West Fraser Timber Co Ltd (WFG) 2004 Q4 法說會逐字稿

Good afternoon, ladies and gentlemen, welcome to the West Fraser Timber fourth quarter results conference call. I would now like to turn the meeting over to Mr. Hank Ketcham, chairman, president, and chief executive officer. Please go ahead, Mr. Ketcham.

Good afternoon, everybody, thank you for joining the conference call. We've just completed our board meeting and have just recently, just a few minutes ago, released our results. We're sorry that the meeting follows so quickly on the release of the results, but it's more for logistical reasons from this end, so I hope you'll bear with us.

I'll report on our fourth quarter and relate it back to the third quarter of '04 for comparison purposes and, certainly, at the end of the fourth quarter, as you know, we completed the transaction with Weldwood, which we have been working on very diligently here in the first quarter and integration, which I will talk about in a minute or two.

But just speaking of our results, West Fraser had fourth quarter earnings of CanCan$41m, or 94 cents per share compared to earnings of CanCan$78m, or CanCan$1.95 per share last quarter, and earnings of CanCan$34m, or 92 cents per share in the fourth quarter of '03. In the fourth quarter, the notable items included earnings before taxes for the quarter were Lumber CVD and ADD duties of Can$31m; a share option recovery, and this is after tax, of Can$4.7m; and an exchange gain on long-term debt of Can$23m, or 52 cents a share on the exchange gain; and 7 cents a share on the share option recovery.

The divisional results were as follows -- our lumber division had EBITDA of Can$55m compared to Can$129m last quarter. The EBITDA margin for the quarter was 17% versus 14% the previous quarter. Benchmark SPF price averaged $336 U.S. for the quarter compared to Can$438 last quarter. Production was 664 million feet for the quarter versus 641 million feet in Q3, and shipments were 742 million board feet in the quarter, so a good reduction in inventory.

The panel EBITDA division was Can$15m compared to Can$20m last quarter. The EBITDA margin in the panel division was 23% versus 27% in the previous quarter. We set a yearly production record for both MDF and plywood, and plywood prices were down 18% versus Q3.

Our Pulp and Paper Division, we had EBITDA of Can$300,000 in the quarter compared to Can$12m last quarter. The company's pulp and paper mills ran very well, which begs the question -- why didn't we make any money? We had production of 280,000 metric tons in the fourth quarter versus 281,000 metric tons in the third quarter. Basically, the benchmark price for pulp was $630 U.S. for the quarter versus $670 in the third quarter. Linerboard was flat quarter-over-quarter -- $450 per short ton in both quarters, and newsprint was slightly down quarter-over-quarter due primarily to FX. Mill nets, while the U.S. mill nets and the linerboard in kraft paper division were on trend price. When you take into account the strengthening Canadian dollar, our Canadian mill nets were well below trend price in the fourth quarter of this year, and that's one of the big reasons for the disappointing results in our Pulp and Paper Division. I think it's important to note that while we had poor financial results at our Kitimat operation due primarily to the very unsatisfactory mill nets, we did, however, extremely good operating results based on historical operating results, and we have a very good trend line both in production at the mill in costs. So we do think that for the first time in a long, long time we're turning the corner at Kitimat in terms of its operating performance. We are not, however, being helped out by the strengthening Canadian dollar.

I'll talk a minute about the U.S. Softwood Lumber agreement or lack thereof. There's really nothing happening right now in the Softwood Lumber agreement. As you know, Canada continues to win at NAFTA and WTO, the various issues before it. We win on the issue of dumping, we win on the issue of subsidy, and we win on the issue of injury, and we should be moving towards a point of final determination when the extraordinary challenge is adjudicated later on this spring. However, the U.S. administration, or the Department of Commerce, is indicating that even if we get to the point where all of the challenges that they lodge with WTO and the North American Free Trade Agreement, even when we get to the end of those results, they are going to continue to pressure us by potentially continuing a litigation and also by refusing to return the close to Can$4b of duties that are now on deposit down there.

We, at West Fraser, we think it's an outrageous situation to find ourselves in, of trying to negotiate based on agreements -- international agreements that have been put in place with good faith between both countries, and we fully intend to continue to press our case as aggressively as we can but, at the same time, recognize that if the other side believes that there is a reason for a sensible and fair negotiation, we would be interested -- we, at West Fraser -- would be interested in following that path but certainly not on the basis of the stance that's being taken down across the border right now.

In terms of the Weldwood acquisition, Martti is going to speak about it more specifically. I'll simply mention where we're at in terms of the integration process. The acquisition was completed at the end of the year. We had a strong integration team that had been working very hard prior to the conclusion of the agreement, and so we really hit the ground running on January 1st, when we were ready to start to actually work with the Weldwood people and start to make the changes. And, in a very short period of time, since January 1st, I think we've made tremendous headway. We've identified many, many of the issues that need to be addressed. We've certainly done as good a job as we can of communicating with the Weldwood employees. The organization structure has now been set. All the most effective employees have been talked to, and I believe that we have a good, solid, strong organization structure consisting of both Weldwood and West Fraser people, going forward. We've made some tough decisions in a number of areas, and we're getting on with business in areas such as benefits and that sort of thing.

We're going to relocate our Vancouver office in May to accommodate the combination of Weldwood and West Fraser. Our Vancouver office will consist of around 90 or 95 people. We'll bring everybody together in May, which will facilitate the ongoing integration of the business. We have a lot of work to do in areas such as systems integration. That's ongoing. That's going to take us at least through year-end, but I think we're really well on top of that. We have great people on both sides of the company working to make this thing come together without a hitch. And, so far, we think things are going very well. We see no reason why we can't achieve the Can$80m of synergies over three years that we have continued to talk about, and we will try to identify those as we go forward and to make sure that we are hitting our targets.

Capex, in general, we don't have significant capex to spend on either side of the company on issues other than high payback areas. So we will continue to be aggressive in our capex and high payback areas. There are a couple of areas on the Weldwood side, which might require some additional capex in environmental areas, and so forth, but certainly not of a significantly material nature. So we don't see any particular issue there.

Finally, as you know, in dealing with the Competition Bureau in the last quarter of 2004 before we put the deal together, we signed a consent agreement to sell the Babine Forest Products and Decralite Forest Products, and while we are very disappointed that that was the end result, that has been what we have agreed to and so we have a defined period of time in which to go about that process, and we will do that in due course. And, by the way, we also have, as you know, with the Competition Bureau, we also have an agreement to put up a bit of our quota down in the Caribou region for 10 years to attract a new entrant into the log-buying market down there as well, and we will proceed on that in due course as well.

With that, I will pass it over to Martti Solin.

Thank you, Hank. I know you would rather talk about the Weldwood acquisition issues and a more mundane fourth quarter statements but let me first cover a few points on the first quarter and then go over the acquisition -- how it has affected the statements.

Let me just say one more time, I think Hank said it, if he didn't, I'll say it -- our results do not include any of the Weldwood earnings. As you know, we bought the company on December 31st and therefore only the balance sheet reflects the acquisition, and I'll come to that in a minute.

In terms of the fourth quarter figures, I have a couple of small comments to complement what Hank already covered. One is the amortization increase, which you will see there in the P&L is mostly due to the fact that we wrote off the balance of the capitalized start-up course relating to the WestPine MDF. That represents roughly Can$7m of that increase. And, as you will see in the earnings statement, our tax rate for the quarter was abnormally low because we recalculated tax expense for the year, which often happens in the fourth quarter. Our tax rate for the year was about 29% reflecting, in part, some proactive tax planning steps we have taken.

I'd like to give you a little bit of guidance to go forward, and recommend that you would use a tax rate of 30% to tax effect our operating -- 34 -- oh, okay, 34%, which is slightly below the taxes [indiscernible-highly accented language]. In terms of the EPS calculation, there is a larger difference between the basic and fully diluted in this period and that, of course, is due to the fact that we issued subscription receipts August 12 and therefore those receipts, which were converted into common shares December 31st, were outstanding throughout the quarter. We didn't have any earnings coming from Weldwood, so it was unusual in that regard.

So having kind of cleared these few items, let me now comment on a couple of things on the Weldwood acquisition. We cannot, as much as we would like to do, to disclose Weldwood's actual results for 2004. Counsel doesn't allow us to do it. All we are permitted to say is that Weldwood had a good year and results were trending closely with those we made public in our equity prospectus and the debt prospectus after the equity prospectus in August. So Weldwood had a good year and was trending close to those results, which we showed to the investors in August.

You may recall that we announced the purchase price as Can$1,260,000,000, and it was subject to a net worth adjustment at the closing. That price was reduced in December on account of a number of issues by Can$30m to Can$1,230,000,000. We actually ended paying Can$1,405,000,000 to International Paper on December 31st, because of available excess cash on hand. Then when we take into account restructuring and expenses and fees relating to the acquisition, the total cost of the acquisition is Can$1,430,000,000. However, that included a cash of Can$306m, therefore, the net purchase price was Can$1,124,000,000. And this price is still subject to adjustments and, at this point, we don't believe those adjustments to be material.

The next item I would like to cover, and it's kind of a complex and tricky issue, or tricky to explain, is the allocation of our purchase price, and as you all know, the acquired fixed assets need to be properly valued from the engineering perspective to establish a fair value of these assets. We have done that, although there still could be some changes, and we have several months to effect any changes to those estimates.

Those valuations resulted in about 600 -- Can$90m being allocated to the fixed assets and about Can$430m to timber. And we value the AAC between Can$90m to Can$100m per cubic meter, and we intend to amortize the timber over 40 years. The balance of the purchase price, or a part of the purchase price, needed to be allocated to goodwill, and that amount is Can$276m and, as you know, that is not subject to amortization.

Finally, there is also requirement to value finished product inventories to a fair market value, which we did, and this will have the effect of reducing the Q1 2005 earnings by some Can$12m, because we already taken the profits on those inventories into the purchase price allocation. Our new amortization, going forward, on an annualized basis is roughly Can$230m a year.

Working to the balance sheet, as you can see, we closed the year with a strong balance sheet. Our net debt to capitalization ratio was about 25%. We had Can$350m cash consisting of the Can$306m, which came from Weldwood and the balance, Can$43m, was left over from, if you like, [indiscernible-highly accented language] proper after having made the Can$1.4b payment.

Immediately after the closing, we repaid Can$60m of the debt and by the end of February we'll be paying over Can$150m in taxes relating to 2004 earnings. And as you know, this time of the year, in our business, we need to build our log inventories, and with our size of the company now, that will tie up a cash of something like Can$150m for several months.

The point I'm making is that we want to continue to operate West Fraser in the same prudent manner as we have done in the past in spite of the fact that we just made a major acquisition.

I think this completes my comments now, and Hank and I and others here will be happy to answer any questions you may have.

I might just add one thing -- you're probably wondering how our lumber division could have earned significantly less in the fourth quarter versus the third, and yet have a higher EBITDA margin and, in fact, I was wondering the same thing. The fact is, we had a 17% EBITDA margin in the fourth quarter versus a 27% EBITDA margin in the third quarter, which certainly tells me that from now on I should have more competent people writing these numbers down than me. So I just wanted to clarify that for you.

Now, with that, we'll take questions.

[OPERATOR INSTRUCTIONS] Our first question is from John Duncanson from Jennings Capital. Please go ahead.

Yes, good afternoon. You've been quite busy. I had a couple of questions just on the lumber side, Hank, and I don't know if any of your lumber guys are there, but I just noticed -- could you just talk about your lumber inventories? Are they back down to more or less where you want them -- normal levels? Could you address any ongoing problems with rail car? And then the final question is also related -- I see your distribution costs are down considerably from the third quarter, yet your shipments on almost all of your products are basically in line with what you shipped in the third quarter. So is that because you're using less water-bound lumber shipments, or can you give some sort of clarity why the distribution costs have dropped?

I might answer the first two, and then look for some help on the third. Our inventories are in good shape on the lumber side. We've had good shipping months over the last little while. That's even with record production, which we're quite encouraged about. We are, however, starting to experience car supply problems, and it's affecting us both -- has the potential to affect us both on the lumber side and on the pulp side, both flatcars and boxcars. So we're concerned about that but, in answer to your first question, inventories are in good shape in our lumber division right now.

As it relates to distribution costs, does anybody here have --

Likely, a big part of it will be the fact that the dollar is stronger.

Did you get that, John?

It's a dollar effect?

To a large extent, I would think.

Are you looking at the Q4 '04 over the previous year Q4?

No, I'm look at the previous quarter, Martti, but I think you showed Can$98m in distribution costs in Q3 '04 and then Can$88m. So I'm just wondering was it because you were using a lot more water-bound shipments in the third quarter, which, obviously, were more expensive for lumber?

No, we weren't using anymore water-borne. I think we'll have to get back to you on that.

The following question is from Mark Bishop from RBC Capital Markets. Please go ahead.

Thanks, good afternoon. Hank, I'm not sure if you're prepared at this point to address the synergies in a little bit more detail, but I guess if you could give us an idea of how you see them breaking down over the next two years in terms of your run-rate accomplishment and then any further insights you might have on how the breakout, by category, for that Can$80m.

Well, I don't really have anymore light to bear on it than the breakdown that we gave when we were talking about the deal earlier on, and I'm going to have to ask for help on what that breakdown was.

In terms of the run rate, we're not ready yet to do anything more than say that we will achieve the Can$80m in three years, and it's just too early for us to tell whether we can accelerate that or what portion will be in each year. So I really can't do anything at this point in time other than to say we are currently quite confident that we will get that Can$80m.

In terms of categories --

If it hasn't changed from the original --

It has not changed from that, no.

Okay, fair enough. Just, again, turning to your lumber business, if you could comment within the quarter, the fourth quarter, how the impact on your U.S. lumber business was with respect to building your log inventories and the cost of fiber, given the impact of what sounded like pretty wet weather. And then also address your current log inventory situation in both your U.S. operations and the interior operations.

We had very wet weather down South, so we ran sporadically in both of our Southern mills during the quarter, which is a big disappointment to us, and I think it's part of the learning curve as to how we manage log inventories down there. It's a different operating environment, and we're learning stuff all the time.

So it had a significant effect on us in the fourth quarter.

Is that quantifiable at all, Hank?

I don't have it at my fingertips, and it wouldn't be material, in any event. And part of the reason it wouldn't be material is we're still in the startup mode at the Huttig Mill, and we're disappointed in the startup, too, by the way. It's not going nearly as well as we had hoped. It's a good mill, it's going to get to where it needs to go this year, but it's been a much slower process than we had planned. So the U.S. was not a -- we were somewhat disappointed in its performance in the fourth quarter.

In the interior, again, we'd have the same issue. We had real cold weather, and now we've had quite warm weather, so we currently don't foresee a log inventory problem in our Canadian operations, but we're going to have to really work to make sure that we get our inventories in.

Okay. Just turning to the plywood business for a second -- well, I guess both panels, but plywood, you mentioned you had a record production year, but the quarter actually looked like it was down from the potential. Were there any unusual issues with plywood that kept volumes a little lower than you look like you're going to achieve there?

No, not really. I can't put my finger on anything.

Okay, and then MDF, that looks like it was the highest production quarter that you've seen. Could you just give us an update on what you call your MDF capacity now, or has that changed at all?

The capacity hasn't really changed. It was record production, and we are running -- I would say we're running at essentially full capacity.

Okay, do you mind just repeating the number you're using for capacity there?

I think it was 290.

290?

Yes.

Okay, great, and I'll just get one more question, and that I'll let others ask a question but with respect to the take-back -- I guess you allocated a valuation for the timber from the Weldwood acquisition. Obviously, not all of that is MBC, but could you, a, give us an update on where you're at with your discussions with the province, and then I guess all we can do at this point is assume that the 90 to 100 is probably your proxy, at least, of what the valuation would be on the take-back lands.

We haven't started discussions in any meaningful way, and we think there's a lot of value in BC timber.

So no visibility on when you might see a settlement there?

No. I don't mean to be flippant. I think there is a period, but we have not commenced negotiations. There have been a few or a couple who have, but we haven't commenced them and, to be honest, having never been through the process, we don't know how long it will take to go through to conclusion once we do start.

No, that's fair. I know there's a queue, and others have given a date, but fair enough. Okay, thank you.

The following question is from Stephen Atkinson from BMO Nesbitt Burns. Please go ahead.

Good afternoon. In terms of the capital expenditures, can you give us your plan for this year and give us some guidance as to what would be high return versus a maintenance?

We have a significant capital plan for the year that the board has just approved -- you know, significant, it's a good, solid plan. We've got a lot of high payback projects that we're going to proceed with, and that's basically -- most of it's -- in the majority is high payback, a couple, and then things like replacement mobile equipment and that sort of thing. So I'm not quite sure if that answers your question, Stephen.

Would you be able to give us a number? Meaning for capex? Just for forecasting purposes?

I think we can say that we have never given more than kind of guiding numbers, but our new amortization rate is Can$230m, so that's the order of magnitude.

Okay, that's close enough for me. So can you talk about the stumpage in the fourth quarter versus the first quarter.

I wish I could, but --

Stoppage should go up in the first quarter. This year, 2005, it went up by something -- Can$3 t oCan$5, depending on the location.

Am I on line? It's Gary Townsend here. It looks like stumpage has gone up somewhere in the Can$3 to Can$5 range January 1st over the course of all of our plants.

The following question is from Paul Quinn from Salman Partners. Please go ahead.

Just a couple of easy questions -- just give us an update on the West Fraser/NAFTA challenge on antidumping. Where is that sitting?

So you say an easy question because listening to our answers, you feel like we've been struggling with them? I guess you're probably right. We'll try to do better. The West Fraser challenge is we expected a decision before Christmas on that. We certainly expect a positive decision. That challenge is as to whether West Fraser, having been taken out of the dumping case, the challenge is whether we get our money back, our deposits back, which is about Can$27m. And there should be a ruling, there is supposed to be a final ruling that should come out imminently, and we fully expect justice.

Okay, and just back over on stumpage, what percent of your annual logs have you taken in Q1? Is it north of 50%?

Gary Townsend, who is --

What was the question, I didn't hear it?

What percentage of your logs do you bring in, in the first quarter of the year?

Probably about a third.

[OPERATOR INSTRUCTIONS] The following question is from Sean Steuart from TD Newcrest. Please go ahead.

Thanks a lot. A couple of questions -- quarter-over-quarter your lumber costs, when I back out the duty expense, looked to have gone down a little bit more than we would have expected. I know part of that's probably distribution costs that were touched on before, but can you give us any bit of detail on why lumber costs were down so much quarter-over-quarter?

Gary? All the hard questions go to Gary Townsend. Gary, this is yours.

Am I online again? I'm working the mute button. Just a second here, and I'll gather up some information.

Okay, Gary, we're ready for you.

Well, Russell just brought me in some papers, and I can't read what he's telling me.

Well, why don't I ask my next question and if there's any detail afterwards. Martti, on the cash flow statement there was a gain on asset sales of Can$6.2m. Can you go into any detail on what that was?

The biggest part of that is the Rarie [ph] property sale profits. We have still a couple of properties, one particular in Toronto, which is about to go, and we'll have some more gains, and then after that we're into small stuff.

That will be the same order of magnitude through the first half of the year, then, for gains?

Yes, yes, that will be first half. And then after that we don't know what we do. There's no kind of imminent plan to sell some of the smaller properties. In monetary terms, they are small, anyway.

Thank you, the following question is from Daryl Swetlishoff from Raymond James. Please go ahead.

Hank, most of my questions have been answered, but maybe you could provide some musings on what you see unfolding over the next couple of months with respect to the Softwood Lumber dispute.

Well, the next couple of months -- first of all, we expect to get a decision on the return of the West Fraser antidumping duties. It's not a given, but the timeframe would indicate we will get that. We expect to get a positive ruling; that is, to return the duties that have been paid on the basis of being judged as a dumper. But since we were judged as a non-dumper and still deposited the duties, we fully expect to get that money back.

Now, one of the significant aspects of that is that it should set the precedent for what happens to duties deposited on the CBD and the ADD for other respondents. So that's a very key issue and, in the name of fairness, I just can't see how it can go any other way. We're also dealing with the extraordinary challenge on the injury case, and we're expecting a determination on that probably in the second to third quarter. It really should be early in the second quarter, but the way these things drag, possibly not. That's a very key decision, as well, as you know. A decision in our favor on injury brings this case to an end. But, having said that, politics, on the other side of the border, is playing a big part in the Softwood Lumber dispute, and so we do have to keep in mind what is legally right is not necessarily what's going to end up happening potentially, and so we, and I think a lot of the Canadian industry, continue to have an open mind on whether we look for a solution that would bring the litigation to an end. But it takes two to tango, and fairness is involved, and trust and respect for international agreements, all that sort of thing, and those things all have to kind of come together before we can have a legitimate and useful discussion, in my opinion. That might not be shared by others, but that's my opinion, and that's what I see we have to accomplish over the next two or three months.

Fair enough. Lumber costs were also quite a bit lower than we expected, so maybe I could echo Sean's question and perhaps Gary has an answer.

The only answer I can give you is that our production did very well in the fourth quarter on a per-shift basis and that we did have a significant [indiscernible] accrual reversal. That probably could have something to do with it.

So going forward can we take the costs in the fourth quarter to be representative or would there be some one-time items in there?

I think, going forward, the annual costs last year, they'll be a little bit less than that. They'll be lower than last year's annual costs.

Thank you. The following question is from Frederic Beausoleil from National Bank Financial. Please go ahead.

Good afternoon, just a question on the share option expense -- 7 cents after tax, Can$4.7m pretax, if I understand correctly. What was the amount, or how do you tax affect this amount? Is it the 30-some percent?

Yes, it is. It's 35% of the share option expense shown on the face of the income statement.

Thank you. The following question is from Gordon Hoekstra from "Prince George Citizen." Please go ahead.

Good afternoon, gentlemen. I think previously West Fraser had planned Can$100m rebuild of its Cornell sawmill. Is that still on the books and, if it is, is there any timing on that yet?

It's still under consideration.

Okay, and there was no timing?

No specific timing, no.

Thank you. [OPERATOR INSTRUCTIONS] The following question is from Mark Bishop from RBC Capital Markets. Please go ahead.

Thanks, the Cornell Sawmill was answered, but I understand that the government is having trouble drumming up interest in the additional AAC that it's put it out for grabs -- the 5 million cubic meters -- and I'm just wondering if you expect to see any change in localized timber pricing if, in fact, that doesn't get harvested, or how do you read that current situation?

That's a real difficult question, Mark, because they're putting up some extra volume, and we don't know what interest there is in it. So we really don't know if there is a difficulty in drumming up business.

Did West Fraser put in an application for that extra volume or a portion of it?

It's due March the 3rd and 10th, so nobody knows who is putting in anything.

Okay, curious the government came out with the comments when they did. Okay, just one last question, then -- Hank, at the beginning you had identified that you've now got a new senior team in place with some participants from both companies. I'm just wondering if you've made any announcements regarding your key executive positions across the company as a result of the transaction or other events?

I guess we probably made internal announcements. I'm not sure if we've done anything external.

Haven't done external, no.

No, we have not done anything external. We've added, just for your purposes, we've named three executive vice presidents, those being Martti Solin, our CFO; Jerry Miller, our VP of Pulp and Paper; and Gary Townsend, who runs our Solid Wood Division. We've added a vice president of administration, Sam Ketcham, and we have brought from Weldwood, very fortunately, Rick Franko, who is vice president of Export Sales and Market Development for us. In addition to that, we've got some tremendous senior management people from Weldwood, who have integrated into our senior management level. So there's a number of people from the Weldwood group in our new group.

Thank you. There are no further questions registered at this time. I would now like to turn the meeting back over to Mr. Ketcham.

Well, I appreciate you joining us. I apologize for that gaffe on EBITDA margins. Obviously, I shouldn't be the one handling these questions, and thank you for joining us, and we hope to talk to you soon.

The conference has now ended. Please disconnect your lines at this time. We thank you for your participation and have a nice day.