West Fraser Timber Co Ltd (WFG) 2011 Q2 法說會逐字稿

Good morning, ladies and gentlemen. Welcome to the West Fraser Timber Co. Limited second-quarter 2011 results conference call. During this conference call West Fraser's representatives will be making certain statements about potential future developments. These forward-looking statements are intended to provide reasonable guidance to investors, but the accuracy of these statements depend on a number of assumptions and are subject to various risks and uncertainties. Actual outcomes will depend on a number of factors that could affect the ability of the Company to execute its business plans, including those matters described under Risks and Uncertainties in the Company's annual MD&A, which can be accessed on West Fraser's website or through SEDAR, and as supplemented by the Company's quarterly MD&As.

Accordingly, listeners should exercise caution in relying upon forward-looking statements.

I would now like to turn the meeting over to Mr. Hank Ketcham, Chairman, President and Chief Executive Officer. Please go ahead.

Good morning and welcome to West Fraser's second-quarter conference call. Today I am joined by all our Vice Presidents, including Gerry Miller, our Executive Vice President in Finance and CFO, who will be retiring at the end of this month after 25 years with the Company.

Yesterday, we reported net earnings for the quarter of CAD10 million and EBITDA of CAD62 million. Gerry will discuss our financial performance more fully in a few minutes.

Our major operating divisions performed well during the quarter with the exception of our US Sawmill division, which continues to be hampered in many instances by a lack of investments in the efficiency-enhancing technology over the years. We have embarked on a capital program to modernize many of these mills to substantially improve their relative cost positions.

Our Canadian Sawmill division continued to run at full capacity and performed well during the quarter. The benchmark lumber price expressed in Canadian dollars declined by 20% during the quarter, primarily as a result of increased North American production and a strengthening Canadian dollar.

Log costs increased by 17% during the quarter due to spring breakup, when our overhead costs are not offset by log deliveries.

Manufacturing costs in our Canadian Sawmill division were flat quarter over quarter while lumber recoveries improved somewhat. Lumber shipments were slightly above production for the quarter.

Direct and indirect shipments to Japan and China accounted for over 30% of our overall shipments, representing our strongest period of number exports ever.

While Japanese shipments remained stable quarter over quarter, our shipments to China increased substantially. Unseasonably wet weather in many of our Canadian operating areas is significantly impacting log supply of several of our sawmills. While we don't anticipate any unscheduled downtime due to lack of logs, our inventories are quite low at certain mills.

While our Canadian mills operated at full capacity during the quarter, our US mills operated at 78% of capacity, up from 75% in the first quarter. The discrepancy in operating rates between our Canadian and US mills represents the difference in technology and efficiency between the two divisions. As I've said, we are focused on significantly improving the performance of our US assets as quickly as possible.

During the quarter, benchmark Southern yellow pine prices declined by 14%. Shipments were up fairly significantly while manufacturing cost declined slightly and log cost remained stable.

Our panel division, which includes plywood, medium density fiber board and laminated veneer lumber, continues to be challenged due to historically low housing starts in the US and the strong Canadian dollar, which has resulted in a significant increase in US plywood imports into our home market. This has driven plywood prices down by 20% versus the same period last year while log prices have increased by about 12% over that same period of time.

MDF and LDL prices have remained steady, and our three plants are operating on a reduced basis to match production with demand. Our Pulp division also performed well during the quarter. Production and shipments were slightly better than the previous quarter even though we took our planned 13-day maintenance downtime at are joint venture Cariboo pulp mill.

In addition, we lost eight days of production at our mechanical pulp mill in Slave Lake, Alberta, as a result of the forest fire in May. Kraft pulp prices were up 4% quarter over quarter on a Canadian dollar basis.

Since the end of the second quarter, kraft pulp prices have declined due to reduced purchasing from China. BCTMP prices were down slightly during the quarter.

Our BCTMP business continues to be quite profitable. The price gap between BCTMP and kraft pulp has widened significantly since the second quarter of 2010, which has had a material impact on our pulp earnings.

Our joint venture newsprint mill brand well during the quarter. Newsprint pricing declined 2% in Canadian dollars. In our Pulp and Paper division fiber costs were up by 7%, and our net electricity costs were substantially higher, due to lower revenue from our Alberta Power Purchase Agreement.

We expect to fully commit the $88 million of Green Transformation funding to several high payback capital projects that are pulp mills, which will reduce our overall energy costs. Spending on these projects will be completed over the next nine months and will further enhance the competitive position of this division.

Our capital spending program is progressing well, and we expect we will spend about $180 million by the end of the year excluding spending related to the Green Transformation Program. We have spent CAD48 million to date net of Green Transformation Fund reimbursements from the federal government.

Subsequent to the end of the second quarter we closed the sale of our Skeena Sawmill assets and expect to complete the sale of our remaining Eurocan assets in the next several months.

With respect to the pending softwood lumber arbitration filed by the US against the BC Interior lumber industry, we're working closely with our provincial and federal governments to aggressively defend our interests. The arbitration is scheduled to take place in the latter part of February of 2012.

While we believe we have a very strong defense, it's not possible to predict the outcome of our potential liability at this time.

The mountain pine beetle epidemic continues to affect our bottom line due to reduced grade recovery, lumber recovery and efficiency. In Alberta, the beetle outbreak continues to grow, albeit at a significantly slower rate than we experienced in British Columbia, due to colder winters and a more aggressive response by the Alberta government and industry.

In June, a devastating forest fire destroyed parts of the town of Slave Lake, Alberta, where we operate both a veneer mill and a pulp mill. While our mills were not damaged, many of our employees lost their homes and possessions.

Thanks to the dedication and hard work of all of our employees, all of whom were dealing with their own very significant personal issues, we only lost seven days of production at our veneer mill and eight days at our pulp mill.

Looking forward, we don't see a recovery in the US housing market in the near term. As a result, we will probably continue to see some volatility in lumber prices until we see a more sustained recovery.

We believe Chinese consumption will continue to grow as their economy develops. We are excited about this growing market, and West Fraser will continue to devote all necessary resources to expand our business in China and throughout Asia.

With respect to pulp pricing we expect BCTMP prices to stabilize at current levels for the next few months, while kraft pulp prices could weaken a bit more through the end of the year. We expect our cash flow will continue to support our strong capital spending program through 2012 while maintaining a very strong balance sheet.

I will now turn it over to Gerry Miller.

Good morning, everyone. For the second quarter, we reported earnings after discontinued operations of CAD10 million and basic earnings per share of CAD0.24. The diluted earnings per share calculation has changed significantly under IFRS from previous Canadian generally accepted accounting, and for this quarter resulted in the diluted loss of CAD0.09 per share.

IFRS requires that the recovery on the revaluation of our cash settled share option plan be deducted from earnings in calculating the numerator in the calculation.

I refers you to Note 14 of our interim financial statements for details related to the earnings-per-share calculation. Note that in periods where there is an expense on the revaluation of outstanding share options, diluted earnings per share are not increased , as diluted earnings per share cannot be in excess of basic earnings per share.

Earnings per share adjusted to remove long-term equity-based compensation, the foreign exchange gain on long-term debt and the Eurocan discontinued operation was a loss of CAD0.09 per share in the quarter.

EBITDA for the quarter was CAD62 million compared to CAD80 million in the first quarter. Adjusting EBITDA to remove the long-term equity-based compensation amounts results in an adjusted EBITDA of CAD48 million in the second quarter compared to adjusted EBITDA of CAD106 million in the first quarter.

The majority of the EBITDA difference was due to sharp lumber price declines in the quarter and higher Canadian log costs. Log costs are normally higher in the second quarter than in the first quarter as the Company expenses its fixed forestry costs in the second quarter, as log deliveries in Canada in the second quarter are reduced significantly due to spring breakup conditions.

The Company's effective tax rate for the quarter was 35.6% compared to a statutory rate of 26.5%. The full reconciliation of the tax rate is in Note 12 to the interim financial statements, but the two main items are that the equity-based compensation recovery is primarily nontaxable and change in the tax valuation allowance in the quarter of CAD5 million was recorded.

IFRS requires the Company to revalue its defined pension benefit plans at each period end with actuarial changes flowing through comprehensive earnings. For the quarter, the net impact of the revaluation was a charge net of income taxes of CAD39 million. For the year to date, the charge was CAD8 million net of taxes. The actuarial gain or loss will fluctuate with changes in long-term interest rates and the return on plan assets.

Cash generated from operating activities during the quarter before working capital changes was CAD54 million, and after including working capital changes, cash generated was CAD115 million compared to the previous quarter, where cash generated before working capital was CAD33 million and cash used after working capital changes was CAD57 million.

The most significant change quarter over quarter was the cash provided by the reduction in log inventories during the spring breakup period and the payment of income taxes in the first quarter of the year.

In the quarter, we invested approximately CAD35 million, net of Green Transformation funding received in capital improvements. The majority of this investment relates to the capital investment program that we announced in the fourth quarter of last year.

Liquidity at June 30 remains very strong with cash on hand of CAD134 million and the net debt to capital ratio of 9%.

Hank, that concludes my comments. I will turn it back to you.

We will open it up for questions, operator.

(Operator Instructions). Daryl Swetlishoff with Raymond James.

First question is just related to if we could get some more color on log costs, the delta, how much of that would be due to diesel and other things that we could expect to be ongoing? And how much would be variable with respect to, say, lumber pricing and stumpage?

I think the largest part is related to the kind of our period costs in the second quarter, where we don't have an inventory to roll that through. So it gets charged directly to earnings. And of course, we're also cutting logs that are in inventory, and those have -- those kind of costs in their costs from previous quarters.

So the second quarter, there is always an increase in our log costs as a result of that.

Maybe asking it just slightly different, can we get some guidance on what you expect the delta might be in subsequent quarters or third quarter, fourth quarter?

Well, we think log prices in Canada are going to go up relating to fuel costs, distance, [hull] distance and general pressure on the contractor community. So we do expect to see log costs rising throughout the rest of the year.

Switching gears just a little bit, Hank, could you comment on just logistics with respect to getting your product to market? I know you mentioned some of the issues with respect to shipments in the quarter, but I would also be interested in some of the measures you have taken to try to improve the flow of lumber to offshore markets like Asia and China, for instance.

Well, there's a ton of product going over there from a lot of producers. So there is some pressure. But we are doing some break bulk shipments to China to take the pressure off the container business.

But currently, we are able to ship what we need to ship over there.

Given the growth rates that we have seen and just basing your comments where you think that market could keep growing, any concerns down the road in terms of the ability to service that market just, again, from not a production point of view but a logistical or you think you will be in good shape?

Well, no. I think there's always going to be pressure, so we're just going to have to continue to look for alternatives and make sure that ports in Prince Rupert and in Vancouver are doing the stuff that they need to do to give us the capacity, work with the railroads, work with the trucking companies. Obviously, as shipments grow we are going to have to continue to find ways to make sure that they move smoothly.

But as I said, at the current time shipments are moving the way they need to.

Last question -- given the weakness in the US market, obviously China is a bigger factor now. If you had to guess, what do you think the impact of China is on the western SPF posted price today? Is it CAD30, CAD50, CAD60, CAD1,000? What's your guess?

I don't think we would want to guess at that. Certainly taking the pressure off the North American market. But I would not hazard a guess on that.

Paul Quinn with BMO Capital Markets .

Just a couple of questions and maybe a clarification just to start -- I understand that log costs were up for Q2, and I understand the reason behind that. But it sounded like Hank was saying that he expects rising log costs for the balance of the year. How do you reconcile those two?

Sorry? Just ask that again.

So we had higher log costs, and it looks like they are up 12%, primarily on fuel in Q2 in these forestry expenses. Are we seeing a delta between a log cost between Q2 and Q3? And then with the expectation that log cost move up from Q3 to Q4 -- is that the way I should read that?

Well, I think it's two pieces. The period costs of when we are really not bringing in any logs -- there's no fuel in there. Those are kind of variable costs with bringing logs in. So it's kind of a fixed cost thing that we are allocating or taking to the P&L.

As we get into Q3 and Q4, when we start logging again, then we're going to see the pressures of higher fuel costs and all of those things. So it's kind of two different cost items, and I don't know in Q3 whether we are going to see higher log costs, necessarily, than Q2. But certainly there's going to be pressure from rising fuel and other costs as we get into a new logging season.

And then a question on the BCTMP -- in the MD&A you mentioned impending new supply in China. I was just wondering what that was.

And then if I could get a read on your long term or actually even your medium-term outlook for BCTMP? On both supply and demand?

Ted Seraphim --.

In terms of new supply, new supply has been coming on in China in BCTMP. I think it's ramping up. The [APP] has brought on a fair amount of capacity, and that's ramping up. And a few others are bringing capacity on.

And in terms of your second question, in terms of -- what was your second question, again, with pricing?

Just if you could give me a feel for your medium and long-term supply/demand outlook for BCTMP, is that going to be balanced, is it going to be short, is it going to be long?

I think that's a difficult one to answer. I think, at the end of the day, it's not a large market, it's about a 4 million ton market. So if demand does not meet capacity, we will see capacity come out. It doesn't take a lot of capacity to come out.

Our whole view is being focused on being the low-cost producer. And with that expectation, we believe that it will be a good business for us to be in. If the demand is not there, the high-cost folks have demonstrated that they will go away.

Okay, I get your point. Just switching back to lumber finally here, Hank, you mentioned the Softwood Lumber dispute. I understand early August it looks like the US will file their petition. What are we expecting in terms of a dollar figure?

Don't have the faintest idea, you know. I really can't predict that at this point in time. But you are right; it will be a lot clearer mid-August. And we've got -- we've really got all of the forces we have here in Canada working on this, and we think we have a strong, strong defense. And we're going to defend it right to the end.

Lastly, I just wanted to say thanks to Gerry Miller. I wish him well in his retirement. Worked well with me, even though he didn't really give me any specific help on West Fraser data. Thanks very much, Gerry.

Thank you, Paul.

Sean Steuart with TD Securities.

A couple of clarification questions, I guess, for Ted. Just revisiting BCTMP, I appreciate your color on the market there. Just wondering if you can reconcile Hank's comments in the early part of the call saying he expects prices to sort of settle out where they are now versus what we're seeing in softwood, which I will argue is a seasonal correction and inventory de-stocking. Maybe just talk a bit about what you're seeing in your order books for BCTMP to differentiate the expectations and price momentum for that grade versus softwood.

I think, first of all, as Hank noted, there's -- BCTMP prices fell quite dramatically, actually, second half of 2010. I think we're at the point now where the price differential is quite large even though NBSK prices are falling. And because of that we've seen, frankly, because of the large freight differential, we've seen very strong order books in our BCTMP business throughout this year. And we see that at least through the third quarter.

Got it. And then, just a point of clarification. I won't go through the log cost rationale for the increase again, but I heard a couple of different numbers. Were log costs up 17% quarter over quarter? Is that the right number?

I believe so.

(Operator Instructions). Pierre Lacroix with Desjardins Capital Markets.

A question coming back on the log costs -- sorry about that. But in the US South have you noted any kind of impact coming from the fuel [to show] pressure?

In the US South, log costs are pretty flat.

So basically the fiber is itself is offsetting the pressure coming from the fuel, I guess?

Try that once again?

But the fuel is the same, I guess, in the US South. So I guess it's offset by some of their -- some of their items for the overall log costs is pretty much flat, I guess.

Yes, yes, that's right. Stumpage kind of offsets the increase in fuel costs.

Perfect. Just want to have your view on the panel profitability. Now we are on the negative territory. I think it's the first time for many years that we see that.

How do you see the outlook for the profitability going in the next couple of quarters and into 2012, especially that the currency still pressure your results there? So can you give us some kind of outlook there?

I hesitate to do that. Currency is unpredictable; it's strengthening. So we don't really know where that's going to go. But obviously, a rising currency on a short term affects profitability. We have not been -- I don't think anybody has been a very good predictor on lumber consumption, so I don't think we're going to try to do that, either. I think we just have to take it quarter by quarter.

And again, I think we have to leave this with you that we are really focused on being low-cost producer. We have great plants, modern, efficient. We got a large capital spending program that is going to drive costs even lower. We're well in the middle of that right now.

And in the US South we are really focused on turning some of those higher cost mills into low-cost mills. In the South, it is going to take a little bit longer because we've got a lot of capital we've got to spend. But in Canada, both in our Pulp and Lumber divisions and Panel divisions we've got great assets. And I guess all I can say is we're just going to keep doing what we do.

Stephen Atkinson with BMO.

To begin with, in looking what's going on with the log costs, where you historically I would say the profitability of the US South, assets would be similar to Canada suddenly, if you have a 17% increase in log costs and you've got a currency running up, I assume it would make more sense to increase production in the South and, when appropriate, pull back in Canada. Is that a good way to look at things?

I'll tell you, we look at this weekly as to where we can -- what our operating rates should be in every single one of our mills and what our cost structure is. And that's just a weekly process for us.

Okay, but I guess I would be safe in saying that the US South is going to be your low-cost area, considering what has happened with currency and Canadian log costs?

Well, I've got to take into account -- you've got to take into account lumber selling prices down there as well. They have been tough.

Okay, and how much -- are you able to tell us how much you are shipping to China and Japan right now?

In terms of actual volume?

Yes; or just percentage or whatever you're comfortable with.

Well, I think we are roughly -- it's hard for us to accurately predict because some of it is indirect, some of it is direct. But our direct shipments are around 25%, and then we've got indirect shipments on top of that, which I mentioned earlier in the call. We estimate somewhere around -- I mean, this is just an estimation on our part, but somewhere around 30 to 35%.

Overall?

Overall.

Okay, out of BC and Alberta?

Yes, out of the Canadian operation.

Right. Were there any inventory write-downs on the lumber or the panels or anything?

None that were significant.

How about the impact of Slave Lake? Are you able to quantify it? Is that significant, or were any costs covered by insurance?

No, it's not really significant, probably nothing covered by insurance. Seven days of downtime at veneer, eight at pulp. And then we had to shut down our -- we took a little bit of time out of our plywood plant in Edmonton. But it's not like we're making a lot of money in those businesses right now, so it's not a really material impact.

I also would like to thank Gerry. I'm one of your fans. I really appreciate everything you -- all the help you gave us in your time. Thanks, Gerry.

That concludes today's Q&A session. I would now like to turn the meeting back over to read some Ketcham.

Okay, thank you. I guess, just to clarify log costs, they were up 17% in the quarter. That's not the base on which they are going to be arising going forward. That, I hope you understand, was a fixed cost. They are not covered by volume. So we expect a much more moderate increase in log costs from a base in the first quarter. I think I just wanted to clarify that.

And I guess, finally, if there are no more questions I think all of us -- we're -- as Vice Presidents, we are here to wish Gerry Miller a great send off. He has been with us for 25 years, has been an outstanding part of our team. And fortunately, he has left a bunch of outstanding people to fill in for him.

So again, we want to thank you for joining our call and we will talk to you next quarter. Thank you.

Thank you. The conference has ended. Please disconnect your lines at this time, and we thank you for your participation.