West Fraser Timber Co Ltd (WFG) 2016 Q2 法說會逐字稿

Good morning, ladies and gentlemen. Welcome to the West Fraser Timber Q2 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 seasonable 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 as supplemented by the Company's quarterly MD&A.

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

Thank you. Good morning, everyone, and thank you for joining us today. With me is Larry Hughes, our CFO, and a number of our senior management team. Larry will review our financial results with you shortly. I would like to make a few comments regarding our operational performance. I will also briefly comment on lumber and pulp markets.

We continue to make progress in our lumber business as we are seeing the benefits of our extensive capital spending program. Excluding the acquisition of Manning Forest products, which we acquired in October of 2015, we have increased production by approximately 200 million feet over the first six months of 2016 compared to the same period in 2015. We are seeing improvements in manufacturing costs, recovery, and grade as well.

Our panels business continues to be a strong performer for the Company, with production up from 2015 across our operations with the exception of our West Pine MDF plant, which has been down since the middle of the first quarter. We are in the process of repairing the mill and are looking forward to its restart late this year.

We are experiencing better operational results in our pulp and paper business as compared to 2015. We have had a strong operating history in our BCTMP mills and our joint venture newsprint mill. We continue to be pleased with the performance of these three mills, despite challenging market conditions in the second quarter for our BCTMP business. We are making progress in our NBSK operations, as production is up 7% from the same period in 2015.

Our Hinton mill continues to show improving results, but what's particularly encouraging is that we have set a number of short-term production records at the mill this year. Nevertheless, mill reliability issues are not yet behind us, and we continue to focus a significant amount of management focus on this operation.

Our outlook with respect to lumber markets continues to be very positive with respect to the medium-term. For some time, we have been consistent in our view that until we see 1.3 million US housing starts, we will see experience some volatility in lumber markets. This week's release of US housing starts and existing home sales is very encouraging and further supports our optimistic view.

US housing starts were just under 1.2 million in June. US existing home sales achieved a new post-crisis high in June at 5.57 million, the highest level dating back to the first quarter of 2007. Key factors such as demographics, an improving US economy, and low new home inventory should continue to spur new home construction.

Our business in China is quite strong as we look out to the remainder of the year. BCTMP markets have been under significant price pressure for the first half of 2016 due to challenging operating conditions in China. BCTMP prices hit bottom in second quarter. We have seen them increase by approximately 15% over the past few months and expect that BCTMP markets will remain strong for the remainder of the year. NBSK pricing has been relatively flat.

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

Thanks, Ted. And thanks, everyone, for joining us today as well. I will be referring to several non-IFRS terms in my comments this morning, and so please refer to our MD&A under the heading non-IFRS measures for definitions and descriptions of how these terms are calculated.

For the second quarter of 2016, we reported earnings of CAD98 million or CAD1.22 basic earnings per share. Beginning on page 3 of our MD&A, we identify various nonoperational items, which we adjust from earnings in order to more clearly reflect the results from our operations. The result which we refer to as adjusted earnings was CAD64 million or CAD0.80 adjusted basic earnings per share. This compares with CAD0.60 per share in the first quarter of 2016 and CAD0.15 per share for the second quarter of 2015.

The most significant adjustment to earnings in the quarter was a CAD30 million gain related to equity-based compensation. Operating earnings from the lumber segment improved compared to the previous quarter by 24%; and for the first half of 2016, we have seen a 45% strengthening in operating earnings compared to the first half of 2015. These improvements reflect improved pricing and increased shipments.

In the quarter, we expensed Canadian woodland costs directly through earnings due to spring thaw conditions, which reduces the volume of logs that we acquire during the quarter. In the first, third, and fourth quarters, these costs are included in log inventory costs. The impact was to reduce earnings of by approximately CAD25 million compared to the first quarter.

Our panel business benefited from improved plywood prices and increased plywood shipments compared to the previous quarter and achieved operating earnings of CAD18 million compared to CAD12 million in the previous quarter. Our West Pine MDF plant did not run for the entire quarter, as we continued to repair the facility following the fire-related closure in the first quarter. We recorded CAD6 million against costs of products sold for West Pine in connection with the business interruption insurance proceeds. And as Ted mentioned, we anticipate restarting West Pine late this year.

Our pulp and paper operating earnings declined compared to the previous quarter, as US dollar price improvements were more than offset by a strengthening Canadian dollar. Our Cariboo NBSK mill underwent a scheduled minor maintenance shutdown in the quarter. We experienced some operational disruptions at our Quesnel BCTMP mill, which, combined with the Cariboo shutdown, resulted in higher maintenance costs compared to the previous quarter.

Cash flows from operating activities were CAD281 million as we consumed our Canadian log inventories built out during previous quarters. Capital expenditures were CAD57 million in the quarter, resulting in first-half total capital spend of CAD106 million. We are now projecting to spend approximately CAD250 million in 2016, mainly on sawmill upgrades in the US and in Canada.

In the quarter we spent CAD62 million on share buybacks and, for the year to date, we have spent CAD112 million. Our normal course issuer bid continues to be in effect.

In the quarter our Board declared our normal CAD0.07 per share dividend, representing a total distribution of approximately CAD6 million. This is the 121st consecutive quarter since we became a public company in 1986 that we have declared a dividend. We revalue the funded position of our defined benefit pension plans at the end of each quarter, and this resulted in a CAD45 million after-tax actuarial loss this quarter as a lower discount rate increased the present value of our liabilities, which was only partially offset by a higher rate of return on our plan assets. Our balance sheet as at the end of the quarter remained strong, with a 21% net debt to total capital ratio.

And, Ted, that concludes my comments.

Thank you, Larry. So we are ready for questions.

(Operator Instructions) Mark Wilde, BMO Capital Markets.

I have got a few questions for you. First, I wondered if you can quantify in the pulp and paper business the impact from Quesnel and Cariboo in the second quarter?

We usually don't disclose that type of information. I think, really, the biggest impact is not so much from an operation -- operating standpoint. It really is what is going on with BCTMP markets, to be honest with you, Mark. So that is the biggest delta when we look at changes from quarter to quarter.

Ted, if I think about bridging over into the third quarter, then, can you give us some sense of where maintenance expense would move second quarter to third quarter? And, also, whether there were any carryovers from the late second-quarter issues that you talked about?

Yes. I think -- you know, we don't really comment. I hate to say this, Mark, but we don't really comment on cost. But, again, that is not going to be the significant difference. In terms of operations, four of our five mills are running very well on a consistent basis. We had a little bit of a blip at QRP, but really, that didn't have a material financial impact in the second quarter.

Hinton is a work in progress. And we are producing about 100 tonnes more a day this year than we were last year. We are actually on plan for our expectations. But as I said in my comments, the potential of that mill is quite significant. We set some significant records, where our production was up 300, 350 tonnes a day over last year's average. We won't expect to sustain those types of peaks at this point, but we are very focused on improving that operation. And we still are dealing with periods of instability as we move forward.

Maybe I am not giving you everything you want, but our primary focus here is improving our operations at Hinton pulp, and we are encouraged by what we are seeing in BCTMP markets. And if you want more color on that, I know Chris can provide that for you.

Okay. I guess the -- one other question I would just have, Ted, I mean, it is basically a 2% EBITDA margin in the whole segment this quarter. So would it be fair to say that the BCTMP operations might actually be running slightly EBITDA negative?

You know, we don't comment on any of our operations. We are very confident we have the low-cost BCTMP mills in the industry. I will leave that with you. And as I said, we have seen significant improvement in BCTMP prices over the next -- over the last 35, 40 days. And, again, we don't focus too much on our BCTMP operations quarter to quarter BCTMP.

I can tell you this: that our costs are down and our production is up in our BCTMP business for the first half of 2016 versus 2015. And that is what we focus on.

Okay. I have got a few other issues away from the pulp and paper, then. Can you just give us a little color on this CAD11 million inventory write-down in the second quarter?

Mark, it is Roger. The write-down primarily relates to lower grades of lumber, and we have a write-down -- we have had pretty much every quarter from the low grades of lumber. And it is just a typical accounting adjustment we do at each quarter-end.

Okay. And then is it possible to get some sense of what you are seeing as we move into the second half of the year here? Just in terms of log costs here in BC?

I think as we look at log costs in BC, I think we are expecting probably a CAD3 to CAD4 increase in the second half of the year.

Okay. All right. And can we get any color -- additional color on that spring break-up costs? I think you mentioned CAD25 million in the -- between the first quarter and the second quarter.

It is Larry, Mark. I tried to describe it in my remarks, but we expensed one-quarter of the costs in this quarter, whereas the other three quarters we capitalized the expense into the cost of our logs. So the second quarter we treat that cost differently, and it has a -- not a doubling impact, but has a heavier impact in the second quarter.

We have done that for a long, long time. And every once in a while, it shows up as a distinctive difference, because investors and analysts are not picking it up.

Was it bigger, Larry, this year than normal, would you say -- that CAD25 million?

The same.

No. I think it is relatively the same. It relates to our woodland cost, so as our business in Canada expands, it will become a bigger number. But not significantly increased year-over-year.

And the last issue I wanted to turn to was just at capital allocation. I wondered if you had, Larry, any sense of where capital spending is likely to move in 2017 and 2018. And then, also, you have been more aggressive than normal this year in terms of share repurchase activity.

Yes. I think that we have still got some capital to spend. I think we are seeing a slowdown, but I think we are extending this, then. So we are going to look closely -- we do it later this year. We develop our capital plan for 2017, but I predict something similar to what we are doing right now, in the CAD250 million range for 2017.

It will start to come down. We don't see any major energy-related projects. Those are virtually all behind us now. What we guide -- kind of at trend, that our capital spending is between CAD175 million and CAD225 million. And I think that we are going to be getting to trend over the next couple of years.

So that is -- our number-one focus always is making sure we are improving what we have got. Our second priority is to make sure that we are ready to grow when we get opportunities. And that is why we maintain a strong balance sheet.

And right now I would say the M&A possibilities -- there is not a huge pipeline. But we are looking at opportunities all the time.

And then, thirdly, if we view that we are going to generate what we believe is truly excess cash, then, as you have seen, we will favor share buybacks. We have got the modest dividend, and we were in the market on share buybacks. We did think that that was the best investment for the cash that we were generating over the last couple of quarters.

Okay. Well, for what it is worth, I agree with you on that, Larry. I will turn it over.

Hamir Patel, CIBC Capital Markets.

Ted, can you give us a sense as to where you think you are in the Hinton curve? And when do you expect to get that mill to reach its full potential?

Good morning. I think we are probably -- if you look at where we were two years ago, and where we are today, and where our expectation is to be -- and our expectation is based on the capital we spent there and also on how we perform there for periods of time. It could be for three weeks at a time, a month at a time. I would say we are halfway there in terms of production.

And -- but we are less than halfway there in terms of cost improvement, because really we are spending money on maintenance, which -- we are really focusing on improving our reliability. And that incremental tonnage that we are going to see has a much bigger impact on costs than what we have achieved so far. Production and cost don't exactly go hand in hand. I think that is the point I am trying to make.

Right. Okay. So on those sort of two avenues, when do you expect to reach steady-state, all told?

Well, it is not really good for me to make a prediction here. Our expectations here are -- I mean, we have to perform. At the end of the day, we have to perform. We have to have, in my view, a couple of really good quarters behind us. We are making progress.

I mean, I would like to see us there for 2017. I would have liked to have seen us in their much earlier than we are today. But it is a huge focus for us. We know that we have the capability of doing it. And it is just relentless effort.

So for me to make a prediction is a challenge, but we are putting a lot of pressure on our pulp group to get there. And my expectation is we are going to be much closer as we look at 2017. But this is not a short-term process. But again, as I said earlier, we are encouraged by the progress we are making. I do want to make sure I am saying that.

Okay. Thanks, Ted. That is helpful. And, Larry, could you maybe give us an update as to what are the next planned maintenance outages in the pulp and paper side over the next 12 months?

We don't have anything for the balance of 2016. Cariboo has a major shut in the second quarter of next year. And then Hinton in the third quarter. So we have two major shuts in 2017.

Great. Okay. And just a final question on lumber markets. We have seen the stats from Russia into China; it seems like volumes are up 40% year to date. Just curious what your sense is on the ground there about when that Russian supply is going to get capped out, and what the impact is on pricing right now.

I think -- Chris is online -- Chris McIver, who manages sales for the Company. I think Chris could comment on that.

Thanks, Ted. Hi, Hamir. It is kind of interesting. We are -- you know, certainly Russia has had a big effect this year into the second half of last year, for sure. I think it feels like they must be getting capped out. We have seen pretty significant price increases and also demand increases, particularly moving into the third quarter here.

Pricing is much stronger than it was earlier in the year. So, again, we are not intimate with what the Russians are doing, but it must be that they are getting sort of tapped out. And I think the market in China is improving. So this is probably the strongest market we have seen there in well over a year. So it is encouraging.

Thanks, Chris. That's helpful. I will turn it over.

Sean Steuart, TD Securities.

A couple questions. First, on lumber price realizations: when I back out the chip sales and log sales, it looks like your average Q2 lumber price realizations were up about 3% quarter over quarter, which was about half of what we expected when you factor in the stronger Canadian dollar. Can you guys speak to mix at all this quarter? Was there any change in mix, or is it order file timing lags? Any context you can give us on that front?

Well, again, I think Chris is the best person to answer that question.

Yes. You know, there is -- we have talked about it before, but there is always a lag effect between -- and it can be three, four, five weeks. As prices improve, we don't see the realizations improve as quickly as prices have. And I think we have seen that in the second quarter.

I think the other thing, too, is that it has been a bit of a different story between SYP and SBF. I think we have seen a quicker improvement in SBF than we have in SYP. And particularly on the benchmark pricing, where two by four is a bigger factor on the SBF business than on the SYP. So I think that that really is in what we have seen, and our expectations are moving forward that you are going to start to see some improvements.

Okay. And then, Chris, for you or Ted, the recent improvement we have seen in BCTMP prices -- are you guys chalking that up to just tighter markets on the back of the Chetwynd shut, or are you seeing better takeaway from China. Any context there?

Yes. I think, particularly on the BCTMP side, China is very important to us, and in particular the board market. And the board market was -- they certainly were not running at capacity earlier in the year. They are today, and it looks pretty promising moving forward. So that has been the biggest change there for us.

Okay. And last question for Larry. Just further to your prior comments on capital allocation, is it safe to assume that, given the uncertainty you still have in trade file outcome, the bias is still towards keeping low leverage ratios and abundant liquidity position? Is that the right way to think about it?

I think that we are -- I would say we are not heavily influenced by that issue. But that attitude has been our attitude forever. So we will continue to maintain a strong balance sheet. We don't take risks with the balance sheet, and we are pretty conservative group. So I wouldn't say that the expectations with soft -- with lumber trade file are a heavy influencing factor to us.

Okay, thanks, Larry. That's all I had, guys.

(Operator Instructions) Paul Quinn, RBC Capital Markets.

Just a question on log costs. You referenced some concern in Canada and BC, up CAD3 to CAD4 in the back half of the year. I guess I have got a couple of questions. One is: on the Canadian side, is there a thought within the Firm of slowing down production to ease the pressure on logs in BC at all? And then, secondarily, what are you seeing on log costs in the US up?

Well, I think first of all, we don't really comment on our production plans other than to say that we believe strongly in competition. And so that is about all I could say on that.

But in terms of the US, so it is relatively flat. There is always a few drains where there is some log pressure, but overall log costs in the US are relatively flat.

Okay. And then Larry referenced a sort of a -- I guess a small pipeline of M&A possibilities. Is that -- I'm just wondering what is driving that. Is that just you guys have -- what is happening with the SOA file right now? Or is it just a pause in the marketplace?

Well, it is hard for me to -- there are some opportunities out there, but not a lot. But I would say it has been like that for several years. And whether it is influenced by the trade file, I couldn't say that.

But I would say it has not been a robust pipeline for several years. I think owners are expecting strong lumber markets, and they are hanging in there waiting for better than we are today. And then we may see more activity at higher levels.

Okay. And just lastly on the SOA file, we had the 100-day negotiations; sounds like the two governments are still talking. Just a high-level comment, whether you are happy with the progress of that file and hopeful on a resolution.

Well, this is a file that, you know, it is difficult for us to handicap, because this is government-to-government negotiations. What I can say is a couple of things. One, there has been tremendous communication between our provincial government and our federal government. There has been great communication between government and industry. So our governments definitely understand what our issues are.

And what I mean by that is we are very supportive of the federal government's attempts to come up with a reasonable settlement, but we are also encouraged by the fact that we don't expect them to settle at any cost. And I think there is a commitment between industry and government that no deal is better than a bad deal. But we are continuing to work with government, and I know our governments are working hard to see if they can achieve something. And we also know there is a commitment from the US government to continue to talk to the Canadian government right through the standstill period into mid-October.

Okay. And then maybe a bonus question for Chris, because he is on the line. What are you seeing in Japan there, Chris? Is that -- it looks like the consumption tax increase has been pushed out. And so maybe 2016 isn't as good as you maybe thought at the beginning of the year. Is that fair to say?

Actually, Paul, it's -- oh, hi there, by the way. It is kind of interesting. Pricing in Japan has been somewhat depressed compared to what you usually have seen relative to North America. And I think that has driven a number of producers out of the market.

The bigger guys are there all the time. It has actually improved the marketplace for us. So we are seeing some price improvement and certainly demand improvement, probably more than what we would have thought we would see. But I would say pricing is probably not as good as we would have thought six months ago where we would be at. So I agree that, I mean, consumption in Japan is going to be flat at best. But it continues to be a pretty good market for us. And I think you're going to see prices improve over the next half a year or so.

Great. Thanks very much, guys. That is all I had.

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

Thanks, everybody. Enjoy the rest of your summer, and we will talk to you in the fall.

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