Potlatchdeltic Corp (PCH) 2003 Q3 法說會逐字稿

Welcome to your Q3, 2003 Potlatch earnings conference call. My name is Jean, I'll be your conference coordinator today. At this time all line are in a listen-only mode. After our presentation we'll open the call to questions. (OPERATOR INSTRUCTIONS) I'd like to advise you, the conference is being recorded for replay purposes. And now over to your host for today's call, Mr. Jerry Zuehlke, Chief Financial Officer.

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 in upcoming quarters. These statements are not guarantees of feature performance and the company undertakes no duty to update them. Although these statements reflect management's expectations 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 would now I to turn the time over to Pen Siegel who will discuss third-quarter results and provide an overview of our markets.

I'll go through this on a segment by segment basis with what happened generally in the third-quarter and what markets look like today. I'll start with the resource segment. Resource earnings were down in large part because of a decline in log pricing in Idaho, also because we -- because of weather we delivered fewer logs, sold fewer logs in the third-quarter than we did earlier. And in addition, a part of the resource segment today is other activities, including higher and better use, land sales, leases, conservation easements, etc., we don't attempt to time these on a quarterly basis. We work each one to generate the maximum value for Potlatch. And the third-quarter just completed happens to have had virtually no transactions in any of the three areas, which is unusual. In terms of resource markets, markets are stable at this point in time. Going forward we would anticipate not a great deal of market related change between the third-quarter and fourth quarter.

In the wood products segment operating income was very strong, primarily because of the extreme strength in panels that we have seen over the last six months. Lumber markets were also up -- rose for six or eight weeks in pricing into mid-September and have since given back almost all of that increase, but during the third-quarter lumber markets were stronger than they were in the second. In the panel markets, what you see in our panel pricing reflects primarily OSB. We had one plywood plant which did increase its production and shipments fairly substantially because we can do that in a plywood plant with swing shifts by adding some shifts when markets are good. In OSB those plants ran full except that our Grand Rapids plant took major downtime in the month of July to install new equipment. So the production did not see the kind of increase we saw in plywood.

With regard to OSB markets, we made the decision fairly early on as the market began improving in mid to late April to extend order backlogs. So what is reflected in third quarter revenues in the panel business reflects sales which took place at the latest in early to mid-August. Those products were delivered at the very end of September.

The markets have continued to be very strong. They remain strong today. Pricing has continued to move up from levels we saw in each of the three months, July, August, and September which sequentially improved quite dramatically. We are presently sold out in the OSB business in two plants, somewhat more than halfway through the week of December 8th, and in our third plant into the week of December 15th. Those markets remain strong and look quite good.

Moving to pulp and paperboard, the group had an operating loss which was somewhat larger than the second quarter of this year. That was virtually all related to an extended major maintenance downtime which we took in Idaho in our major wood-fired power boiler. That lasted somewhat longer than we anticipated. Maintenance costs, as you know, are expensed rather than capitalized, and to keep the plant running while that major source of high-pressure steam, generating both process steam and electricity, we ran substantially more natural gas than normal in standby gas boilers and purchased more electricity since we did not have the steam generation, as much steam generation to generate to our electricity capacity. So that really accounts for virtually all of the change from second to third quarter.

In markets, the largest market for us is the folding carton market. There we are seeing improved demand from most of our folding carton customers, and it is somewhat scattered, but folding carton demand overall is up about 3.5 percent in the U.S. in the first eight months. We are experiencing very good backlogs. We are told that our backlogs may be somewhat longer than those of others in the industry. We have no way of knowing that except secondhand information, which may or may not be accurate, coming in from the marketplace. But our backlogs are quite good. Productivity has continued to be quite good at both Lewiston and at Cypress Bend.

Lewiston is very early on in the process of having improved our quality and consistency of now shifting customer mix, and we think that will take us two to three years as it did in Cypress Bend, Arkansas. In the tissue market in the third quarter, we had -- in consumer products we basically broke even, down actually from a year ago, improved from second quarter. We had a substantial inventory buildup earlier this year in tissue, and in the second quarter decided to take major converting downtime to bring finished goods inventories back into control. Eighty or 85 percent of that downtime occurred in the second quarter. A little bit slopped (ph) up to July, but was over pretty much by the end of July.

Sales are back on track. We have actually picked up a number of new customers, as well as fairly significant volume from existing customers. So in the fourth quarter we will be back buying a significant quantity of parent (ph) rolls of tissue to help supply those customers in anticipation of the startup of our new through-air-dry tissue machine in Las Vegas for January. So that will harm fourth-quarter earnings a little bit, but we will more than make that up with an easier rollout of products as we get into 2004 from the new machine.

With that, Jerry, I will turn it over to you for some basic members.

Thanks, Pen. What I would like to do is as traditionally I do, go through some shipment and realization statistics. I will start with shipments for OSB during the quarter. OSB shipments were 2.1 percent less than the previous quarter. Lumber was down 2.6 percent, plywood was up 28.2 percent, particle board was up 4/10 of a percent, paperboard was down 13.4 percent, pulp was up 131.8 percent, and tissue was up 15.1 percent. In realizations, gross realizations were up for OSB by 52.5 percent, lumber was up 4.1 percent, plywood was up 11.4 percent, particle board was up 6.7 percent, paperboard was up 2.0 percent, pulp was up 7.8 percent, and tissue was up 1.8 percent. I have also traditionally given a trend, that being the month of September versus the quarter average, and in every one of these productlines September was a higher price than the quarterly average. But I would remind you of what Pen said earlier, lumber has since retreated so that trend has changed.

The other two things I'd like to point out, we reduced net debt by $20.5 million in the third-quarter which brings us to a reduction for the year of $58.9 million. And capital expenditures in the third-quarter were 32.9 million, 19.8 of that is our Las Vegas project. Year-to-date CAPEX is 62.3 million, and 34.2 million of that is Las Vegas. With that, those are the statistics I would like to go through. And what we'd like to do, Jean, is take some questions and provide some answers.

(OPERATOR INSTRUCTIONS) Rich Schneider of UBS.

I just wanted to, first, talk about what's going on in the tissue markets. Are you seeing any signs of reduced promotional activity there?

Rich, we didn't in the third-quarter because we boosted our own promotional activity to get sales back on track because we had -- the sales have fallen off somewhat in the -- late in the first-quarter and during the second-quarter. Having said that, the market tone appears to be no worse. At the bottom of a market or at the turn of a market, as you know, it's not always easy to identify "is this market turning". There are some signs that promotional activity may not be quite as bad, but I'm not convinced that's true. I don't know it's false either, it's just too hard to make that call.

Wal-Mart at an analyst meeting indicated that they would like to get into the premium private-label towel business and they are willing to get involved with at least giving support for somebody to put in TAD machines. What do you know about that situation?

I don't believe -- we are not a present -- let me rephrase it. I started to say something else. I know we're not a present supplier to Wal-Mart, but I don't believe it's particularly useful, Rich, for us to comment on any activities we may have in discussions with potential customers because it probably is harmful to our sales effort.

Okay. You mentioned on the pulp and paperboard area the extended maintenance downtime. How much do you (technical difficulty)?

We have not publicly quantified it, but I think you can assume as you look at second-quarter (technical difficulty) the vast majority (technical difficulty) in income is tied to that extended maintenance downtime on the boiler. It did not create paperboard machine downtime or pulping downtime, but what it did was substantially raised cost while we went through the major maintenance on that high-pressure wood pulp fired boiler.

So do you see no effects from that in the fourth-quarter and theoretically you should get that difference back in the fourth-quarter?

Yes. That was over -- we fired up a couple of gas-fired power boilers that are on standby that we use only for situations like that, and we take a look at are we better off to take some downtime throughout the paperboard mill, or are we better off to throw the higher cost and keep things running? We were clearly better off to keep things running but it was expensive.

Okay. In terms of the components that impacted the resource business in the quarter, could you sort of quantify in any sense what lower volume -- how much lower volume you had coming out of Arkansas in general and what the price difference was in logs coming out of Idaho?

Jerry and I are looking at each other while we decide how we want to answer that one, Rich.

On the price side we've really never quantified the price because it gets into a lot of different species which are ever-changing month to month and quarter to quarter, so we've tried not to, on a quarterly basis, talk on price because the mix can change so much. But certainly the average pricing was down considerably sequentially and year-over-year in Idaho. The volume difference in Arkansas was roughly 15 to 20 percent sequentially.

And of the two the price difference is by far the larger of those two, Rich, as well as the absence of any HBU type transactions, and that lower log price was primarily tied to white fir.

Let me -- I don't think I made it clear. Volume was up in Arkansas sequentially, but 15 to 20 percent less than we might have expected based on previous years. So I didn't say that quite right the first time.

Okay. And what was the reason for the large decline in pricing in white fir logs?

Frankly, it was a delayed market reaction to this year's lumber market. Log prices tend to hold up longer than you would expect them to sometimes when lumber prices decline, and Idaho is almost entirely a lumber driven log market. We have one plywood plant making primarily industrial plywood, but that's the only panel plant in northern Idaho where we operate.

Okay. And just two last things. If you look at your wood operations, is there anything that will cause you any problems as you look at it in the fourth-quarter to prevent you from realizing any of the higher prices that you discussed?

We have downtime scheduled at two of those plants. Our Cook plant will be down for a little bit over a week, and that's scheduled for really through Thanksgiving, the Thanksgiving week. The reason for that is Cook is very far north and it is not unusual to see -30 to -50 degree temperatures in the wintertime, so we have to have a very extensive downtime to make sure the entire heating system is in good shape because we can't afford to have it go down when it's that cold. And we'll do other major maintenance at that time. We have downtime on one of the lines at Bemidje which will last again for a little bit over a week I believe. Having said that, the downtime at Grand Rapids in July was quite extensive and pretty expensive too because we expensed a fair amount of things as well as losing production. So I would not expect you to see sequentially the affect of that from third to fourth-quarter.

Okay. And tax rate, should we be using just 34 percent for the last quarter and then it goes back up to 39 percent next year?

That would be a good assumption, Rich. This is an event for this year and the 34 percent is what we would anticipate for a total year rate. So the fourth-quarter rate ought to be very similar to what it is in the third-quarter. But would return to a more normalized 39 percent for next year.

And then just lastly, Pen, what is your assessment on the panel market? I mean, a lot has happened here, OSB has gotten into balance, but you've also had weather conditions that have slowly impacted things like log availability, etc. How do you view this going forward?

It was an unusual set of circumstances, Rich, I think which caused this -- caused primarily by the fact that after a couple of years of very weak markets the distribution system did not build any inventories for the summer building period. As we assess the market today -- one other thing I might mention, historically when panel prices have been very strong there has been surge capacity, and that surge capacity has been in the plywood business because, as you know, those of us in the plywood business run plants on a shift basis not a 24/7 basis. Today I think something over 60 percent of the panel market is OSB which has no surge capacity, and of that plywood which remains an awful lot has been moved into specialties as our plant has. So those plants presumably could run some extra shifts and we did. Our production of plywood was up quite sharply in the third-quarter as we continued to produce our normal mix of industrial products for our customers, but then added extra shifts to produce heating plywood, but there isn't anywhere near as much surge capacity as the percentage of the market as there use to be.

All of the anecdotal evidence we get today is that there is very little inventory in the pipeline, and that's just a sideline. When producers are getting calls from individual builders asking can they find panels to finish job they have underway, that's an atypical situation I haven't seen before. So there isn't much inventory in the pipeline, it isn't clear that with the still strong construction underway that the demands for November and December have yet been met in the market. All of which leads us to believe that probably this market is going to hang in longer than most of us would've guessed or forecast a couple of months ago. The risk to that is that if there is almost everyone except for four plants for one big producer sold out into December. If one of the large producers is lying -- or I shouldn't say it that way -- one of the large producers says they have an extended backlog and don't and bring substantial amounts of wood -- cardwood into the market at a time when it isn't ready to accept it, then that could cause the market to crack. We don't think that's the case but, of course, all we know is our own backlog.

Great, thanks a lot.

Sorry for the long-winded answer.

No, that's great.

Bill Hoffman of UBS.

I wonder if you could sort of walk us through the impacts in the fourth-quarter between seasonality in the tissue business and the divisional order of sort of how you're bridging this GAAP before you start up in this new (inaudible) machine?

The question broke up a little bit on the back end. I got seasonality.

Sorry, I wanted to get a sense of maybe you could sort of walk us through what the financial impacts are going to be in the fourth-quarter of the normal seasonality decline you have in the tissue business? And then the purchases of parent rolls basically bridging the gap before you start up the TAB machine earlier next year?

With regard to tissue and seasonality, we don't normally see a seasonal decline or any kind of seasonality in the tissue business in the at home or retail segment. Our sales volumes have picked up -- ramped up to where we cannot apply all that volume in the fourth-quarter from our own paper machines. So I don't expect any seasonal volume effect at all. Our volumes are actually growing. But in the best of times you generally don't make much if any money purchasing parent roles of tissues to then convert yourself or even more expensively have converted outside. In this case we have conversion capacity but it will cost us some money to actually by parent roles. The advantage of doing that is to ensure customer service for a larger customer mix which we needed with the startup of our new machine which is scheduled -- continue to be scheduled in January. I should have mentioned earlier and did not, that machine remains on schedule in construction and on budget.

I was trying to get some quantification of the impact of having to go in and buy parent roles?

We don't forecast earnings for any of these segments. It will tend to dampen tissue earnings I think in the fourth-quarter. The impact is probably no larger than the impact that we had in the third-quarter from the converting downtime we took in July.

Okay. And then just a question regarding working capital in the fourth-quarter here, whether you expect to have a meaningful use of cash in working capital as you start the seasonal build and --.

Bill, we've got a little bit of a bad connection.

Sorry. I was just trying to find out whether you had any thoughts on the working capital, use of cash in the fourth-quarter, whether we see the normal build in inventory across some of your businesses going into the first quarter?

We will see some build as we normally do in log inventories approaching year end. We would probably see continual building of some receivables based on the hot OSB market. We will certainly see a build in cash, but I don't think anything on inventories and receivables that are out of line and certainly the cash is a good build.

The only other build we may see, and we do many years, is a moderate build in liquid packaging paperboard inventories which are necessary to supply the spring and summer Asian market.

Right. But nothing out of the necessarily normal?

No, there's usually a fairly modest inventory build there. We didn't point out, but could, that if you looked at the shipment numbers, paperboard shipments were down fairly substantially from second quarter to third quarter. That's virtually all inventory movement. We came into 2003 with much higher than normal inventories and really got those inventories down sharply in the second-quarter. So shipments in the second-quarter were the anomaly, not shipments in the third quarter.

Okay. And then just looking into next year, given that we may have a more sustainable higher dollar price panels market, any thoughts on your capital spending plans for next year? Any new projects or anything?

We would and have continually said that we're anxious to manage our balance sheet to a stronger position. As we said when we went into the Las Vegas project, this year would be the anomaly and next year we would return to a more normal range of CAPEX in the 40 to 60 million range which we think is what's necessary to maintain good operating facilities and stay up with the things we need to stay up with, but also manage our balance sheet to a stronger position.

The only thing I might add is that until really December 31, we won't know what expenditures are this year. And when you have a major expenditure like the tissue machine, the machine may be fully completed and in start up with nothing else coming in, but there may still be $8 or $10 million of bills which we budgeted to pay this year which don't get paid until next year.

Thank you.

Stephen Chercover of D.A. Davidson.

Additional clarity please on --.

Steve, I think you're going to have to speak up some also.

On the tissue side, you've been buying parent roles in this current quarter, weren't you actually building up inventory in the second-quarter in anticipation of that strike?

We actually were building inventories late last year in anticipation of a strike in Lewiston, or to protect against one because we had a very difficult labor negotiation from the standpoint of what we were asking our employees to accept which was non-traditional. We reached agreement on that at the end of January so most of that inventory got built up. In addition, we probably didn't handle sales as well as we should have earlier in the middle part of the first half of this year. So that was the finished goods inventories. We did have some build up of parent roll inventories. We did have a buildup of parent role inventories but we are -- we will use those up plus need some additional parent rolls purchased from others, Steve.

So really the visibility in terms of supplying your major customers is not that you don't have that grade of a lead time that you could've accumulated enough parent roles internally, is that correct?

The visibility in new customers is generally pretty decent. When we have a new customer it's clearly not a new tissue seller, it's just new to Potlatch. And so there usually are in the trade, if we have a new account which came from another producer in the trade you allow that other producer to run out their packaging inventories because our product will be redesigned -- not only from a product quality will it be different, but equally as importantly, we design the packaging with the acceptance of our customer for the various segments of tissue. What we also ran into this year was some fairly substantial additional volume over the last couple of months from existing customers that we did not expect. That's more or less instantaneous, Steve.

So your new clients are beyond the Safeway and Kroger expansion eastward, is that correct?

The new clients would be people -- yes, that we have not supplied to (indiscernible) would be the retail chains, some non-traditional nongrocery chains people that have elected to switch to our products because of some combination of quality and service, and so they would be unrelated to say Safeway and Albertsons, for example, or Kroger who are existing customers.

Just for clarification, is it Safeway and Kroger or is it all three, Albertsons as well?

We supply all of Albertsons, we supply all of Safeway, we supply part of Kroger.

So there's someone new over and above those three?

Yes, so that new accounts are chains, basically regional chains that are not part of one of those, but are strong chains in their own regions that we have picked up as new accounts.

Okay. And with respect to your through-air-dried product, is it going to be facial, bathroom tissue, kitchen or all of the above?

It will be solely towel.

Solely towel.

Yes, it will be a towel where from a product quality standpoint we do not have an offering in the superpremium or through-air-dried towel market which is the largest and fastest-growing segment of that market. So that's what our attorneys (ph) will be aimed at.

Will it be air dried on both sides or will it be a hybrid sheet -- conventional on one side and air dried on the other?

It really is a customer by customer account. We will probably do some of each. The basic product we are introducing is a two ply through-air-dried product. To the extent that -- we have offerings in the supermarkets against every significant volume segment, and so to the extent that one of those volume segments goes to a hybrid we will also have offerings there, but the premium product we're shooting for is a two ply, both plys being through-air-dried.

Great. Switching gears a little bit, I'm sorry, I missed your discussion of how you're going to migrate your board production over the next three years. Can you just review that strategy?

Yes, and I was using three years as a -- two to three years as a benchmark because that's what it's taken us in Arkansas. In Arkansas we had a very extensive process which culminated in the year 2000 with the ability -- putting in tooling, Steve, to have the ability to make the high-quality folding carton sheet that we had not been able to make previously. That's always been a very efficient mill, but the board did not have the surface qualities which allowed us to compete in the highest priced and more profitable -- most profitable segments of that market. Since making that change at the end of 2000 we have shifted about 40 percent of the volume into those markets, and by next year we will be basically running where we would like to be with the proper target customers.

We've made the same switch now in Lewiston in terms of product quality. We have solved our product variability so that the product is consistently high-quality in every run. And judging from our experience in Arkansas, I've said I think it'll take us two to three years. We clearly are trying to do it quicker to migrate out of lower priced, lower quality products into higher quality products, but the only experience we have is Arkansas and I think that's aid decent proxy.

Thanks for that clarification. And finally, with these superb OSB markets, you are obviously generating quite a bit of free cash flow. And you're going to be, in all likelihood -- legitimately profit next year as well as this year. Any thoughts on dividend policy, maybe raising it back towards previous levels?

With regard to the dividend policy, that's something the board discusses quarterly as we look at dividends, so it's not, I can't speak for the board. What I can say, Steve, is that looking at our balance sheet we still don't like where our balance sheet is in terms of debt. And so it is more likely, I believe, that we will work to take free cash to pay down debt, which for the next 2 1/2 years probably is more of a net debt basis because we don't have debt which we can pay down very efficiently except for very low-cost municipal debt which we don't want to pay off at all. I would anticipate us building cash, but that is a subject the Board takes up frequently and it is a Board decision, not a management decision.

Thanks and good luck.

(OPERATOR INSTRUCTIONS) Sir, there seem to be no questions at this time. We will close with your remarks?

Thank you very much, everyone, for joining us. We appreciate the opportunity to speak to you and look forward to talking to you again next quarter. Thank you, Jean.

Thanks very much.

Ladies and gentlemen, thank you for your participation in today's conference. You may now disconnect.