West Fraser Timber Co Ltd (WFG) 2014 Q4 法說會逐字稿

Good morning, ladies and gentlemen. Welcome to the West Fraser Timber Co. Ltd. fourth-quarter 2014 results 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 is 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 plan 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 MDAs.

Accordingly, listeners should exercise caution in relying upon forward-looking statements. I would like to turn the meeting over to Mr. Ted Seraphim, President and CEO. Please go ahead, sir.

Thank you, and good morning, everyone. Joining us today is our CFO Larry Hughes and a number of our senior management team. Larry will discuss our fourth-quarter earnings shortly. I'd like to focus my comments on our performance in the fourth quarter, some of our key activities during 2014, and our outlook for 2015.

West Fraser earned CAD43 million or CAD0.51 per share in the quarter. Adjusted earnings for the fourth quarter were CAD84 million or CAD1 per share. Adjusted EBITDA in the quarter was CAD157 million, or 16% of sales, down CAD10 million from the third quarter. Our lumber business generated operating earnings of CAD90 million, down CAD11 million from the third quarter. Results were impacted by reduced shipments as well as lower production.

Fewer operating days and scheduled downtime due to capital projects resulted in reduced production. Our panels business generated operating earnings of CAD22 million, down CAD3 million from the third quarter primarily due to lower plywood pricing.

Our pulp and paper business generated operating earnings of CAD3 million, up CAD5 million from the third quarter. Our results continue to disappoint us and are primarily the result of continued operational and reliability issues at our Hinton pulp mill.

For the year the Company achieved record sales and adjusted EBITDA of CAD3.856 billion and CAD621 million, respectively. It was a very busy year with respect to our capital spending programs. We invested in excess of CAD400 million in capital expenditures, which is also a record for the Company.

We had a heavy capital spending program for the last few years. This has required significant effort from our employees across the Company and, as you can imagine, has disrupted operations at the affected facilities.

2015 will see us complete a number of large projects. Although our spending will be lower this year, our three-year total from 2013 through the end of this year will be approximately CAD1 billion. We are starting to see the benefits of this extensive capital program, and this will position us very well to provide industry-leading margins.

We also acquired two sawmills in Arkansas and one in Alberta which have been well integrated into the Company.

The housing recovery in the US continues to show positive momentum. Housing starts were up by approximately 80,000 units, to 1 million for the year. Demand from China continues to remain strong. While we expect some volatility in 2015 lumber markets, our outlook for our building products business continues to be optimistic. Pulp markets are expected to be under continued pressure as new capacity ramps up this year.

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

Thanks, Ted. Thanks to everyone joining us on the call today. We do appreciate your interest in West Fraser. Following Canadian securities disclosure guidelines we have introduced in our current MD&A the term adjusted EBITDA. Please refer to the advisory contained in our MD&A concerning the use of various non-IFRS terms. These are described in various tables which begin on page 22 of our MD&A. Also note that all per share amounts referred to reflect or have been adjusted to reflect the stock dividend that was completed in early 2014.

As Ted indicated, for the fourth quarter we reported earnings of CAD43 million or CAD0.51 per share. On page 10 of our MD&A we identify various nonoperational items which we adjust from earnings in order to more clearly reflect results from operations. The result, which we refer to as adjusted earnings, was CAD84 million for the fourth quarter or CAD1 adjusted earnings per share. This compares with CAD1.12 for the third quarter of 2014 and CAD0.58 for the fourth quarter of 2013. So on an adjusted basis this quarter was similar to the previous quarter and both were much stronger than the fourth quarter of 2013.

On a segmented basis operating earnings from our lumber segment declined compared to the previous quarter due to reduced production and shipments as we completed a major capital project at our 100 Mile House sawmill and had fewer operating days. We also experienced a weakening of prices for some grades and dimensions of lumber, and log costs increased, particularly in British Columbia.

We should note that our adjusted EBITDA margin for lumber remained steady at 18% quarter over quarter compared to a 15% margin in the fourth quarter of 2013. Operating earnings in lumber improved compared to the fourth quarter of 2013, reflecting improved southern yellow pine US dollar lumber prices, the strengthening of the US dollar against the Canadian dollar, improved chip prices, and the three acquisitions in which we completed in the first half of 2014.

For our panel segment operating earnings declined quarter over quarter reflecting a seasonal slowing of the Canadian plywood market, but overall our panel segment made a strong contribution in 2014. For the pulp and paper segment we saw an improvement in operating earnings compared to previous quarter, mainly the result of the strengthening US dollar.

Operating earnings for the pulp and paper segment declined significantly compared to the same quarter of 2013, reflecting a combination of MDSK operating disruptions and a decline in electricity revenues as Alberta electricity prices weakened late in 2014, as oil and gas activity slowed.

For the full year, our earnings declined by over 25% compared to 2013, but this was essentially the result of the recognition of US loss tax carryforwards in 2013. As shown on page 3 of our MD&A, if we adjust for this recognition and other nonoperational items our adjusted earnings were essentially flat year over year, although adjusted earnings per share improved as a result of our repurchase of over 2 million shares during 2014.

Cash flows from operating activities totaled CAD41 million in the fourth quarter compared to CAD237 million in the third quarter reflecting seasonal log inventory buildups in the fourth quarter. Capital expenditures in the quarter totaled CAD89 million and for the year capital spending reached CAD410 million which included spending on a number of major energy producing projects. As those major projects reach completion, our rate of capital spending will decline, and we are expecting capital spending in 2015 to be in the range of CAD300 million.

We revalued our defined benefit pension plans at the end of 2014. The discount rate used to calculate plan liabilities declined; the rate of return on assets held was higher than the discount rate; and mortality assumptions were adjusted, all of which resulted in the net actuarial loss of CAD87 million after-tax which was included in other comprehensive earnings.

In 2014 we made contributions to our defined benefit plans of CAD54 million. And we expect to make payments of approximately CAD56 million in 2015.

In the fourth quarter we acquired through our 50% owned newsprint mill additional power purchase rights, and we are now required to record the fair market value of all of our power purchase rights as at each balance sheet date with any changes recorded in other income. For the fourth quarter we recorded a CAD2 million loss. See note 12 of our annual financial statements for more details. Going forward, this will be another nonoperational item affecting our earnings.

Our balance sheet as of December 31, 2014, remains strong with a net debt to total capital ratio -- and we've added another explanation of this non-IFRS term at page 24 of our MD&A -- of 19%, reflecting operating borrowings of just over CAD100 million as we build Canadian winter log inventories. Ted, that concludes my comments.

Thank you, Larry. And now we are pleased to open it up for questions.

(Operator Instructions)

Mark Wilde, BMO Capital Markets.

Could you give us some sense of what you think the drag from Hinton was in the fourth quarter? And then any kind of residual carry over at the first quarter? How much of that will you get back in the first quarter?

We don't comment on specific results for any one of our mills, Mark, but the fact that we've recognized this is an issue and it's been an issue for us for really the last couple of years -- we are definitely not through the woods yet. We have brought in some significant help in that mill. We've moved some of our key folks from some of our other operations into that mill. It is probably our -- it is not probably -- it is our number-one operational focus for the Company this year. So we are still having issues there, but what I'm feeling better about is we've got the right people in place. And I'm optimistic that we are going to start to see our results improve. But I would say at this point in the first quarter I don't really have much to add in terms of our results over the fourth quarter.

Ted, could you give us a little sense of what the nature of the issue is?

Well Mark, I've talked about this a few times in the past. Fundamentally Hinton is a mill that's -- it's well-capitalized. We have dealt with a number of reliability issues and part of that has to do with the fact that in Alberta we have seen a significant amount of our employees over the last number of years join the oil and gas industry. That appears to be turning around for us, as you can imagine.

So a lot of it really comes down to people. We've got good people there, but just -- we've had turnover and that appears to be coming to an end, and we've been able to attract and bring some good people into the mill. So it's a good mill and we'd like you and any of the other analysts to come visit it one day. But once you see it you will realize that it's a good mill. We should just be able to operate it better. It really just comes down to people.

Yes. Second issue -- can you just talk a little bit about what you are seeing from the Asian markets right now? I guess I really have kind of two elements to that question. One is just your export volumes into Asia. And then the other is how you see kind of any ripples from weaker West Coast log exports going into Asia?

I think, first of all, we've been saying this again for quite some time -- while overall shipments from Canada to Asia appear to be down last year for lumber, ours actually continue to improve and we continued a strong order volume going into this year. So from our perspective we have been very committed to that market and continue to see good volumes.

In terms of our overall volumes, I think Asia accounts for, if I'm not mistaken, about 30% of our Canadian lumber shipments. And it's basically been operating on that basis for the last couple of years.

In terms of log exports, I mean there's so many different factors that affect demand. I think it probably speaks more about China. There's so many factors that you look at that, and then -- but really for us we have a really strong core group of customers who seem to be very consistent with us every quarter. So from a West Fraser standpoint we are quite pleased with our business there.

Okay. And then the last question I had, Ted, just any visibility on your log costs as we move into the first quarter, both in Canada and in the southern US?

I think the only thing specifically is that the BC stumpage went up CAD1 on January 1 -- CAD1 per cubic meter. And then just overall we continue to see similar price escalation this year in our key markets for log costs as we did last year. So our expectations for this year is really more of the same. Although it's still early in the year, but we kind of expect things to be quite similar to last year in terms of trend.

Okay. Very good. I'll turn it over.

Sean Steuart, TD Securities.

A couple of questions. On the pulp and paper side you addressed the Hinton issue. I'm wondering also on the cost side if you guys can quantify rising chip costs -- how much of that might have affected margins in the segment quarter over quarter or year over year? And also the lower power sales in Alberta. Don't know if you can put some numbers around those issues.

Sean, we don't really disclose those numbers. The chip price is really driven by the MDSK price. For our Company our whole lot chip percentage is quite low. I don't know -- I should know the exact amount, but I'm going to say it's 5%, 6%, 7%, so it's quite a low amount. But really comes down to chip price formulas, which are tied to MDSK price.

I guess generally speaking, though, it's safe to say the Hinton productivity issues were the bigger drag on margins?

I've got to say that's the primary issue. When I look at the operations of our other three mills -- our other two mills and our two joint venture mills, so the other four mills in total, we are quite pleased with the performance of those mills. So it really comes down to Hinton. As I said earlier, it's our primary focus not just for our pulp and paper business but for the whole Company. It's had a serious impact, no question.

Okay. And on the top line for pulp and paper, your price realizations came off a little bit this quarter on a sequential basis, and we were a bit surprised by that given the weaker Canadian dollar. Can you give us some context on a guess relative discount levels for pulp and participation in spot markets? Was that up this quarter? I'm just trying to reconcile some of the weakness we would have seen in price realizations in Q4?

Again, it's also -- you've got to recognize you've got our BCTMP business as well, and we also saw lower electricity sales as well as this quarter. So it's a variety of different issues. So nothing materially would have changed in terms of our discounts on MDSK. So it really comes down to our -- but we did see lower BCTMP prices as well in the fourth quarter. It's really a combination of really slightly weaker BCTMP markets and lower electricity sales.

Okay. So all the electricity sales are in the top line in that segment? Is that correct?

Yes, that's correct.

Okay. That's all I have for now. Thanks, guys.

Daryl Swetlishoff, Raymond James.

A couple of questions. On the capital spend, Ted, you've been running up to double normalized levels for a while now, guiding to CAD300 million in 2015. Can you see a point in the future where you simply run out of projects that meet your hurdle rates? When will we get back to kind of normalized capital spends?

I think first of all we have a lot of catch-up to do, and we have a lot of energy projects and a number of other things. We continue to look for opportunities to spend capital for good payback projects. We've got a very strong balance sheet. We continue to want to look at ways of driving and increasing our margins. So for us to say that we will get back to normalized spending in 2016, I doubt that will be the case. But our normalized CapEx as Rodger and Larry said many times is CAD200 million plus or minus CAD25 million.

But we are going to continue to look for some good projects for this Company. Again, given our low cost to capital, we are going to potentially look at hurdle rates. In the past we were looking at two- or three-year payback on sawmill projects. We may challenge our guy to look at projects with slightly long longer-term paybacks but still high double-digit returns. So, I hope that answers your question.

That does, Ted. Thank you. Now, just looking at the energy projects you mentioned, are you satisfied with returns on the strategic capital you are deploying there in energy? And secondly, does the drop in energy pricing change any of your investment criteria there?

We tend to look in the short-term and long-term. When we looked at these projects and we really identified about CAD250 million of projects, and I think we've set five-year type paybacks. Over half of those projects are locked in, in terms of BC Hydro rates, so over half the capital spending is on that so we are very pleased with projects, particularly with energy prices going down.

Some of the other projects like the ones in Alberta, the Alberta newsprint plant and the Slave Lake plant, there are benefits to those plants -- other than the price of energy there is significant benefits on transmission savings. But I think in the short-term what we will see -- lower returns on those. But again, those are projects that builds for the long-term so we are still very pleased with them. And they are a very good hedge for us against energy prices.

As we look at future projects -- as we look at today there aren't that many opportunities in British Columbia for -- to sell power to the province, so we don't see a lot of projects in front of us today. But we continue to look for them. But I think the environment is different today new projects than it was, say, two years ago, for sure.

Okay. Thanks, Ted. I'll turn it over.

Stephen Atkinson, Dundee Capital Markets.

You spoke about projects that are coming on. Can you give me the status of where you are on your energy projects? Which ones are running full and which ones do we -- can look forward to the benefits of?

Sure. I'll probably miss one, but our Cariboo co-gen plant started up a few years ago. That BC Hydro contract. Our two ORCs at Fraser Lake and Chetwynd are starting up late first quarter, early second quarter. And then our Slave Lake biogas plant has been commissioned, so we are in the startup phase. I think you should expect sort of full performance out of that sometime second half of this year. And then finally, the Alberta newsprint energy plant started up last year. So really by the middle of this year we will be pretty much complete.

Okay. Can you remind me what the total cadence you were hoping to get from all these projects?

So in a range of CAD45 million of EBITDA.

Okay. And second question, in terms of your runway, when I look at the shipments let's say out of BC, they are down in lumber from 2013. So just looking at -- what would be your run rate in terms of capacity now versus what you produced in 2014?

I think what you met was our run rate on SPF; is that correct?

Yes. Sorry. On the lumber. That's what I meant -- SPF.

So we were down about 100 million feet from 2013 to 2014. A big part of that was the 100 Mile project. We did shut Houston down but, on the other hand, we ramped up Edson and we bought High Prairie. So we expect our run rate for SPF shipments overall to be slightly higher this year than last year.

Okay. So if you were at -- 4.76 was the production -- 3.54, let's say, shipments then I can assume relatively flat or should I add something for 100 Mile House?

I think you can add -- maybe what we should do is get Rodger a call, and he give you the specifics after the call. But I think what we are looking for our Canadian lumber shipments is probably 7% or 8% increase over last year -- something like that.

Okay. That's good.

5% to 7% increase over last year.

Okay. And in terms of the US South play -- I phrased my question wrong, but you produced 1.8 billion. Would your run rates now be higher than that?

We expect to produce about 15% more than that this year. Let's remember, we bought the two mills in Arkansas first quarter, second quarter last year. And we are ramping up production at a number of mills because a lot of our major capital is coming to an end mid-this year. So we expect to be up by 250 million plus board feet this year over last year.

Okay. That's good. And finally on the continuous kilns, I remember I think you had 11 or 12 that you were bringing on stream. Where are you in that process?

We still have a number of continuous kilns that we will be bringing on this year. I think by the end of this year we will be close to 20 continuous kilns in the US, and we've got two in Canada as well. The two kilns in Canada are running quite well. One is at Smithers and the other one is at Hinton. So we are very pleased with our continuous kilns.

And I assume you're going to be putting them in all the mills; will you?

Well in the US we have, I can't really speak for Canada. But in the US we should, with maybe one or two exceptions, have continuous kilns throughout the Company by the end of the year in the US South.

Yes. That's great. Thank you.

Mark Kennedy, CIBC.

First question, just coming back to the CapEx spending this year -- the CAD300 million. Is there any sort of major mill rebuilds in that? Or is it just finishing off a number of different projects?

Yes. It's primarily finishing off the two planers in the US -- Maplesville, which will be starting up, I think, in the second quarter. Our Newberry planer which is starting up right now. And the rest of it is really smaller projects, kilns and other upgrades. So we don't have any major projects that we are starting up this year.

Right. And in terms of all these sawmill rebuilds you've done over the last 2 1/2 years here, do you have like a tracking mechanism to see if you are getting the productivity and the results out of them and how that's going so far?

Yes. First of all the way our capital program works in this Company -- before we ask our Board for capital we [do put] -- capital audits of all our projects, all our major projects. So we are very good at identifying the paybacks and, as we said a couple of times, we are quite pleased with what we've been seeing in our projects. We are still early in the ramp-up on some projects. Some are complete and running well, but we've been very pleased with the results that we are starting to see out of our capital spending program.

Okay. Thanks for that. And just in terms of the market outlook here in the US, we hear stories that the distribution chain is probably abnormal if not maybe just slightly below normal levels of inventory. What are you hearing from your customers? With the severe weather we are seeing in the Midwest and Northeast going to have a bit of a drag on the first quarter here now?

I think we are just starting to see the impact to the weather now. Up until just recently, the first quarter was much better than the first quarter of last year. From our perspective we haven't had any really serious significant shipping issues, as we did in the first quarter last year. So I expect that overall this quarter from a shipping standpoint, we'll look stronger than at the same time in 2014.

Okay. All right. I guess that's it for me. Thanks.

(Operator Instructions)

Paul Quinn, RBC Capital Markets.

Thanks very much. I get on the call late so you might have covered this, but I'll ask the questions anyway and hopefully you can give me some pretty decent answers. But really my first question is on Hinton, and I think I ask this last quarter. But it seems like the effect of the operational issues was more than you were experiencing at the end of October on the Q3 call. Is that fair to say? Maybe if you could give us or me an idea on what the expanded management oversight means and what external expertise you've brought in?

Thanks, Paul. I've been asked about Hinton by a few folks. But really -- sorry for the others to be a bit repetitive, but it is our number one operational focus. We've had reliability issues and I mentioned to the other folks we've had a fair amount of turnover there over the last couple of years. That appears to be changing as we look toward the end of the third quarter and the fourth quarter. We've been able to bring a lot of good people on board. I think what's going on in the oil and gas in Alberta (technical difficulty).

So in terms of what we've done, we've brought in some really strong outside expertise, but also moved some of our key folks from some of our other mills [into] senior roles. For example, our mill manager [to our feed mill] is now the operations manager at Hinton. And he's -- I don't want to go into too much detail about individuals in a call like this, but we are very pleased with what he is doing there. And we've made some other senior-level changes there.

So, Paul, all I can say is this has been two very difficult years for us at Hinton pulp. And we know we've had good operations there in the past; we know we can get it back there. The mill is well capitalized, so it's really about having the right people in the right roles and making sure we minimize turnover.

Okay. And then just on the capital projects, I seem to recall that the Fraser Lake and Chetwynd biomass projects were supposed to be up, I think, by the end of last year and Q1 of this year. It seems like they've been pushed out a couple of quarters. Is that fair? And what's happened?

They've been pushed up really a quarter each. We are in the process of starting up -- we've already been producing power at Fraser Lake and we expect that to be fully ramped up late this quarter or early next quarter. So we are already starting to produce power. Chetwynd will start up, I believe, early second quarter. So they are each maybe a quarter behind.

Okay. And I think last year at this time you probably had -- I seem to recall that Smithers rebuild was on the planning process. Where is that sitting right now?

We've had a lot of capital behind this company, and so we have completed our 100 Mile sawmill rebuild. That's ramping up quite nicely. And we are still working on the Smithers project. We haven't finalized that one at this point yet.

Okay. And then just lastly just on market outlooks and what you are seeing in China, are you guys experiencing sort of a shift in mix to high-grade lumber? And what's the outlook in terms of volume in China for 2015?

I'll answer your second for question first. I think we've been saying this for quite a while. We are seeing the trend in China -- demand overall from China is a little bit lower in 2014 than 2013. But our business was very stable from quarter to quarter and actually it grew from 2013 to 2014. As I mentioned on the call earlier, we've got a very strong core group of customers.

In terms of the grade mix -- by the way, our outlook is still very positive for our business in China. In terms of our grade mix, I wouldn't say is a radical shift; it's more of a gradual shift. We are seeing somewhat more high-grade, but we are still -- we still have a significant low-grade position there. But as our mix shifts our customers are shifting with it, I guess.

Okay. And then just lastly, with your outlook for Japan -- did you go into any detail on that? Is that along a similar line to China, or do you expect more slow down there?

I have not spoken about that yet. But I think in terms of Japan volume is a little bit down from -- it was a little bit down last year from the year before, and we expect it to be down a little bit this year from last year. But still a very good market for West Fraser.

Great. That's all I have. Thanks, guys.

Mark Kennedy, CIBC.

Just one quick follow-up. I don't know if Chris is there or not. But just what we are seeing on lumber price here, where the cash market is probably off CAD20 or CAD25 over so far this quarter. Would you attribute that all to the exchange rate movements as opposed to any demand issues?

Chris, are you on the line?

I'm here, Ted. Mark, I don't think so. I think what we are seeing right now -- when we look at all the economic indicators in the US and they are pretty positive, but it is a pretty harsh winter there right now. It goes right down into the South. So I think that's really the effect more than FX at this time.

Okay. All right. That was it for me. Thanks.

Thank you. We have no further questions. I'd like to turn the meeting back over to Mr. Ted Seraphim.

Thanks very much, and we'll talk to you at the end of the first quarter. Thanks very much.

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