West Fraser Timber Co Ltd (WFG) 2014 Q1 法說會逐字稿

Good morning, ladies and gentlemen. Welcome to the West Fraser Timber Ltd. first-quarter 2014 results call.

During the 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 depends on a number of assumptions and is 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 is supplemented by the Company's quarterly MD&A. Accordingly, listeners should exercise caution in relying upon forward-looking statements.

I would now like to turn the meeting over to Mr. Ted Seraphim, President and CEO. Please go ahead, Mr. Seraphim.

Thank you, Operator. With me today is Larry Hughes, our CFO, and other members of our executive team. This is going to be a fairly lengthy description this morning. I'm going to start off with discussing our three acquisitions, and then I will go over our first-quarter results. And then Larry will get on the phone and go through the results in further detail. And then we will open up, as usual, for questions.

So we have provided the details of the acquisition starting at page 6 of our MD&A. And we have posted on our website, www.westfraser.com, in the investors section, a presentation that I will be referring to. So hopefully you all got it handy. To provide some context to our most recent acquisitions, I would like to briefly summarize the historical growth of our lumber business.

Our Company was founded in 1955, but I'd like to start 35 years later, at 1990, which is the slide that follows our forward-looking statement warning slide. In 1990 our lumber business was exclusively based in British Columbia, and our lumber production capacity was about 1 billion board feet. You will see some familiar locations on this slide, like Quesnel, Williams Lake, Fraser Lake, Chetwynd, and Smithers.

The next slide moves us forward by a decade to the year 2000. It shows that we had doubled our lumber production capacity at 2 billion board feet, mainly through expansion into Alberta and the US South.

Going to the next slide, by 2005 we had reached a lumber production capacity of 4.7 billion board feet with the purchase of Chasm and our largest acquisition, Weldwood. Slide 6 shows our next major growth step into the US South, with the purchase of 13 sawmills located from Texas to North Carolina in 2007, when we achieved a production capacity of 6 billion board feet.

That brings us to our most recent acquisitions. Slide 7 shows the locations of our 2012 Edson, Alberta, sawmill purchase, as well as our 2014 High Prairie, Alberta, acquisition. And slide 8 shows the location of our two most recent Arkansas purchases, with Travis in Mansfield and Bibler in Russellville.

Slide 9 provides an overview of the High Prairie sawmill purchase. The mill's current production capacity is about 110 million board feet, and we are planning on investing approximately CAD15 million to bring capacity up to 175 million board feet.

In addition to the sawmill and related timber harvesting rights, we also acquired a gravel and a transportation business. The purchase price was CAD55 million plus working capital, and we have completed the purchase on April 3, 2014.

We are very pleased to welcome the 180 employees to the West Fraser team. A key feature of the High Prairie business is the potential value creation through integrating operations with those of some of our other Alberta mills -- not only best practices and benchmarking, but also optimizing log flows to ensure that each log goes to the right mill. The fact that we have access to sufficient fiber to expand production capacity is also a significant benefit.

Slide 10 provides additional detail concerning the Travis Lumber acquisition in Mansfield, Arkansas. The purchase price for an estimated annual capacity of 110 million board feet was $46 million or CAD51 million plus working capital, and closing occurred on March 7, 2014.

We are planning to expand production to approximately 150 million board feet by an initial capital investment of approximately $10 million or CAD11 million. We also are pleased to welcome the 140 employees at the Mansfield mill to the West Fraser team.

Finally, the Bibler Brothers mill in Russellville, Arkansas: closing expected later today, and the purchase price will be $61 million or CAD67 million, plus working capital, which will be paid in cash. The mill has an estimated annual production capacity of 160 million board feet, and we welcome the 190 employees to the West Fraser team.

We were extremely happy with the Mansfield acquisition because of its location, access to high-quality fiber, and the strong workforce. The combination of that facility with the Bibler/Russellville acquisition is what we believe will create some impressive additional synergies.

Our businesses rely not only on internal cooperation and sharing of best practices, but also on internal benchmarking and healthy competition. Having this greater presence in Arkansas will help us get more value out of those practices and, we believe, will help strengthen our entire US business.

I am also very happy to welcome Gilbert Travis, and later today, Terry Freeman, to the West Fraser team. Both have agreed to stay on with us to assist in the transition and integration process and will provide us with the benefit of their experience in helping us improve and grow our US business.

Finally, slide 12 represents the geographic diversification of our lumber business once we have completed the three acquisitions and the additional capital investments that we have planned. We are projecting an annual production capacity when we are complete of 6.3 billion board feet.

I will now turn to a review of our first-quarter results. West Fraser earned CAD72 million or CAD0.84 per share in the quarter. Adjusted earnings for the first quarter were CAD84 million or CAD0.97 per share as compared to CAD50 million in the fourth quarter of 2013.

EBITDA in the quarter was CAD148 million or 18% of sales and was up 53% from the fourth quarter. The primary reason for the improvement from the fourth quarter of 2013 was due to improved Canadian-dollar pricing for all our products.

Our lumber business generated CAD107 million in EBITDA, up 29% from the fourth quarter of 2013. Higher selling prices more than offset lower shipments, which were primarily due to transportation issues in the quarter. We undershipped our production by approximately 250 million feet in the quarter.

Our Canadian lumber operations ran well in the first quarter. We also benefited from the ramp-up of production at our Chetwynd sawmill after the completion of a major rebuild in 2013.

The Edson sawmill was down for the first quarter for its rebuild. We expect the sawmill to start up in the second quarter.

Our US sawmills were adversely affected by poor weather as well as by several major capital projects at some of the operations. We have been very pleased by the performance of a number of our US mills that have completed their major capital spending. As we continue to modernize our US sawmills, our US capital program continues to be quite extensive. We are building 10 continuous kilns, three major planer projects, as well as a number of major capital sawmill upgrades this year.

Our panels business generated CAD11 million in EBITDA, up 83% in the fourth quarter. Improved selling prices for all our panel products contributed to the increase.

Our pulp and paper business generated CAD32 million in EBITDA, up 33% from the fourth quarter. With the exception of our Hinton pulp mill, the pulp and paper division ran very well in the quarter. The Hinton mill ran better than the previous quarter. We are making progress on improving the mill's reliability, although we expect that this will continue to be a major operational focus for our management group this year.

The housing recovery in the US continues to show positive momentum, despite the impact on housing starts due to poor weather in the quarter. Demand from China continues to remain strong. Nevertheless, we continue to forecast volatility in 2014 lumber markets, as we are still early in the US housing market recovery.

That being said, our outlook for the building products business continues to be optimistic for the medium-term. Pulp markets are expected to be under continued pressure as unit capacity ramps up this year.

With this, I will turn the call over to Larry Hughes.

Thanks, Ted, and thanks to everyone joining us today. Please refer to the advisory contained in our quarterly MD&A concerning the use of terms such as EBITDA, adjusted earnings, and adjusted basic earnings per share. The main adjustment to earnings for the first quarter relates to the weaker Canadian dollar, which resulted in a CAD13 million loss on translation of our outstanding $300 million US-denominated debt.

Our adjusted earnings were CAD84 million, and adjusted basic earnings per share was CAD0.97. The normal quarterly revaluation of our defined benefit pension plans resulted in an after-tax actuarial loss of CAD4 million, as the effect of a lower discount rate which was applied to pension liabilities was only partially offset by a return on pension assets that exceeded the discount rate. Our plans continue to be very well funded.

We used CAD39 million of cash in operating activities, as we built significant log inventories in Canada which will be consumed during the second quarter, when logging activities in Canada are limited. We also built above-the-normal finished good inventories as a result of the transportation problems that we experienced in the quarter.

We used CAD145 million in investing activities, including the purchase of the Mansfield, Arkansas mill and capital investments totaling CAD93 million. For the year, we are projecting capital expenditures, excluding acquisitions, to be in the range of CAD300 million to CAD350 million.

And in the second quarter we have completed an additional mill are purchase and expect to complete the Bibler mail acquisition shortly, within possibly the next few hours, which Ted referred to. Our balance sheet remains strong, with a net debt to capital ratio of 15% at a time when Canadian log inventories are peaking.

And, Ted, that concludes my comments.

Thank you, Larry. I think, Operator, we are ready to open it up for questions.

(Operator Instructions) Sean Stuart, TD Securities.

A few questions. If we start with the acquisitions, Ted, can you give us an idea of where the sawmills sit on the cost curve before you spend the capital at High Prairie and Mansfield -- I guess where all three sit on the cost curve now? And then the paybacks you are expecting on the CapEx you are spending at the two mills, whether returns or time frames on the payback there.

Well, Sean, it's a good question. We don't usually go into the kind of detail. But I guess what I will say about it is that our desire to grow in Alberta and the US South is really based on a couple of things: first of all, strong timber supply. So we are very excited about the timber supply in both those regions.

And secondly, I think, as you know, our whole goal in running our Company is to ensure that our mills are low-cost producers. And we're very confident that with capital, that all three mills will be low-cost producers with really strong timber bases.

So I think that is about as far as we will go. But we're just very delighted to have these three acquisitions, and they will fit in very well with our lumber operating model.

Okay. On the pulp mill side, your unit costs in that segment were up a little bit from Q4 despite better productivity this quarter. And I know you mentioned ongoing hiccups at Hinton, but I still would have expected, I guess, a little bit of unit cost relief this quarter. Can you maybe go through some of the cost buckets and where you might have seen some inflation on the pulp side Q1?

Sure. Yes. I think fundamentally there's really two areas in terms of cost. One was our fiber costs. They are tied to the price of pulp, so that is where we would see the bulk of the cost increase.

But we also saw higher energy costs across the segment this quarter, whether it be natural gas or electricity. So those are really the fundamental costs. It was not things like labor, or maintenance, or that. So it's really the external factors.

Okay. And then just one last question, and I will get back in the queue. Can you speak to, in Western Canada, where your railcar service levels are right now? And between the inventory you have built up at the sawmills and what is at the port in Vancouver, how long you expect to take all of this to unwind through the spring and summer?

That is probably the hardest of the three questions you asked. I think, from our perspective, it will take some time to bring our lumber inventories back into place. That build-up of 250 million feet is something that we have never experienced before. So we expect that it will take us through this quarter and likely into the third quarter.

In terms of the port, we are starting to see better service through the port. But we're still not back to where we were before the strike. And so, again, a lot of this is a little outside of our control, except for the fact that we have been looking at other alternatives to container shipping, both in the short term and the long term, depending on where this goes. So we do have -- we will be shipping a fair amount of our pulp out on Breakbulk over the next month or two, so that will help us there.

So I think overall we will be able to bring our pulp inventories back into line, probably by the end of the second quarter or very early in the third quarter. Lumber will just take that much longer.

And in terms of railcar supply, it is slowly working its way back, but we're not back to where we were pre- the winter. So I think a lot of it really depends on the railways' abilities to turn the cars around. But it is still very much early in the recovery, Sean. So I think we will have a much better outlook on how we're doing probably a month from now.

Okay, thanks for the context. I will get back in the queue.

Daryl Swetlishoff, Raymond James.

To follow up on Sean's question about the railcar, what is your sense -- I mean, we know there's a lot of supply at the producer level. What is your sense of how the rest of the lumber supply chain is in terms of fullness in North America?

I think from an overall standpoint, again, much of it is quite anecdotal; but I think our sense in terms of supply chain outside of the Canadian mills is that it is fairly tight. Again, as everybody knows, we had a poor winter back east, and demand was not stellar.

But I think overall it is fairly tight. And we're starting to see a slight pick-up in demand, but it is still quite early, Daryl. I think this will take a little bit of time for it to flush its way through the system. And we are anticipating that demand will start to come back from the buyer side, but we don't see it happening quickly.

Okay. Switching to the US South, in Arkansas in particular, what are you seeing today in terms of saw log pricing? Has it been flat, down, up? And what is the outlook, especially in the areas where you have expanded your capacity?

Well, as we have looked at the last couple of years -- and this year is no exception -- in Arkansas wood costs have been very, very flat. And our expectation is, given the amount of sawmills that were shut down in that region during the downturn, our expectation is that any increase, at least over the short and medium term, will be quite muted in terms of wood costs.

Okay. And this might be a question for one of your lumber experts, either Chris or Sean, but we are seeing reduced capacity, a reduced output in Canada; we are seeing more capacity in the US South with you and others. What is West Fraser's best guess on how the SPF/southern yellow pine spreads evolve? Will there be substitution? Will they become more competitive in end uses?

Well, I am glad you asked for one of our experts to comment. Chris, would you be able to comment on that for Daryl?

Yes, sure, Ted. That is a great question, Daryl, actually. We talk about that a lot. I think our expectation is that as the SPF supply is reduced and SYP grows, that you're going to see the spread between the two tighten up from what you see historically.

I can't tell you what is going to be, but there will be a point where -- I mean, if you have to pay too much on a delivered basis for SPF, you are going to -- you will substitute. I can't tell you what that is, but I think in relative terms, you're going to see SPF sell at, on a delivered basis, a slight premium compared to what you see today.

Okay. So the spread is narrowing over time. And end uses -- I mean, I couldn't pick up a 20-foot 2 x 12 the first time I was down there, so --.

Exactly. So certainly, for framing, SPF is the product that is most desired. But they won't pay a huge premium for it. They will want to pick up the SYP.

Okay, that is interesting. Okay, thanks for that, guys. I will turn it over.

Paul Quinn, RBC Capital Markets.

A question around the outlook which you described in the US housing market as bumpy, and you have cited the lumber prices affected by high Canadian mill inventories. And I guess previous questions have been around that.

I'm just curious as to what you're seeing in the Chinese market. My read is that market has got pretty high log and lumber inventories, but it's been also challenged by transportation issues. What is your order file like, export side?

I do want to just go back to this volatility. And we have been talking about this for three or four quarters. So I think what we have been saying for quite a while in terms of the overall lumber market is that our medium-/longer-term view is very positive, with the supply/demand fundamentals moving in the right direction.

But we are still at 1 million or slightly below that in terms of US housing starts. So we do expect some volatility. And obviously, the first quarter, with weather and then with transportation issues have just added to that volatility. And it will probably have an impact on volatility because of build-up in inventory with the Canadian mills because of the transportation issues.

But moving to China, demand in China last year was slightly higher than 2012. And if we look at this year, we understand that log inventories are fairly high there. Part of that has to do with the cost of logs versus the cost of lumber.

Lumber inventories are -- I think they are okay. Our order files for West Fraser are still very strong for China. And we really anticipate having another strong year in China, regardless of what you hear from a more macro standpoint.

At the end of the day here, I think demand for lumber in China will really have a lot to do with what the price of lumber will be. If prices move up significantly, then that might allow people to move more logs into that market. But at today's levels, we're seeing pretty good demand for our lumber.

All right. And just a question on railcar service. We have seen some of the Canadian grain guys get to mandated service levels. And just wondering whether that has affected your service levels, and whether there's any kind of initiative within the industry to get the same sort of things on the lumber and pulp side?

Well, I think in terms of the impact of grain on our business, it's really difficult to assess that, given what do you weather situation was in the first quarter. But I can tell you that -- I'm just going to speak for West Fraser here. From our perspective, we have a very strong relationship with our rail carrier, and we work closely with them.

And so our whole course of activity is to continue to work and develop that relationship. And from our perspective, we expect that our major carrier, which is CN, that will continue to do what they need to do to give us the service and supply we need.

It was a very tough first quarter. We're not going to measure performance based on one difficult quarter. And I think they are going to work very closely with us to help us move our backlog over the next four, five, six months. So we don't plan on taking the kind of approach that the grain guys did.

All right. Congratulations on the growth. Glad to finally see it.

Okay, thank you, Paul.

Mark Kennedy, CIBC World Markets.

My question, again coming back to these acquisitions, Ted, the targeted output you have identified for each of the three mills: can you just confirm -- is that on a super-shift or a two-shift basis? Just any insight you can give us there.

Yes. I think fundamentally, in terms of what we're looking at in Canada, it's really a matter of adding some kiln capacity and running more hours at the planer. That operation is a two-shift operation. It will continue to be a two-shift operation if I have got my facts straight.

And in terms of the US South: again, at the Mansfield mill, by adding some kiln capacity, that mill has been running at around 50 hours. So we will just be adding some hours at that mill.

And at the Russellville or Bibler mill, we don't at this point plan on making any significant changes. It is a well capitalized mill. And it runs, I believe, at 80 hours.

Okay. And then just in terms of your slide deck there, you say once all of these three mills are at this targeted output, you will be at 6.3 billion. And that, I assume, is with the closure of Houston built in, too, right?

That is correct.

Okay. And then I was just wondering, also, if I could just -- maybe just a quick update on your three or four energy projects that you are targeting: Fraser Lake, Chetwynd, Slave Lake, et cetera. Just wanted to get an update on the status of those.

Sure. I will do them in order of when they are going to start. So the Alberta Newsprint power generation project will be starting up in May. I think by the end of May, we expect that the full 63 megawatts will be completely commissioned and operational.

In terms of our two energy projects at Fraser Lake and Chetwynd, those are both 10 megawatts each. Those will be starting up late third quarter. And then the Slave Lake project will start up in stages but will be complete by the fourth quarter.

Okay, that's great. That's it for me, thanks.

Stephen Atkinson, Dundee Capital.

Can you give me an update on the work you are doing on your lumber mills in the first quarter, and the myriad of projects? Or, should we say, the major ones?

How much time do we have, Stephen?

I have a lot of time.

Well, I will try and be brief on that. So the Edson sawmill -- that was down the entire quarter. That will be starting up in May. In terms of Canada, that is really our major sawmill project that is in place.

We started up the Williams Lake plant in the fourth quarter. The Chetwynd sawmill upgrade was completed during the third quarter of last year.

And then we've got two projects on the drawing boards, but we have not started them yet; and that is the Smithers sawmill rebuild as well as the 100-mile rebuild. And we expect those to start up either later this year or early next year, depending on just completing our plans.

The US South, we've got a lot going on there, as I said earlier. We've got -- we are installing 10 kilns, continuous kilns in the US; 3 impacting our operations all year. And then we've got a number of minor and somewhat larger sawmill upgrades throughout our US system.

There's a lot of detail. And I think if you would like us to go through further detail, I'd suggest that you maybe give Rodger a call after the call.

Okay. And how about McDavid?

McDavid -- that mill is, again, not a large mill, but that started up, I think, in October, early November of the fourth quarter. And we are doing some upgrades there.

And that is slowly ramping up again. It never happens as quickly as we'd like it to, but we are confident we are going to get there.

Okay. Well, the best is yet to come.

We sure hope so. And we're very excited about a lot of the capital spending we're doing throughout the US South. And we're going to have -- as I said in my earlier comments, we're very delighted with the outcome of our completed projects, and we've got a lot of confidence that these projects are going to generate returns that we have been sharing with you and others over the last several quarters.

Thanks so much.

(Operator Instructions) Sean Stuart, TD Securities.

A couple of follow-ups. The Edson delay, Ted -- is that construction delay just weather? Is there anything else why that has been pushed to May?

I think fundamentally it's not so much weather; it's really the amount of capital projects that are going on in the sawmill industry in North America. It's just quite significant.

And we've got to recognize, it was only a few years ago where nobody was spending any money. And so when you look at the contractor community, it's just -- you know, we have just seen more delays than you would have seen in the past, just because that contractor community is slowly ramping its way up. So that has really been the largest issue in terms of all our capital is just having enough contractors.

Okay, understood. And then just lastly, your price realizations on the lumber side this quarter -- they are certainly better than we expected. And appreciate that there's a lot of moving parts from region to region and grade to grade. I'm wondering if you can speak to any mix changes you might have had sequentially Q4 to Q1 that would have helped explain the magnitude of the increases on your mill nets?

Sean, there weren't really any material changes in terms of our lumber sales mix quarter to quarter. You've got to realize, there's always a bit of lag in pricing. That obviously had an impact.

And then the other impact was our lumber shipments, as you know, were quite a bit lower than our production. But our sale of chips and other byproducts is part of our top line.

So when you look at it -- so that had a larger impact. One, our chip prices were higher. And we shipped out the same amount of chips as we typically would do every quarter. So I think that skewed it to the positive.

Okay, that helps. Okay, guys, that's all I had. Thanks a lot.

Paul Quinn, RBC Capital Markets.

Just a couple of easy follow-ups here. One on pulp and paper, just that change quarter over quarter. It's doesn't -- you know, it's hard for us to tell whether you got some significant operational improvements where you had difficulty in the past. It's that part of the change, or is it more just on price?

Well, I think price is part of it. But as I said earlier, our Cariboo mill, where we had issues in the fourth quarter, ran very well in the first quarter. And I think we said when we gave our fourth-quarter results that was a bit of an anomaly for Cariboo. And our BC canopy business and our newsprint business -- I can't remember when we have had operating issues that have been that significant in any of those three operations.

So those three mills continue to run well. So really, it is really about, as I said in our comments, about slowly improving Hinton's results. So we definitely did have sequential improvement in operations overall from Q4 to Q1.

Okay. And then just on the capital that you are spending on Buchanan and Travis, where is that capital being spent? Is that kilns, as well?

Yes, it's primarily -- I'm sorry I wasn't clear on that, but it is primarily in the kilns. We need to dry more lumber to increase our capacity.

There will be some minor sawmill upgrades at each of the two mills, but nothing significant that would cause us any material downtime. And really, it's just about then adding hours at the planers. So these are not significant projects that we have to do at either of the two mills.

Right. And then just on the purchase price, you disclosed that it includes real estate and transportation businesses. Are those long-term keepers for West Fraser? And is there a notional value attached to those?

Yes, Paul, it is Larry. There is some value there, and I think that we are going to look at those businesses. The trucking business is integrated with the sawmill business. So I would expect that that is a keeper. And then they have associated the real estate with the sawmills, so that was part of the deal. But there is value there.

Okay. And I guess maybe a question for Chris, if he is still on the line -- just what he is seeing in Japan in Q2, in terms of the slowdown on order file, and then how excited he is about the growing shipments to India.

Paul, it's Chris. Well, Japan -- I just actually got a report this morning from our office over there. And it's a bit hard for us to tell, because we obviously had shipping problems to get our product over there. So I a lot of inventory in the field there has dropped. We expect to see housing to slow a little bit as the consumption tax gets into place. But housing has been pretty strong through February.

We do expect to see a bit of a slowdown in Japan, but nothing too significant. So we're still pretty bullish there.

With regards to India, there's a lot of work to be done in India. And we were over there a month ago or a couple of months ago, and right now it's a southern yellow pine market. Very much a price market.

But it is beginning to grow. I think there is a future there. Is it the next China? We're not sure. Somehow doubt it. But if it is half of China or a quarter of China, I think that is still pretty good business. So it definitely is maturing, and we're starting to sell lumber there, as are our competitors.

Well, great. Thanks for the additional help. And best of luck.

There are no further questions registered at this time. I'd like to turn the meeting back over to Mr. Seraphim.

Well, again, thanks for participating on our call. And if you've got any follow-up questions, we're happy to answer them for the rest of the day. And we will talk to you soon. Thanks very much, everybody.

Thank you. The conference has now ended. Please disconnect your lines at this time. We thank you for your participation.