West Fraser Timber Co Ltd (WFG) 2018 Q2 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to the West Fraser Q2 2018 Results Conference Call. (Operator Instructions)

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 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 Risk 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. This call is being recorded on Friday, July 20, 2018.

I would now like to turn the conference over to Ted Seraphim, Chief Executive Officer. Please go ahead.

Good morning, everyone. Joining me on today's call are Chris Virostek, our Chief Financial Officer; Ray Ferris, our President; and a number of our vice presidents. I will make a few brief comments before I pass the call to Chris.

Strong markets across all our segments contributed to record financial results. Lumber markets have recently taken a breather after a strong shipping quarter. Although markets have temporarily weakened, we continue to be optimistic about medium- and longer-term demand and supply fundamentals for lumber as well as our panels business. Pulp markets continue to outperform expectations.

From an operational perspective, our greatest challenge continues to be our pulp business. We experienced unplanned downtime at our Quesnel River mill to deal with transportation issues early in the quarter. Hinton had another difficult quarter. And although our management group is working hard to put in place the fundamental building blocks to ensure mill reliability, we have yet to see the results on a consistent basis. We continue to be delighted with the results of the Gilman acquisition and are excited about the start-up of our new sawmill at Opelika, Alabama.

And with that, I'll pass the call on to Chris.

Thanks, Ted, and good morning, everyone. In the second quarter, we experienced attractive pricing levels for all our commodities and were able to partially overcome the transportation headwinds that led to an accumulation of inventory at the end of the first quarter. The combination of pricing, higher operating rates in lumber, offset by fiber input cost inflation in Canada, led to an adjusted EBITDA, excluding the impact of duties, of $593 million or approximately 32% of sales for the quarter.

In our lumber segment, we shipped 82 million board feet more than our production in the quarter and shipped 416 million board feet more or 29% more than we shipped in the first quarter. We added shifts, loaded railcars and trucks on weekends and extended hours at many of our locations to achieve this reduction. We have more work yet to do in reducing inventory levels across our Canadian lumber mills and expect the process will carry us into the fourth quarter. We recaptured about 1/3 of the profit on the delayed shipments from the first quarter as we worked the inventory levels down. Adjusted EBITDA for the quarter was 34% of sales and for the year stands at 32%.

Our panel segment benefited from stronger pricing in plywood and the carryover of Q1 volume into Q2 because of the transportation challenges we faced earlier this year. We have largely returned our panels inventories to target. Panel's adjusted EBITDA margin was 26% for the quarter and 24% year-to-date, up from 18% in the first quarter and 17% in the prior year quarter.

Our pulp segment generated roughly similar adjusted EBITDA to Q1 of this year, albeit in an environment of higher prices. Reliability challenges at Hinton and a shutdown at Cariboo served to reduce our production and shipments by approximately 27,000 tonnes versus targeted levels. Excess inventory from Q1 has been shipped. Our pulp adjusted EBITDA margin was slightly down from 25% in the first quarter to 22% in the second quarter, but is up 800 basis points on a year-to-date basis over the prior year.

Additions to capital assets were $69 million in the quarter and $173 million for the year-to-date, in line with our full year estimate of $300 million to $350 million of spending. Our sawmill rebuilds in High Prairie, Alberta and Opelika, Alabama are proceeding according to plan.

We continued returning capital to shareholders. And on a year-to-date basis through the quarter end have distributed $279 million in dividends and share repurchases while retaining strong liquidity of just over $800 million from cash on hand and an undrawn revolver.

With that, I'll turn it over to Ted for some closing remarks before we open it up for questions.

Thanks, Chris. And actually, I don't have any further remarks. We will now open it for questions. Thank you.

(Operator Instructions) Your first question is from Hamir Patel from CIBC.

Chris, if I recall in prior years, the company treated the Canadian woodland costs differently in Q2, which to me suggests that the results might have been even stronger if you'd done it the same way that some of your peers do it. So do I have that right? And can you quantify what that difference would have been quarter-over-quarter?

That's right, I think, in terms of the slight difference, I think, in how some of those woodland costs are treated where when we're in breakup, we let those costs go to expense rather than smoothing them over the log inventory. I don't have a quantification of that amount available kind of right at hand. Over the course of a full year, it evens itself out. But you are correct in that understanding that, I think, our practice is slightly different in expensing those items.

That's helpful. And maybe just a market question about plywood. I know Canada imposed -- was it 10% tariffs on U.S. plywood imports? Do you think the effect of that on product pricing has played out yet or I'm just curious how's that being received in the Canadian market?

It's Ted here. I think from my perspective, it's more difficult to really read through that than it is in terms of the impact of U.S. duties on softwood lumber. But plywood markets have been strong for quite some time. And I'm sure it's having an impact, but I don't think it's significant in all honesty. I think a weaker Canadian dollar also has an impact as well, right?

Right. And sorry, Ted, just a final question. I hate to bring up Hinton, but obviously, you guys had some operating challenges there again this quarter. Could you maybe speak to where you think you are in that journey and how have operations fared in Q3 so far?

Well, I think I will pass that question because I tried to answer it unsuccessfully for a number of calls. So I think I will pass it on to Ray Ferris, our President. So maybe, Ray, you can give a little color on that question.

Thanks, Ted. I'm not sure I can offer a lot more clarity. But what I would say, Hamir, is that, we do have a very good group of employees that are very engaged from management through hourly. I would say, they're probably more frustrated than we are. I think we're very focused really on kind of 2 areas. One, kind of infrastructure issues where we have a program where we're systematically bringing the Hinton infrastructure up to kind of into the 2,000s and really focused on reliability systems. And what I would say is, we're very pleased with the activities. We're very pleased with the direction, very frustrated with the results. But I think we still have quite a bit of confidence in kind of our long-term, midterm direction. That's all I had, Ted.

Thanks, Ray. Yes. As I said, I guess, a year -- I think at the end of the first quarter last year, I think we had 2 or 3 good quarters in a row. And I said, I think we need a year, 1.5 years of steady operating before we can confidently say that we are where we need to be. But I think we definitely see the potential in that mill, but we just have to get to more steady operating. And as Ray says, the group is really working hard.

Your next question is from Sean Steuart from TD Securities.

A couple of questions. Lumber price realizations, they were up about $90 per thousand quarter-over-quarter. That outpaced our expectations. And I guess a couple of questions on that front. Can you speak to the average order file lengths during the quarter and where your order books stand right now? And then can you comment on mix differences this quarter that might have contributed to the strength?

Well, I don't -- it's Ted here and Chris McIver is on vacation. And we thought we'd let him take the day off. But in terms of mix, really no shift in mix. I think there was obviously a lag from the first quarter into the second quarter. And in terms of our order files, we really don't comment on that, on what it was. But where we are today, I mean, the order files are not that strong today. I mean, we've seen -- because of such an improvement in transportation, we've really seen movement from inventory from the suppliers or at least from West Fraser to our customers. And so I think customers are a little bit nervous right now. And the summer is usually a slower period as well, Sean. So I don't think what we're seeing now is really abnormal.

Okay. And second question is on capital allocation. You guys were very busy on the NCIB in Q2. You remained so, it looks like, so far in July as well. Can you speak to share buyback preference relative to growth opportunities you have. And you've articulated your 2018 CapEx plans well. But how is the CapEx plan shaping up for 2019? And can you comment on the M&A environment for sawmills as well?

Sure, Sean. We remain focused on trying to make sure we have a balanced capital allocation strategy. And I think as we've said pretty consistently, our first priority is always investing in our facilities to maintain that low-cost position and continue to improve our returns through grade and recovery. We remain open to M&A opportunities, but qualifying them that they have to make our platform stronger and at a valuation that generates an appropriate return for us. At this point, we continue to see repurchasing West Fraser shares as offering an attractive risk-adjusted return for the use of our capital, while at the same time not constraining our financial flexibility in any way. I think as we look forward into '19 and '20 with respect to capital programs, we've got a long pipeline of projects. The tendency of the company is to spend in good times and in bad when there's not financial constraint. So I would anticipate that next year capital spending is -- it's still early days as we're looking into our budget for next year, but we do have a lot of projects already locked in that we're thinking about for next year that are very -- high likelihood of going ahead. So if there's other stuff that we can pull forward that are high return and are comfortable with the execution risk next year, we might spend a little bit more next year than we do this year. But I think it's fair to say, too, that on the landscape of contractors and equipment suppliers and availability of labor to do large-scale capital projects, it's a lot tighter now than it was a year or 18 months ago. Ted, I don't know if you have anything you want to add to that.

No, I think that -- thanks, Chris. I don't have anything to add to that at this time.

Your next question is from Mark Wilde from BMO Capital Markets.

Ted, I wondered if you can just give us a little update on kind of how you're seeing kind of the lumber markets right now coming out of both British Columbia and Alberta as well as the Southern U.S. And then in particular, I'm just kind of curious, we've seen this big differential open up between kind of 2x4s and 2x6s, so maybe some thoughts on what's going on there.

Yes. I think I'm going to preface that all by saying, I know you guys really focus on what's going on today. In all honesty, our sales guys do, but I don't because we think more about the medium and longer term. So in terms of lumber markets, I mean, as I mentioned earlier, I think the market's really taking a pause. And in terms of the differential, the one thing about 2x4s is, 2x4s, from what I understand is, that's really what -- futures market is based on 2x4. So a lot of people are converting futures contracts into orders in all honesty, Mark. So I think that is playing some role in creating that wider discount for 2x6s. And in terms of overall, I don't really see a significant difference in our order files between Canada and the U.S. It might change week to week, but overall, it's a little bit slow right now, but we expect that to kind of carry on for a few more weeks. But I was on the phone with our sales group yesterday, and they're very confident that as we get into September and October, we're going to see a strong buying season. And again, we're just in the beginning of fire season as well. And there's uncertainty around that as well. So a period of a bit of uncertainty in terms of markets and in terms of supply over the summertime. We'll just have to see how it plays out. But we come back to longer-term fundamentals, and that's how we run the company. And we're extremely bullish on longer-term fundamentals. And we've seen lots of potential announcements of greenfields. We really haven't seen too many in action to be honest with you.

Yes. Well, I guess, there's kind of a natural bottleneck there just in terms of kind of contractors and equipment suppliers. Ted, is it possible to get a little update on sort of how you see kind of the fire season potentially playing out here? What conditions actually look like on the ground out there?

Well, at this point in time, it hasn't become too serious yet. Alberta, actually, the fire hazard rating is low to moderate right now. So we're not concerned about Alberta at this time. There are a number of fires in BC, and we are moving into a warmer weather period. But at this time, there isn't anything really significant that's affecting our ability to log at this point. So we sure hope we won't have a repeat of last year, but it's still a little bit early.

Can you give us any sense of what you're seeing right now in terms of kind of your outlook for BC log costs? And whether this strong lumber market has led people to be a little more aggressive about what they've been willing to bid for logs recently, logs and stumpage?

Definitely. I mean, we do have a deficit of timber in British Columbia. And we've seen over the last couple of years really log costs move up by almost 10% a year the last couple of years. And I think this year will be no different. It may be even a little bit more given how strong lumber markets are. And again, it's a lot different than in the South when we're buying logs on a daily, weekly basis with low inventories. I mean, we definitely have to start -- it's a bit early now, but we really have to start thinking late this fall about what our buildup will be over the winter season. But I just think that we're going to continue to see log cost escalation in British Columbia.

Okay. Last question for me. Just the housing starts data for June that was out earlier this week was weaker than a lot of us expected. Do you have any kind of visibility in terms of what you're seeing in the market in terms of housing activity?

In all honesty, I don't think our visibility is any better than yours. I think it's 1 month. It's a very -- the summer months are usually a bit of a challenge. The fall is usually a stronger season. And we're still at 1 point -- just around 1.3 million housing starts for the year. And we see that as kind of the magic number, 1.3 million or higher. And so obviously, we'll be watching, like everybody else, what the housing starts will be over the remainder of the year. But given that there is low new home and low existing home inventories out there and there's still a fair amount of pent-up demand, we're still very bullish on the medium-term outlook. We don't, again, spend a lot of time worrying about month-to-month, whether it's housing start activity or frankly lumber market activity.

(Operator Instructions) Your next question is from Paul Quinn from RBC.

Ted, just a question on the pause in the market. Is this pause going to last until the inventory backlog clears in Q4?

Listen, I'm not a forecaster, but I can't see that happening because a good part of the backlog has already occurred. And let's remember, we probably had a larger backlog than most. But I think people are just nervous. I mean, it's been a long time since people saw $600-plus lumber. And so I think people are very nervous on the buying side. That being said, we've seen what happens when we have either a supply disruption or order files start to grow on the supplier side. So Paul, I can't really forecast it, but we're still pretty bullish about the second half of the year in terms of our financial results.

Okay. And then maybe you can make a comment on just offshore demand given the pause in the U.S. markets right now.

Yes. Our offshore demand continues to be strong. I think, if anything, it really comes down to what suppliers want to do. I mean, our company has really tried to take a very fairly consistent approach to offshore markets. We want to continue to grow and diversify our market base. So we really haven't had a challenge this year selling our, let's call it, our allocation or our budget for offshore markets.

Okay. Then just on softwood lumber deposits. It seems with the high pricing, the deposits have been almost like twice the rate as lumber 4. Maybe you could give us a total of what you've deposited with U.S. Treasury to date and whether that makes any change in the conversation between you guys and the U.S. industry.

Well, while my friend, Chris, is looking at that number, and I know it's definitely a few hundred million dollars for us, there is zero conversation on this issue between Canada and the U.S. And in all honesty, I mean, I think there is other bigger and broader trade issues that are much more important for our 2 governments. And given how strong lumber markets are, it really doesn't appear to be on the radar for anybody in the industry or in government. Chris, did you have a...

Yes, Paul, we laid that out in Note 13. It's USD 171 million in the case to date.

For the year?

Case to date, like cumulatively.

Okay. Great.

Okay. Then just lastly, on your bullish outlook in the medium and long term, is that something that you guys would take up your -- sort of normalize your trend lumber price assumptions on?

Well, we're doing a fair amount of work on that obviously as we think about capital allocation, as we think of share buybacks, as we think of acquisitions, as we think about capital. And I think ultimately, there's factors that are going to impact the long-term trend price, and I think one of them are BC log costs. We need to think about that. We need to think about the fact that supply, as everybody knows, is going to be relatively constrained with the exception of potentially the U.S. South. And in all honesty, we really think about trend when we're looking at really major, major decisions. But we're -- I think everybody is spending time re-evaluating what that really means. But it's obviously, in our view, materially higher than it was historically really given, as I said, supply-demand -- really, the supply restrictions and BC log costs.

(Operator Instructions) There are no further questions at this time. Please proceed.

Well, again, thank you, everybody, for joining on the call. And we'll be here today if you've got any further questions and enjoy the rest of your summer. Thank you.

Thanks.

Ladies and gentlemen, this concludes your conference call today. We thank you for participating and ask that you please disconnect your lines.