market?

There is a huge amount more at Lewiston. Initially, Rich, we've gotten the production systems are working very well, we have tightened specifications on product, and it really improved product quality.

And we are now in a process that we went through over the last two or three years at our Arkansas mill of upgrading customers with better product quality and consistency. That's the only mill on the west coast which produces folding carton, or cup. And so there are some customers who are very advantageous to us from a price standpoint that we haven't been able to serve because of the mill's more erratic quality in the past.

So there's a two or three-year process which is worth a great deal of money in upgrading that customer list, and we're in the process of doing that, but it takes time.

Okay.

There's also some additional productivity there. We're not done with the productivity.

Terrific, thanks a lot.

Thanks, Rich.

Thank you, sir. Your next question from Bill Hoffman of UBS.

How you doing.

Good, Bill.

I want to follow up with this pulp paper segment. You still had an operating loss in the current quarter, I just want to get a sense from you as we're looking at the next quarter with pulp prices coming back down.

Should we be expecting you to continue generating operating losses in that segment until we see better market conditions in the paper board side in?

The pulp price coming down, just as pulp price going up didn't have much effect on us. Pulp price coming down could have some effect on us, probably very little. The key really is paper board productivity and quality and then customer mix. Customer mix is by far the biggest, along with productivity.

So we don't see pulp prices come down as they are right now, as being a significant factor, looking into third or fourth quarters, we expect that business to continue to operate better and improve.

If you look on a monthly basis, though, in the paper board side of the mix, with you are you trending positive -- of the business, are you trending positive from the operations there, as far as your mix and productivity go?

It jumps around enough, a little bit, one place to another, that I would say we're sure trending positive if you look at a six-month trend, if you look at a two-month trend or three-month trend, it's hard to see one.

Okay. And then moving to the resource segment, I guess historically in the third quarter you've had pretty meaningful increase in log (ph) sales coming out of the resource side.

Are you expecting to see the same kind of market conditions at this point given the strength in the building market, et cetera?

You broke up a little bit on the question. Let me -- the question as I understood it was historically in the resource segment we have had a stronger period operationally in the third quarter and that really is just because of the ability to access wood and move it out of the woods regardless of weather.

That is -- that's normal. This year would appear to be normal.

We would expect to have again a stronger third quarter operationally from delivering logs and harvesting feed timber, should again be the peak of our year, and so we see nothing particularly unusual there.

Okay, and then just quick question for Jerry Working capital wise going forward, from an inventory standpoint, you look like you pretty much at a more normal operating level at this point, going forward.

We've gotten to what is, I think, the normal range. I think there's probably still some room to reduce some inventory for the next couple, few months. However, as you get into the winter, then inventories would normally build in resource, getting ready for the winter.

So I think it's probably a fairly normal range that we might expect at year end, although there could still be some volatility through the balance of the year.

We're not going back to where we were in the last year.

No, absolutely not.

We have some things still going down which will offset at least part of any resource buildup.

Okay. Great, thank you.

Thank you, sir. Your next question from Chad Brown.

OSB, if we could just turn to that for a moment.

If prices were to hold at around the current levels or only come off a little, what your realizations do going from Q2 to Q3 in OSB?

Well, first (inaudible) OSB prices were to hold where they are now for the rest of the quarter. Clearly there's been an unusual run on the upside, and continues to be pretty good demand out there. They would probably be up 60 dollars a thousand, perhaps more.

There's still the lag, July pricing or realization for OE ship will be way above what we shipped in June. August, which is at this point in time, Chad, is virtually sold, with maybe three or four days of production left, will be way above July.

And so the question really becomes one of September. At current pricing, if it were to stay where it is now for the rest of the quarter, and it may well, I guess I'd say the 60 dollars is probably a safe guess.

Why wouldn't it be more than 60, though? I mean, looking at the 7/16ths index Grade, that would be up more like a hundred dollars a thousand. So is your particular mix not moving as much that belt weather index?

No; I guess I'm just cautious about the four and a half weeks of production we haven't sold yet.

Okay. Not a lot of production, though. Sounds like you've locked in most of the quarter's prices.

60% to 65% of the quarter is sold. Probably 65%, and the remainder, 35%, isn't. That is, the market still looks pretty strong to us. What has historically, has occasionally, caused big drops in that market, occur when all producers say their backlogs are out X number of weeks and two or three big ones are lying.

Or the customers may be double ordering?

That's always a possibility. You can get a customer double order. Less of the volume today goes through the wholesalers also.

The office wholesalers, who have historically been the quickest -- if they felt they saw a trend, to cut the volume they had in (inaudible) moving with no destination to get rid of it as any price.

But it usually takes one or two significant producers who say they've got six-week backlog and have one-week backlog to cause a main change. We don't see that and we don't see much inventory in the field.

I mean, in addition to the calls we get from people who are buying, we get lots of calls, people trying to track product that they have been sold to their customers that they need to deliver.

But you look through a number of these cycles, as I have and our ability to forecast exactly where the price goes is not particularly high.

Well, we'll be able to, I guess, watch that market. But is there anything going on in your cost situation that would prevent whatever the price gain is from coming to the bottom line?

I mean, if it's 60 bucks per thousand times, what, 344 thousand square feet, that would be like $20 million. Would that go to your bottom line, or pretax line, or would there be some offsets because of higher wood costs or labor cost or anything else?

The only offset we would have, Chad, is we took about a week's downtime in early July at Grand Rapids, our Grand Rapids mill, to change out all of the plat instance in the press, which also have the effect of speeding up the production—adding productivity. So that cost you a little bit of money.

And you lose 7 to 10 days of production out of our small smallest plant. Other than that, there was nothing going on in cost. As a matter of fact, costs in the summer are usually somewhat lower than on an annual basis.

Okay, so it sounds like a good quarter, then in OSB coming up.

Correct. We would definitely agree with you. The question is how good.

Okay. One other question on your timber sale. You described the property as being hardwood surplus hardwood bottom lands. But the kind of per-acre values that one can guess at from the information you've given us certainly makes it sound like there must be something else on those lands, some sort of higher and better use.

What were those lands like compared to your other lands? And can you give us any sense of what, if any, meaningful income was coming from those timber lands before they were sold in?

We had managed them for years on a sustained basis, Chad. So there's clearly a mix of timber, some older timber and some younger timber. But it's not a national park. It is something we have harvested as it made sense to do so. And while some of the land, a little bit of it might have higher and better use at certain times of the year, most of it is six to ten feet under water as happens along the rivers in Arkansas in the winter and spring.

So unless there are natural gas deposits, Sold, or something else that we have been unable to find, there's not anything else tied to that sale.

Okay, thanks.

Yes, sir, you have Steve Chercover from DA Davidson.

Good morning, guys. Chad was certainly drilling in on some of my questions on the OSB and leverage of that particular product.

Have you seen similar price appreciation in plywood or is it more a question of OSB closing the gap on plywood?

It's more a question of OSB closing the gap on plywood. Plywood is moving. We have no, as you know we have no southern pine plywood and we have just one primarily industrial plywood mill in Idaho.

And our plywood realizations were up 2.2% in the quarter, versus 11.7% for OSB. It looks to us as if plywood is moving somewhat in -- being dragged along by OSB, as opposed to the other way around. Even though we're not in southern pine plywood, that is kind of the assessment I would get from talking to our sales guys, and reading all of the same market information you do.

When you gave us the prices for those grades, those are on a 3/8ths basis, is that correct?

That's correct, and they are gap, they're not the way we used to give them. They are kind of gross prices, as opposed to what we always gave before which was net to the mill, which we thought was more useful, but is no longer permitted.

So these would correspond more to what random or crows would print?

Yeah.

Gotcha. Now, are the resin prices coming down at all, have you seen that? Or are they still basically linked into what's going on in the petrochemical industry?

We haven't seen -- it's a good question. I'm not sure I can answer it real definitively. I haven't seen anything there that anyone is wanting to talk for the last three or four months, but I haven't asked the specific question, and I don't have the -- when we do our quarterly earnings release, unfortunately, it is before I have all detail from all businesses, that comes in about a week later.

So I've got the base numbers, but I don't have all the detail numbers. We can have Jerry get back to you on that one, I think, and if it's significant, we can post something on our web site.

Okay. Can you just remind me when the Las Vegas tissue machine will be operational?

It's scheduled for start-up in mid to late January. It appears to be on budget at this point in time, and on target. I say appears to be, not to scare anybody, but we're 2/3 of the way through the project, it's still going on and everything seems to be tracking well.

And the recent competitive nature of the tissue industry, does that give you pause? I mean, would you still start the same project today knowing what you know?

Yes. It is a product which allows us to compete at the top end of the towel market, something we could not do before, which we think is really key to drawing that business. It is the highest return, or highest profit item in the industry from our assessment--the high end towel--and we are going to price it accordingly.

Will that open any doors for you to new customers beyond the Safeway and Kroger (ph) that you currently service?

We believe so, Steve. I'm not going to identify which customers, but we think it is a key in being able to grow that business and to move all of the tonnage efficiently.

And you don't have a, you know, 100% single source relationship with those two department stores or grocery stores, is that correct?

We have 100% single stores with virtually everyone in the west, Safeway or Albertson's, we supply all of their tissue products, or at least all of the products we make. They may have some industrial wipes that we do not manufacture, but we supply all of their private labels.

We do not have 100% supply with Kroger. We do all of them in the west and some of the Midwest business. And then there are a number of smaller chains or co-ops that we do 100% of in the west.

Okay, well, thank you very much.

Thank you, Steve.

Your next question from. Amir Shikad of from Cobalt.

I have a few questions. Can you help us understand the booking of the IRS recovery as interest income?

We had disagreements with the IRS as we do every year, over a number of years and so you go through a very lengthy process when you and the IRS agents disagree it goes through a -- up to an appeals level. It can end up in court and we've ended up there a couple times though not recently.

When the IRS ultimately approved our agreement, over a year ago, because of the size of the refund, it had to go through the joint committee of Congress, and that's a process where there is no time limit, the joint committee gets to it when they get to it. So that finally came through. We booked all of the interest income on taxes as part of that settlement, but the tax part of it was treated originally through the deferred tax accounts, and the tax refund was treated through the deferred tax accounts and therefore did not hit the income statement.

Okay. My second question is regarding the Timber sales. Should we expect additional timber sales like the Arkansas one, near term, or should we basically consider it non nonrecurring? I'm trying to figure out how to view this.

It's clearly the largest sale we've had since we got into the mode of selling higher and best use and surplus lands two or three years ago. We have a number of other things in the works, none of which at this point are larger than that sale, but I would anticipate continued sales every quarter. That one is larger than most.

Okay.

but I don't want to let you -- leave you with the thought that therefore we will not have another sale that size or larger. That's not where we are.

I think I would fine tune it a little bit. While he says every quarter, there could be a quarter where we wouldn't have something close. But we are actively in that business, as part of our resource management.

Okay. How does this affect your earnings from resource going forward? Wouldn't they be reduced as timber sold?

All things being equal, yes, but most of what we are selling is higher and better use land, or land that we deem surplus that generates very little, if any, net cash flow.

Some of these lands--we've owned the land for years and years--and we have not, as is true for actually some others, tried to segregate all of the acres, but when you look at management costs and real estate taxes paid, there are acres which are negatives, not net positives.

And if you look at what we have told sold to date since we started this process, you would be unable and frankly we are unable, unless you get into the decimal points to see any change in resource income going forward.

Okay. Next, can you help us understand the competitive environment and consumer products a little bit better. You've alluded to that now several times in prior releases. Where is it going and what's driving it?

What's driving it is clearly a combination of more capacity than demand, and some attempts to gain market share by one or more players, which is what always drives it.

What happens is that gross prices do not change, but the amount of tissue sold under promotions goes up. Normally, if you go through super markets or drug chains, et cetera, you'll find at almost any time there's something on sale. At the end of the aisle, buy two, get one free, or two for the price of one. And that's normal in the trade to bring in customers to the stores. At least that's how it's viewed.

And when you get more promotional expense, the amount of tissue sold under promotion, as opposed to just normal shelf price goes from 45% or 50% up to the mid, maybe the high 60%s to low 70s% percent--as that happens, net pricing goes down.

We basically change our promotions to match what's being done at the branded levels.

Do you expect the environment to get more competitive going forward?

I do not. I expect the -- given some pulp price increases, which affect everybody, although not necessarily the same way, undoubtedly there are some that are -- some of the competitors that have prices guaranteed for X number of weeks or months. But given that, I would expect prices or margins and a desire to raise prices.

The other thing that happens when this goes on is that you force weaker players from a cash flow standpoint who can't meet quality or higher cost out of business, and that's on ongoing as well.

Lastly, can you give us your view of the sustainability of OSB prices here, what you think the drivers are, and whether or not whether natural gas has impacted them at all?

I'll give you my view with the disclaimer that there are no statutes built on my forecasting OSB prices around the country. Because it is not an easy market to forecast. We would anticipate tailing off in the fall.

Natural gas is a factor, I think a bigger factor is the Canadian dollar. There's been a lot of capacity added in North America has been added in Canada in recent years, and the switch in the Canadian dollar, I think, puts a quite a bit higher floor under pricing than we've seen in the last two or three winters.

But I would expect pricing to come down, and come down pretty sharply in the fall, to a level which is quite a bit higher than what we saw in the winter of 2002-2003, or 2002-2001.

As to when, demand is quite strong. Even when you have overcapacity in OSB, on an annual basis, you don't have overcapacity during the strong building season. And what we had this year, I think, was after a couple of years of low pricing, and the ability to call and order it and get a quick delivery, the distribution system did not build the inventories they normally built in the winter and spring to cover themselves in the building season.

And you also had a delayed building season thanks to an awful lot of moisture on the east coast. And when that moisture disappeared and the building season hit, there were not sufficient inventories in the distribution system to take up the slack, and prices have been rising ever since.

Sorry for the long-winded answer.

I appreciate it. Thank you.

Thank you, sir. Your next question is from Daniel Loeb, Third Point Management.

I was wondering what progress has been made by the company in the areas of corporate governance that we've discussed in the past? In particular, I know that since we brought this matter to the public. The issue of the (inaudible) voting is of particular concern to a number of your shareholders. I'm wonder what actions the board has -- the board has taken to date to try to remove this antiquated voting that the company has, which has been outlawed by the New York Stock Exchange.

We have, at the board level, discussed it, we will continue to discuss it. It is something the board themselves cannot change. It must go to a vote of the stockholders in order to change it if the board elects to do so. And having been raised by a number of shareholders, it is something that is under active discussion at the board level.

It seems like a pretty straightforward issue. I mean, how much discussion has to take place there to come to a decision?

We've been talking about this for a number of months. I would think that we could sit down over a few hours and hash this out with counsel and figure out a way to get rid of it.

Well, you are correct, Mr. Lobby, it is fair fairly easy to figure out a way to get rid of it, assume you can get the shareholder vote.

Okay, so --

But there are other issues in terms of does it make sense to remove that process, the voting practice, at this point in time, or to recommend to shareholders that they remove it, since we can't.

Do you personally feel that states vote something a positive for the company or a negative?

I personally think it is viewed by institutional investors as something of a negative. Beyond that, I don't believe it has much effect.

but -- I didn't ask you what you thought the shareholders thought of it. What do you personally think of it?

Jerry Zuehlke It gives the board the ability, Mr. Loeb, to go through a period of very weak markets and not be susceptible to a takeover offer at a price which is detrimental to shareholders, even though higher than the price at the time.

So there are some advantages to having a time-phased voting process to basically prevent people who are very short-term investors from affecting the value of the company over the long-term.

Just to be clear, we've been shareholders for well over a year, so I wouldn't call that a short-term investor, in case you're implying we're short-term investors. Secondly, it sounds like although your institutional share hold reverse as opposed to phased voting you're in favor of it, it sounds like. Secondly --

Mr. Loeb, I didn't state that exactly. Do you have any questions on the quarter?

I have a question on the quarter. The tissue business was a negative $4.974 million dollars in operating income. This followed—I’m going back to March of 02 -- OI of 13.3, 12.5, 9.4, 7.6, and 6.84, for March of '03. This to me looks like a serious negative trend in the tissue business.

So what I'm wondering is in light of the decline in that business, and the pressure on your margins, and your own statement -- and I'm quoting you, that you said that my ability to forecast is not high. I guess that was in reference to OSB prices, but it isn't doesn't seem like you have much of an ability to forecast any kind of prices in our business, which is a commodity driven business.

How can you make decisions to allocate capital when you can't figure out what the prices of these commodities are going to be?

Let's see, Mr. Loeb, I'll answer this question and then we'll go on to the next questioner. The comment about OSB, OSB is a commodity which moves in price somewhere every day, as does lumber and plywood.. And I've been in this business for 35 years or so, it is -- those products are not particularly forecastable. Tissue prices, like many other prices in the paper business, go through cycles which are quite a bit more forecastable.

The way in which we allocate capital is to look at the returns in a business over time, and decide whether allocating that capital makes sense. That's what we've done in adding a machine to produce a very high grade towel in Las Vegas, and we believe that's a very wise decision for the business.

Your next question is from, Noah Eckles from Calvis Capital.

on the OSB side, can you give us more granularity on how these contracts work and how your business, outside of contracts works? I wonder if maybe we could go to your August business and if you could give us a better idea of how pricing works?

Your business that's been booked for August, a third of that is supposedly under contract, two-thirds is not. For the third under contract, how is that price calculated? Off a July random links price, or June random links price? What date random links price is it?

And then number 2, is for the two-thirds of the business in August that isn't under contract, how is that price calculated? I presume it would be off a price that's recent in July, given that's when you probably sold it.

With regard to contracts, the way those work is the buyer agrees to take a certain amount of volume on a consistent weekly basis, and we price it based on the, either random links of (inaudible), in essence, two weeks earlier.

So it's priced for example, what ships next week will be priced on the two two-week earlier price or last week's random or (inaudible) print, under the contract. With regard to the other sales we make, we clearly -- we attempt to get the highest price we can get. We follow random links of (inaudible) closely. They only report a couple times a week. We're on the market in the market on a minute by minute basis.

It's a telephone market primarily, so what we have sold in August, the first part of those August sales occurred around probably the last week of June at then-current random lakes pricing.

If prices are heading up, we attempt to lead those prices by putting somewhat a higher price on. And prices have been heading up. And what we're selling today, 18th, 17th of July, is in the last week of August out almost six weeks, and reflects the current quotes.

At a point in time we will also occasionally sell some Volumes, at a discount to the current print, into a future market where we don't believe the current print would hold.

So we will sell some volumes in the fourth quarter, or we will have sold some fourth quarter volumes at a fixed price before the end of July.

Noah Eckles Okay. And then, I guess my follow-up would be, once you've negotiated a price, so let's say the August business that you're doing might have been negotiated in the last week of June, what's the opportunity for you to renegotiate the price, like if prices have gone significantly up?

And conversely, if pricing rolls back over and you've negotiated a higher price with your customers, what opportunity do your customers have to come back to you and try and knock the price down some?

neither one. Basically what's negotiated, the customers scream when prices drop and they've agreed to a higher price. They smile all the way to the bank when prices have risen significantly and they sell it at a higher price than we've contracted earlier.

To correct one thing, maybe I misspoke, but the price for the last week of June, that would have been shipment say the first day of August. And then as time has gone on, we've shifted out to the week of the 25th of August. So the prices we will ship in August are really prices that you would have seen in the last three weeks in the prints.

The only way a customer gets out of paying for the price that they've contracted to buy is if they just renege, and then we will never deal with them again. So that's not an issue which we have -- has been significant in prior cycles, nor will it be one in this one.

It almost seems like your non-contract business, it actually creates a greater lag than the third that's under contract, or did I misunderstand that?

Because it seems like the third under contract or quote, unquote under contract, that moves, you know, you get the price that was a week prior, where the stuff that's under -- you know, the two-thirds that's not under contract, quote, unquote, it seems like that's, you know, a lot of that business is priced off ,a month behind. Is that incorrect?

No, I think you're correct. in this type of market. You're incorrect in the type of market we would have had in January where you probably don't have two-week order backlog.

I got you.

That's the way the market works.

The reason we sell under contract is so that we don't have as much volume to try to push into the market when the market is extremely weak or when the market is falling.

Great, thanks.

Your next question from Andy Fineman of Meridian.

Thanks. If you look at the tissue prices, I think you said some of the competitors buy pulp under contract, and so now their pulp costs are going up even though pulp prices are going down.

And so maybe that will help the -- the productivity -- you negotiating the promotion activity in tissue. I mean, is that kind of what you were saying?

Kind of, although I didn't -- we clearly do not know the terms under which our competitors buy pulp. Having been in the business for a long time. However, we know that a lot of pulp moves under contract, and the terms are individually negotiated with each producer and each customer.

But, barring that, that is kind of what I said, that rising pulp prices tend to squeeze the margins of most of our competitors, two of the three largest, are almost entirely dependent on purchase pulp and the third buys a reasonable amount of pulp.

I mean, I'm just trying to understand why -- I mean, yesterday GP said the same thing. They said they thought tissue prices had bottomed and it was going to start getting better. And you're kind of saying that, but I don't know that I understand why that would be the case.

the reason would be -- this is not a commodity. This is a product which doesn't really follow commodity Pricing. This being tissue. And as a result, as margins are squeezed, you find the consumer products companies, Proctor & Gamble and Kimberly Clark, who do buy almost all of their pulp from others, will tend to lead price increases to try to protect margins in the market.

And they can lead price increases by reduced promotions, by changes in sheet count, by changes in prices.

That has been the history in prior cycles. That's no guarantee that will happen in this cycle. But if it doesn't happen, margins get squeezed.

The outlook for pulp, okay, starting to weaken, but I believe that the outlook is for it not to weaken a lot. Because it's kind of a seasonal thing right now in the course of an up cycle. I mean, would you say that?

Because the reason I'm asking, you know, if pulp start going down, then the margin squeeze goes away and they don't have to raise prices.

Correct, margin squeeze goes away for everybody, including us. Tissue is also squeezed to some degree by rising pulp prices. For us. But that's correct.

The pulp market, Andy, is a real swinger in terms of how quickly it can change direction, and the history of analysts forecasting pulp pricing is not particularly wonderful. You've got a couple of schools of thought out there. I don't know which is right. One of which thinks pulp prices are weakening and this is a blip.

And the other suggests that because of the dollar having weakened somewhat and the resumption of growth in the world economy and not a great deal of new pulp come on, that pulp will strengthen once you get through the weak summer period.

I don't know which of those is true, and we don't spend a lot of time on it because we are on a net basis very small net pulp buyers, but not affected directly in a great deal -- and a great deal by this market.

So in either case you'll benefit because either the cost of your pulp go down and price also stay and you'll still make money or it's a blip and the margin squeeze will cause tissue prices to go up? Is that your thinking?

Yes, that is what our thinking is.

Okay. Now, you paid $55 million dollars worth of debt down, net debt, in the quarter. So almost two bucks a share decline in debt. I mean, (inaudible) the $43 million in cash, as I always do.

So how much do you think you'll pay in the second half? Where do you think debt will be at the end of the year?

Well, we would anticipate a number of things working in our favor as far as cash flow goes, not the least of which would be OSB pricing. As we continue to build cash, net debt will continue to go down. It won't have a dramatic impact on interest expense because as we've discussed before, a couple of our largest debt issues are out there and are either non callable, or even in the market we couldn't get them at a reasonable price, that wouldn't harm our equity.

So, we will build cash for sure, net debt will continue to go down for a couple of different reasons. But it won't have a huge impact on interest expense.

Noah Eckles Okay. So the question I -- I'll just repeat the question. How much do you think the net debt will go down in the second half? What do you think it might be at the end of the year?

Andy, I don't know, I really can't forecast that. I can but I won't.

Well, in the past you have, I think. After the first quarter I think I asked on that call what, how much -- what the debt might be at the end of the year, and I thought you said something . I'm just trying to get a sense of-- your cash know is always stronger in the second half, and it's meaningful to me to just have a kind of guesstimate about how much-- You started the year at 652, and I'm just trying to figure out if I started a 652, where I might end up?

The operational cash flow, you're right, Andy, should be stronger in the second half, partially off offsetting that is probably more of our capital expenditures this year will fall in the second half than fell in the first half. And we have gotten most of the money on a net basis out of working capital that we will probably get for the year.

We expect it to continue to go down, but we don't forecast earnings, and we've already given capital expenditures out. We have given depreciation, appreciation and amortization, and if we give you a number, it's pretty easy to back into what we are forecasting for income in the second half, and that's why Jerry is wisely not answer answering the question.

So the capital spending you said was $16 million or so in the quarter. What is it year to date?

About $29 million and change.

Okay. So if I call it $30 million and it's supposed to be $90 million for the year, is that correct?

It will approach $90 million, that is that is our budget. Depending on how much is still left to pay on the big project, which is the tissue machine, some of that could get carried over into the first quarter. So it will approach $90 million but it won't get there.

Andy Fineman Okay. And then for next year, at $50 million that it was going to go back down to around $50 million.

That's probably a reasonable number.

Yeah, or less.

We haven't gone through our capital budget budgeting process yet, Andy, but we do not anticipate anything unusual in a low capital spending period like the tab machine this year and somewhat last year.

the OSB-- I'm interested that nobody mention mentioned wood availability because of weather as being a reason that OSB prices were up. Is that not significant?

No. I think it's significant to individual mills if they've been unable to get wood. But my sense would be that the OS OSB which we have lost, we as an industry have lot of because of a lack of wood, is relatively insignificant in relation to supply and demand.

And we have not been forced to take any downtime in OSB because of a lack of wood.

Well, that's fantastic, because, some of the other companies are -- well, like I said who I spoke to yesterday, they had an issue there. And then, let's see. I think that was pretty much all the questions.

Andy, let me follow that to say that clearly I don't talk to those other companies for a variety of reasons. So if they're saying they have had substantial downtime that I haven't seen reported, maybe I'm wrong. but I sure have not seen signs that there have been significant supply problems in the OSB business. There have been some in the pulp business earlier this year.

Yeah, well, it could just be you're in a better position to get what you need to sell your OSB. I listened to GPS today and it's no secret because they said it on their conference call, that they can't make as much OSB as they would like to right now because they can't get the chips. They're sold out and they wish they had more chips.

I don't know where they -- I haven't looked to see where all their plants are. All of ours are in the north. We basically -- there has been a lot of water in northern Minnesota, but we came into this process with pretty good log decks in anticipation of this, and we have not been affected.

Right, they're in the southeast. All right. Thank you.

Thanks, Andy. Rob, could we take just a couple more questions in order to try to keep to our allotted time. Thank you.

Okay, sir, your next question from Matt of Willow Creek Capital.

Kind of a quick follow-up question on something that was asked earlier. On the $25 million dollar tax refund, it was said in the press release and the caller alluded to the fact that 12 and a half million of that had been run through the interest expense line--I’m sorry, interest income.

Yes.

Was the other $12.4 million also one run through the income statement?

No. It is in the tax accounts.

Okay. So, if I'm kind of -- and I realize you guys didn't put these together--but if I'm juxtaposing kind of the numbers you put out with the Wall Street models, there would be the $12.5 million of tax that hadn't been included in other people's models. And also it doesn't appear that the ten or $11 million or $12 million dollar gain on the sale of the timberland assets would have been included either.

So there's kind of $25 million; is that right, of things that went through the income statement in some capacity that hadn't been accounted for in Wall Street's models, is that fair to say?

The resource gain, whatever that is, is included as revenues and cost of sales in the resource segment.

Okay.

The balance of the tax entry is in the deferred tax accounts, and is not reflected in the P&L. But if you, again, the Wall Street models, are their models, not ours. If people do not include anything for land sales or timber -- unusual timber sales -- which we have kind of on an ongoing basis and they wouldn't include the interest income, then those items would not have been in the normal models.

Well, maybe ask another way. Would it be possible -- and I don't want to kind of breach the confidentiality issue of the purchaser of the forest lands. But if I were to look at the revenues operating income and pretax income, sans the benefit from the tax and the benefit from the sale of the timberlands, which I can't tell, it doesn't appear that Wall Street took that into consideration, could you give me what those numbers would have been in.

No, because if we do that, then we've given you the interest income, if we give you what the number was we'd be telling you the profit or the sale price.

Okay. Just one last question. On a -- excluding those items, was the company profitable in the quarter on an operating cash flow basis?

I'm just thinking how to answer that. We have in our -- how to answer that. We have in our release earnings from continuing operation before taxes on income. On Page 7 of our release, and we have an operating income chart there which shows resource wood, pulp and paper board, consumer and eliminations, which gives you an operating income line. If that's your question, the question is -- the answer is yes.

It was more kind of just -- it's a little bit difficult, because historically the company has put forth a kind of a restructuring charge line item (inaudible) there's been a negative impact of potentially what would be considered one-time items, the company has kind of excluded that or made it easy for the reader to exclude that from the total income. And since there wasn't a cash () I was trying to reconcile if on an ongoing operational basis, was the company a cash flow generator in the quarter?

Well, to further Pen’s comment, the $18 million that's operating income is before the corporate items and the corporate item includes the tax refund implications. So the only unknown there, then, is the additional 15,000 acre sale.

The reason this is not broken out is not because it's positive. It's because it's part of our ongoing business.

Okay. I'll just follow up with you guys off line. Thanks.

Thank you, ladies and gentlemen. This brings your conference to a close. we'll turn it over to Mr. Zuehlke for any closing comments.

Thank you.

This brings your Q & A session to a close. Please feel free to disconnect your lines at any time.-