Potlatchdeltic Corp (PCH) 2005 Q4 法說會逐字稿

Good day, ladies and gentlemen and welcome to the fourth quarter 2005 Potlatch earnings conference call. [OPERATOR INSTRUCTIONS]. As a reminder, this conference is being recorded for replay purposes. I would now like to turn the presentation over to your host for today's conference, Mr. Gerald Zuehlke, Chief Financial Officer. Please proceed, sir.

Thanks, Meeka. 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 future 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 like to turn the time over to Penn Siegel who will discuss fourth quarter results and provide an overview of our operations and markets. Penn?

Thanks, Gerry. Before I do that, today, Mike Covey has joined us as our new CEO, and I will turn it over to Mike for a few comments before I go over the fourth quarter and outlook.

Thank you, Penn. And good morning, everyone. Although this is my first day at Potlatch, I have spent time with Penn and our outside directors over the past few weeks to begin assessing the strengths of the Company and how they fit with the new REIT platform going forward. As you will hear from Penn and Jerry here in a few minutes, all of the legal and financial hurdles to convert Potlatch to a REIT has been completed.

The tasks now shift to one of implementation and execution. The REIT conversion is a significant accomplishment for the employees of Potlatch and our outside advisors. The REIT structure will serve as a spring board for growth in the future, principally due to placing the timberland ownership in a more tax efficient structure which will lower our cost of capital. My objectives over the next 100 days or so are focused on meeting Potlatch employees at every location and to gain a better understanding of the Company. I will place added emphasis and time on our pulp and paper board business as well as our consumer products segment which manufactures tissue products. Both of these businesses are new to me. I have a lot to absorb there.

Our wood products manufacturing business and our resource management segment both have growth initiatives going forward, which will result in increased cash flows, principally due to an additional harvest in Idaho and more efficient converting capacity at our hybrid poplar tree farm in Oregon. While I'm more familiar with these two business segments, I have not had a chance to see the operations firsthand. I'm excited to be part of the Potlatch management team and I look forward to leading this call next quarter.

Now I will turn the call back over to Penn and Gerry to discuss the results.

Thanks, Mike. And we are speaking for everybody, we are awfully glad that Mike has joined us, and I look forward to his leadership in Potlatch as do the rest of our employees.

Moving to fourth quarter, I will go through this on a division by division basis, and to the extent there are any changes in the business, near the end of the quarter, I will cover those as well. Moving first to the resource business, the resource segment had a good fourth quarter. We had a couple of conservation easements which closed in the fourth quarter as well as more in the way of land sales than we did in the fourth quarter a year ago.

And as you will recall from prior calls, the land sales is a component of sales of property which is worth substantially more to others than it is to us from a timber-growing stand point. We don't budget those sales on a quarterly or monthly basis. We merely handle them as it makes sense to do so. So those numbers will jump around somewhat.

Without those numbers, the fourth quarter resourced income was down somewhat from a year ago, with almost all of that decline being attached to our Boardman hybrid poplar operation. That operation began, we flipped it into a full operating mode, starting in the fourth quarter, based on harvest levels, but we had very little production in the way of lumber. And as a result, our costs went up, and our revenues did not. We have added a portable saw mill there, which was running as of the end of the year, and we're building a permanent saw mill of much larger size, which will be completed this year. So those results in the fourth quarter should not be taken as an indication of what happens in '06 or certainly beyond, as we begin to harvest and process pruned logs which are worth substantially more than what we were processing so far by shipping logs to people outside at pretty great expense.

In the wood products segment, the wood products segment barely broke even for the fourth quarter, primarily due to higher log costs, although we also had lower lumber pricing, which affected the operation and the substantially higher energy and freight costs. Energy is not so much a function of energy costs at the various mills, but is primarily a function of transportation costs outbound, in terms of moving product to the customers, as well as substantial energy surcharges for log movement into the mills, and so in both cases the energy costs hurt us there but not so much from a direct manufacturing standpoint since most of our energy is self-produced at those mills.

Moving to pulp and paper board, the segment had a loss of 4.5 million versus a slight profit in the fourth quarter a year ago. We did have increased shipments and higher prices for paperboard in the quarter, but that was substantially more than offset by higher maintenance, chemical and energy costs. Energy was quite high and most of our external energy costs, IE, natural gas, goes to the paper board business with some going directly to consumer products. And we were hurt by natural gas prices in addition, the energy costs related to transportation hurt us in the paper board business to some degree. And we did have some unplanned maintenance at our Idaho mill during the fourth quarter. All of those things combined to cause us to have a loss in the quarter.

If you look at our paper board business, we have three segments there, we've got folding carton, we have the cup markets, and we have liquid packaging, and almost all of the cup and liquid packaging products come from one of our two machines in Lewiston, Idaho. Those businesses generally negotiate prices with large customers on an annual basis with the prices generally kicking in around the first of the year, and we went through our normal negotiations in the fourth quarter, and are entering 2006 with substantially higher pricing for all of our cup and liquid packaging grades out of Lewiston, Moving to the consumer products segment, it reported operating income of $7 million-plus versus roughly break-even a year ago. Primarily as a result of higher selling prices, and that's on a net basis.

Early in the fourth quarter, we were able to improve our finished goods inventories to a level that we've been struggling with for the last 18 months or so and once we were able to achieve that level, we are able to do two things: First, run our converting lines in a much more efficient manner for longer production runs since we are not trying to balance a variety of short-term customer needs. And secondly, with inventories in good shape, we are able to use freight much more efficiently, both from the standpoint of shipping much more product by rail, as well as the standpoint of being able to avoid the short-term truck shipments from over fairly long distances to minimize customer service issues, so that problem is behind us. Inventories are in good shape. They did rise in the fourth quarter.

We elected during the fourth quarter not to meet some of the competitive deals that were in the marketplace. We frequently see, in an October through December period one or more of our branded competitors who become very aggressive in promotions, in order to move more cases of product, presumably to meet year-end targets. And frankly, it does not make much sense for us to match that. We just end up giving money away. So we did have reduced shipments to some degree in the fourth quarter, which was intentional, and that competitive pressure on the pricing standpoint appears to have ended as we entered January.

The only other comment I will make is one, as of Friday, we had a shareholder meeting approving the merger of old Potlatch into a wholly-owned subsidiary as a way of facilitating two new charter provisions, one of which increased the potential shares outstanding authorized from 40 million to 100 million, and we will use a portion, a small portion of those shares as part of our E&P distribution. The other charter provision added a provision to allow us to be sure we don't run afoul of the REIT tax rules.

Later in the day, Potlatch's Board met and approved the E&P purge and set an amount of $445 million with no more than 20% of that being paid in cash. We will go out shortly in a little bit more than roughly nine or ten days, we will send out to our shareholders an election form allowing people to ask for shares, cash, or a combination there of. To the extent that people ask for more cash than the 20% total, we will pro-rate that. The Board also set out the first quarterly distribution, net quarterly distribution of $0.65 a share to be paid February 28th to stockholders of record on the 13th. And the -- we did have a press release on that, which presumably you have seen, that we put out late Friday.

I will turn it back over to Jerry for some numbers.

Thanks, Penn.

I would now like to do what I normally do, and provide you some shipments and average sales price per unit numbers. These will be versus the third quarter, so sequential numbers. Lumber shipments were down 5.9%, plywood down 10.4%, particle board up 11.9%, paper board down 4.6%, pulp down 0.4%, tissue down 12.9%. On the average sales price, lumber down 2.7%, plywood 5.9%, particle board down 3.7%, paper board up 0.7%, pulp down 3.2%, and tissue up 4.8%.

I'm also traditionally given a trend during the quarter by giving you the trend between December and the average for the quarter. At this point, there may be a little misleading because things have been bouncing around some but I will nevertheless give them to you. Lumber, the trend was down December versus the quarter. Plywood also down, particle board also down, paper board was flat, pulp was down, and tissue pricing on average during the quarter trended up and continues to trend up.

With that, Meeka, we can turn it back to you for questions.

Yes sir.

[OPERATOR INSTRUCTIONS]. The first question comes from the line of Kuni Chen of Banc of America Securities. Please proceed.

Thanks. And Penn, congrats on your retirement and good luck in the future.

Thanks, Kuni. Good morning.

And welcome to Mike. I guess just to start off, can you just review pricing for us in tissue, kind of what is -- what if anything, have you announced there, and what would be the time line for that? And also in bleachboard, can you give us an idea kind of when you average some of the pricing that you've already gotten across that business, what sort of percent increases are we looking at for '06?

Let me take tissue first. We have announced increases in tissue prices which are effective -- should be effective later this month, and early into March. The question in the tissue business, as is true, I guess, in most paper grades, is will the increase stick? We believe it will. But it is not -- it really isn't solely within our control, it is a function of marketplace supply and demand and what companies do on promotional sides. There have been times when the supply/demand conditions are not very good. And that's I believe not today, but there have been times when the price increase sticks and then the industry gives all of it back in increased promotions. So the net pricing doesn't change much. I expect net pricing to go up with this increase.

We also, Kuni, have been working through -- this increase announced is an actual increase per unit, as opposed to the other way the industry increases prices, which is to reduce the number of sheets per roll. And a sheet count reduction, either occasionally in width but generally just the number of sheets. And as we are not leaders of that, and will not be, but we are quick followers, and so some of the pricing we saw during 2005 as pricing improved quarter to quarter was a result of sheet count reduction. So the price per ton was going up even though the price per roll wasn't, but each roll has less fiber, has less paper involved. And the increases right now are increases directly, and I think that will stick.

With regard to paper board in our liquid packaging, and cup grades, it does vary a little bit. Liquid packaging is all negotiated really as of January 1. The cup grades are annual but most of those for us will kick in in the first quarter. And those increases in those grades specifically will range from a low of 60 or $65 a ton to a high of $180 a ton.

And we have one of our two machines in Lewiston which produces not entirely but mostly those two grades. We've been pretty aggressive in the liquid packaging market this time around. And we've been able to do this really for the first time because we have improved the consistency and quality of output on that number two paper machine, which is the liquid packaging machine, to the point that we are have a number of other options and product categories. So we were -- we like the liquid packaging business, if it is priced properly. We do not like it the way it has been priced the last three or four years. So we went into this with the thought that we were going to be aggressive on pricing and to the extent that we lost volume, unlike prior years, we have a place to take that volume.

In the folding carton market, there was a price increase, back roughly first of October, that increase had worked its way in to some degree but was not sticking across the board. I do note that last month, Pulp and Paper Week, which kind of does an independent look at pricing, raised folding carton prices $20 of the $40 increase, and I think that's -- that is a fair representation, and I expect the other 20 to probably be fully effective by the end of March.

Okay. And to the extent that you can comment, if you look at sort of the -- what you expect to get in pricing in pulp and paper versus the run rate and cost increases, do you think you can stay ahead of that in '06?

Yes. As an answer, the energy costs probably we had, natural gas, at least temporarily, is not close to the levels it reached during the fourth quarter. It has come down pretty substantially. We have a number of capital projects really aimed at reducing further our natural gas usage, and over the 2001 to 2005 period, we were able to reduce our usage per ton of pulp and paper board produced by 50% but the prices went up faster than we reduced usage.

We are continuing to reduce usage and the kind of pricing we've seen recently has made some projects economic enough for us to have included them in our 2006 capital budget. These are generally small projects which change steam flows, change efficiencies, and reduce our need for natural gas. We will have somewhat higher natural gas usage, although not costs, in the first quarter, as we do a fairly substantial planned rebuild of our number of -- of a big wood waste power boiler in Lewiston, Idaho, which will take place during the first quarter, probably in March.

The fuel surcharges have come down. In terms of the transportation that we're seeing, and so that is a plus, and I would expect that our overall cost increases in 2006 will be well below the overall price increases barring acts of God like Katrina and Wilma which we didn't see coming.

Okay. One last question and I will turn it over.

Sure.

What is the status of the Aimsworth claim against you? I had heard they had had some mechanical failures recently. Can you bring us up to date on what is going on there? Is that still active?

They made a claim to us in late September that they thought we had not maintained the equipment properly after they had been running it for something over 12 months. They sent us some information, not a great deal, we requested a great deal of backup information, which we have not received, and we have rejected their claim, and as of -- there really has been no correspondence between the two companies that I'm aware of in the last two, to two and a half months so with regard to any mechanical issues at their plants, I think have you to contact them. I hear rumors but rumors are not a very good source of information.

Right. Okay. Thanks. I will come back.

Your next question comes from the line of Rich Schneider of UBS.

Good morning, Rich.

Hi, Penn, how are you?

Good.

Just on the increases that you talked about of 65 to $180, I guess that was mostly focused on liquid packaging, what percentage of your business would be covered by some of these price increases? Would it be about a quarter, since we are talking about one machine designated?

We're between 25 and 30% of the business.

Okay.

It's covered, yes, covered by the -- cup is in there also but covered by cup and liquid packaging.

And that would be in that range of increased 65 to 180?

Yes. And that is all in, all but maybe 10,000 tons as in Idaho, we still have a small amount of cup business in Arkansas, which we have maintained there for freight reasons to customers, but generally it has been more efficient to move it all to Lewiston.

And there have been future bleachboard price increases announced in the first quarter. Are you going out with further increases? And how does that work through for you?

We are studying the market. As you know, there is a Mead West Vaco machine shutting down during the first quarter and one that shut down early in the fourth quarter, I believe, and as we look at supply/demand conditions in the segment, it looks to us as if supply/demand is -- will be quite tight. And so we will study the -- those increases and if we believe it makes sense to increase them, and we think we can keep that increase, we will probably make that decision, but no decisions are made yet.

And by saying quite tight, I guess is it quite tight now, or the expectation, and I think Mead West's second machine, or their machine at Evan Dale closes down in March, and maybe March will be tight then?

I think it is some of each. We have had pretty good backlogs during the last five or six months, which from industry data, looked like our backlogs are better -- have been better than the industries overall. We clearly don't talk to our competitors so we don't know what anyone else's backlogs are, but looking at AF & PA data, our backlogs are pretty good on machines at a time when historically backlogs have -- the folding carton backlogs have tailed off, at the very end of the fourth quarter, and for the first month or two of the first quarter and our backlogs remain pretty good. So I think the market is decent now and we will be tighter once that machine goes down.

Great. Can you sort of help us and try to quantify the impact of the popular hybrid impact on the quarter going from, -- sort of the development phase to operational phase? I imagine that was a negative or loss to you in the quarter?

It was. And as I said, if you take a look at last year's fourth quarter resource income, and you back out the amount of land sales, and you compare that to this year's fourth quarter and back out land conservation easements, the quarter went down and -- the quarter went down by something like 2.7 million, and the vast majority of that, almost all of it is related to an increase in loss in hybrid poplar. When we made that conversion into a full operating mode, I attempted to do this a few years ago, and was not allowed to by the accountants who correctly said you can't expense all of the ongoing expenses until you are in a full production mode.

And working through the process, we decided fourth quarter was when that began, so we began expensing all of the normal operating expenses of going there, as well as starting a depletion for the 100 million or so that we have invested there, which will be depleted over the 11-year cycle of growth. There will be a small amount of additional money put back in, but it is is very small in terms of the re-planning, et cetera, that has to be capitalized. So -- and we have been running saw logs through a saw mill 60 or 70 miles away, and then producing green lumber, then moving that green lumber back past the farm down river to dry it, and then have been developing markets. That's an expensive process for lots of reasons and we did not have a great deal of that going on in the fourth quarter, but we had all the normal operating costs. So fourth quarter loss went up pretty substantially.

We will cut our costs of that lumber that we have been producing which hasn't about a great deal and will produce a lot more even with a temporary saw mill in place in 2006, and then at the end of 2006, a regular saw mill with the green end of one will start up and the Board will probably consider putting in the -- in 2007, the kilns, steam capacity, and power in essence to run the kilns so that we have a full saw mill. What we will have at the end of this year is just a saw mill producing green lumber, as well as the ancillary chip production which we sell.

Do you expect to move to sort of break-even level in the first quarter out of this operation? This poplar --

I expect the operation to swing call it a break-even level. From a cash standpoint, not from a reported income standpoint. But businesses run on cash, not reported earnings. And and I would expect it will be another -- another year before it swings into a positive from an income standpoint, as cash flow ramps up.

Just the last couple of question, tax rate was very low, I think we calculated something like a 5% tax rate. What went on there?

You're right. It would have been just a little over 5% for the quarter, the impact being the year going from where we had been in the 38% range, down to 30.8. By year end, and there is a number of things that were going on during the year, which really came to fruition in the fourth quarter when the Board made the final decision to convert to a REIT.

We were then able to fully calculate all the impacts of that, both federal and state, in all the states that we operate, and then meld all that together with whatever tax credits we had, and make a final decision on the REIT for the year. So it was really driven by the final decision to become a REIT in the fourth quarter and our ability to fine tune all of those elements for year end. So by year end, we were doing 30.8%. That meant about -- a little less than $0.12 during the quarter.

Okay. And then lastly, in terms of the E&P cash distribution, I guess that is going to be something like 89 million or close to that, and then the new dividend level, are you going to have to borrow initially to pay those down?

Well, I will start, Penn you can add anything you would like. You're right, we have about 89 million that we would expect to pay on the E&P purge and cash at the 20% level of the total distribution, and about 19 million in the quarter for our normal distribution going forward. With the cash on hand, at present, and given the kind of cash flow that we have been enjoying of late, we would anticipate borrowing some in the first quarter, maybe in the neighborhood of about 30 million. I think that may be fairly typical in any year, given our seasonality, and our cycle. Having said that, though, we will also have very positive cash flow normally during the balance of the year. And we would anticipate not very much borrowing, if any, by year end?

Thanks a lot.

Thank you, Rich.

Your next question comes from the line of Eric Anderson of Hartford Financial Management. Please proceed.

Good morning. I wonder if I could just follow up on Rich's question about the board operation. Could you just quickly run us through the economics of the facility, in terms of going to the permanent buildout in terms of the throughput, through that facility, with an 11-year rotation. This is sort of an ongoing business or is this more of a capture of cash over that time frame?

It is an ongoing business. We originally started it for pulp chips, and we thought at the time we were concerned about supply, that concern was not valid, and so about six years ago, we elected to change our rotation from a six-year growth of basically fiber to 11-year rotation for hardwood saw logs.

Some of the original cones we planted at that place were probably not the best for saw logs. Everything we planted during the last seven or eight years has been. So the process in that, let me walk you through that, when we made that decision, we also took a look at the economics and decided we were much better off to have pruned saw logs, to -- so that most of the growth was clear wood. So at the end of the second year, the trees were about 20-feet tall and we pruned them, began pruning them, and at the end of the fourth quarter, or in some cases the fifth, every tree is pruned by hand up to 24 feet. So you've got basically three eight-foot log segments, and everything above that is not pruned.

What we are harvesting now is unpruned fiber, because in order to make the economics work out, you really have to do the pruning in the first four years so that the last seven years produce this clear growth. If you were to go in and prune three years before harvest, up to 24-feet, the economics don't really make sense, frankly. So we are harvesting on a continuous basis, maybe five acres a day, 340 days a year, if you want to look at it that way, and it will vary a little bit, and doing it every day, just on a five-day basis, and then we are replanting each of those fields on an annual basis.

The saw mill we are building is the middle of the 17,000-acre blocked up plantation. So the longest haul we have for any saw log from the stump to the mill is a little less than four miles. There are some major economic savings, we are doing whole log harvesting, bringing whole logs, including branches, and everything else, the entire tree, to a central processing station, which is already up and operating. And there the trees are debarked, the limbs are taken off, and then we segment the tree into either saw logs and take the tops and produce chips for two or three different -- I guess at present, on three different chip customers. We anticipate this to be a long-term process, where we will go back every year and continue to have an 11-year rotation.

But we were forced to capitalize most of the operating costs of this operation for the first 11 years, and you should think of operating costs as being some people, some fertilizer, but primarily electricity. We are using a lot of water, and in the peak of the summer, we are moving more than 200 million gallons a day of water to this farm. It uses somewhat less than the amount of water that was being used when we bought the water rights and the early farms from people who were circle irrigating. We don't have the evaporation that they do because this is a drip tube process.

But the book costs will come down over 11 years and that 100 million will be recaptured, round, just roughly, 100 million and the amount we spend each year for replanting to re-establish the plantation is pretty small. So this is an ongoing operation. By the time we are into full harvest of pruned trees, which is about three to four years out, it generates a substantial amount of income and a somewhat more substantial amount of cash flow. And at the end of that 11-year cycle, when you've depleted 100 million, cash flow stays the same and more of it is called income. But it is all cash.

Okay. I appreciate that.

Sure.

And just an additional question if I may, you can comment at all about your interest in any possible divestitures that IP is doing with its acreage sale?

Realistically, we have had our hands full with the REIT conversion and all of the steps. There is an awful lot that goes on behind the scenes that you don't see much of it in the accounting and tax area, but there are an awful lot of hoops have you to jump through in order to convert from a C-corp to a REIT. And the timing of that probably doesn't make a great deal of sense for us.

In terms of the -- how it goes, I guess if it stretches out for a long period of time, some parts of it might be of interest to us but realistically, our plate has been awfully full, and remains full as we -- now we have all of the controls in place to make sure that we are following all the REIT rules, and we're going to have our attention there, for at least the next two or three quarters, to be sure that we understand and are following exactly should be done. After that our attention will remain there but it will not be a full management drill.

Great. Thank you very much.

And we have a question from the line of Steve Chercover of D.A. Davidson & Company. Please proceed.

Good morning, Steve.

Good morning, how are you?

Good.

My question is, now that are you a REIT, should we expect to see a more explicit HBU program, or will you at some point even give us an inventory of the kind of HBU properties you think you have in your portfolio?

Going forward, one of the great things from my standpoint of bringing Mike Covey in is Mike has a great deal of experience in the overall timberland management of Plum Creek, and in looking at both short-term and long-term, where the best value may lie for our shareholders, and so that clearly is something that will develop over time. We have a pretty good look at present, but I think nowhere near as good as we will have in two or three years under Mike's leadership.

We're at least in the short to intermediate term, HBU land resigns within Potlatch's ownership. With regard to will we tell you the acreage and other things, I won't, because I will not be CEO, and I think that is one we will have to leave up to Mike going forward, and I think it will probably take us some time to be in a position to want to comment on that, if we ever want to comment on that.

Well, we will look forward to some more visibility, I hope.

Okay.

Thank you. And welcome, Mike.

Thank you.

Your next question is a follow-up question from the line of Kuni Chen. Please proceed.

Yes, just on the tissue side of the business, can you remind us sort of where our parent role inventories are? I know earlier in the year you were running a couple of months there? Where did you finish at the end of the quarter, and you know, where would you like to be in that business?

Parent role inventories are quite a bit higher than we would like. We are selling some conventional crown rolls at this point in time, and it will probably take us -- it will probably take us 18 months, maybe as long as two years, maybe as little as 12 months, Kuni, to reduce those inventories to where we would like them. And at this point in time, I think you would have to say that the inventories are in the range of 10 to $15 million higher than they will be say 18 months down the road.

Okay. And just on the CapEx side, what are some of the major projects for '06? I know you had mentioned that there are, you know, more energy-related, if we can just run through some of the bigger ones, and I think the total amount was still around 60 million?

The total for the year will be just a little bit in excess of 60 million, as we finish up carry-overs from last year, and take care of all the new projects for this year.

We don't have anything really large in any of that.

The biggest would be the hybrid poplar saw mill.

The biggest is the $8 million that we announced on the saw mill.

And really there are a lot of -- there are some, not much in the environmental side, a little bit there, a few general replacement, and then a lot of fairly high return projects, many of which are tied to energy and many of which are not but they're small.

Okay. Thanks, guys.

[OPERATOR INSTRUCTIONS]. At this time, gentlemen, I'm showing no further questions.

All right. Thank you, Meeka. Thank you for joining us. We look forward to talking with you again next quarter.

Once again, ladies and gentlemen, we thank you for your participation in today's conference. This concludes the presentation. You may now disconnect. Have a great day.