威爾豪瑟 (WY) 2013 Q2 法說會逐字稿

Good morning. My name is Brent. I will be your conference operator today. At this time, I would like to welcome everyone to the Weyerhaeuser Q2 2013 earnings conference call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks, there will be a question-and-answer session.

(Operator Instructions)

I would now like to turn the call over to Katherine McAuley, Vice President, Investor Relations. Please go ahead, ma'am.

Thank you, Brent.

Good morning. Thank you for joining us on Weyerhaeuser's second-quarter 2013 earnings conference call. This call is being webcast at www.weyerhaeuser.com. The earnings release, analyst package, and web slides for this call can be found at our website or by contacting April Meier at 253-924-2937.

Please review the warning statements in our press release and on the presentation slides concerning the risks associated with forward-looking statements as forward-looking statements will be made during this conference call. On the call, we will discuss non-GAAP financial measures, and a GAAP reconciliation can be found in the package.

Joining me this morning to discuss second quarter results are Dan Fulton, President and Chief Executive Officer, and Patty Bedient, Executive Vice President and Chief Financial Officer. Doyle Simons, CEO-Elect, is also with us this morning. Doyle becomes President and Chief Executive Officer on August 1. I know you are looking forward to hearing from Doyle, but the purpose of this call is to focus on second-quarter earnings and performance.

As summarized on chart 1, Weyerhaeuser reported second-quarter 2013 net earnings to common shareholders of $196 million, or $0.35 per diluted share on net sales of $2.1 billion. Turning to our business segments, my comments reviewing the second quarter of 2013 refer to changes from the first quarter of 2013.

Beginning with Timberlands, charts 2, 3, and 4. Timberlands contributed $114 million to earnings, $10 million more than in the first quarter. The disposition of non-strategic Timberlands in Q2 was $14 million. Non-strategic Timberland dispositions were $3 million in Q1. Export demand continued strong as export log sales rose 27%. Western log price realization increased 9%. Both export and domestic prices were higher. Southern log price realizations were flat. Seed harvest volumes declined 4% in the west and were essentially flat in the south. Road and silviculture expenses seasonally increased.

Wood Products, charts 5 and 6. Wood Products contributed $136 million to earnings, $42 million less than in Q1. During the quarter, lumber sales volumes increased 13%, and oriented strand board sales volumes rose 3%. Price realizations declined 8% for OSB, and lumber price realizations were slightly lower. Engineered wood product volumes were flat while prices increased 4% for both solid section and TJI. Log costs were higher in the west. Manufacturing costs increased due to down time and repairs associated with the fire at our Arcadia, Louisiana OSB mill. Engineered Wood Products maintenance expense was higher than normal, and raw material costs increased. Margins in the distribution business were adversely affected by the steep drop in commodity prices during the quarter.

Cellulose fibers, charts 7 and 8. Cellulose fibers contributed $57 million to Q2 earnings, $26 million more than in Q1. Scheduled maintenance costs were $7 million lower than in the previous quarter. There were 12 annual outage days. Higher productivity resulted in a 4% increase in pulp production. Energy fiber and chemical costs were lower. Slightly higher electricity sales at Grand Prairie also contributed to lower manufacturing costs.

Real estate, charts 9, 10, and 11. Real estate contributed $14 million to earnings, an increase of $14 million from the seasonally weak first quarter. 636 homes were closed in second quarter, a 25% increase over the same quarter last year and a 37% increase from the first quarter. The single family gross margin increased to 21.6% due to mix. The average closing price increased 3% to $405,000. At the end of the second quarter, the backlog -- the number of homes sold but not closed, rose 27%. Q2 includes $2 million in earnings from land and lot sales.

Unallocated, chart 12. Unallocated expense in the quarter netted to zero. The elimination of inter-segment profit in inventory and LIFO was an expense of $24 million in Q1 compared to a gain of $8 million in Q2. Unallocated share-based compensation was an expense of $7 million in Q1 compared to a gain of $5 million in Q2 due to the change in stock price.

I will now turn the call over to Dan Fulton. Dan?

Thanks, Kathy.

Good morning, everyone. Thanks for joining us today. We've had a very busy quarter at Weyerhaeuser. This morning, I will provide some color on our second-quarter performance beyond the specifics that Kathy has just reviewed. In addition, on June 16, we made a series of significant announcements that we discussed in a call on June 17. Following my discussion of second-quarter results, I will recap those announcements and provide an update related to those matters.

Let me first address our second-quarter results. I'm pleased to report that earnings for the second quarter increased significantly from the first quarter to more than double last year's second-quarter results. As noted in our earnings release, it is a fourfold increase before special items.

During the quarter, the US economy sent mixed signals. Private sector employment is increasing, partially offset by fiscal contraction. Consumer confidence in June increased to its highest level in five years. This is a big factor in bringing buyers back into the housing market. As I discussed during our May analyst meeting, we still believe that we're in the early stages of a longer term return to trend levels of housing starts.

Existing home sales continued to improve both in volume and price. Resale inventory continues to be limited. New home sales continue to increase, and new home inventory continues to be especially tight. There was less than a four-month supply available in June.

Total new housing starts in June were a seasonally-adjusted 836,000 with a bit of a shift towards a higher percentage of single-family homes. Forecasters now estimate that there will be approximately 1 million starts in 2013. Most projections for 2014 are up an additional 20% to 25%. Home prices for both resale and new homes continue to rise in most markets. Both the recent Case-Shiller and national association of Realtor indexes report year-over-year increases of 10% to 15%.

The greatest uncertainty in the US economy today seems to be the role of the Fed in managing interest rates and the signaling about its strategy to taper asset purchases. Global economic activity affects our cellulose fibers and Timberlands business segments, and growth remains fragile. The US dollar continues to strengthen against the Canadian dollar and the euro, and we've seen a significant weakening in the Japanese yen as a result of government policy designed to spur domestic growth.

Now, I will comment on the performance in each of our businesses in the second quarter, starting with Timberlands. In Timberlands, as Kathy noted, operating earnings were essentially flat quarter over quarter with total earnings up slightly due to disposition of non-strategic Timberlands. In the West, we continued to benefit from our long-term strategy of maximizing returns by leveraging log exports. Japan remains our primary export market, but all of our Pacific Rim markets remain strong with volume and price increasing in the quarter. Our new Longview Timber acquisition is a perfect fit with this strategy as these acres are well-positioned to flow volume to Weyerhaeuser's strategically located Pacific Coast export facilities and then to overseas markets.

The market story in the south hasn't changed much from last quarter. Harvest volumes were flat. Sales volumes increased slightly, and prices remained essentially flat. As US housing continues to recover, we expect southern log volumes to gradually improve, but with a somewhat slower price response as deferred harvest volume comes back into the market. Our Timberlands operations are focused on extracting the most value from the current market, relying on our low-cost, scale harvesting and hauling capabilities, as well as directing our logs to the highest end use market.

In wood products, we hit another strong quarter though earnings declined quarter over quarter. Wood Products contributed the highest earnings of all of our businesses in the second quarter, $136 million, and delivered $227 million in cash flow. Over the last few months, the question frequently asked is whether the market has bottomed. We entered the second quarter with lumber and OSB prices at levels not seen since the top of the last housing boom. Prices peaked in the early weeks of the quarter, then fell steeply until bottoming around the end of the quarter. From peak to trough during the quarter, the random lengths composite lumber price fell almost 30%, and the random length index for 3/8 inch OSB fell over 40%.

Despite these significant price adjustments during the quarter, year-over-year, our realizations are up over 50% for OSB and almost 25% for lumber. While lower than the peak, at the beginning of the second quarter, prices are at a level that provide opportunity for good returns for our Wood Products businesses.

As I have noted in the past, fundamental demographics and improving consumer confidence are major factors in bringing buyers back to the market. Housing is recovering, but has a long way to go before reaching trend. Our Wood Product volumes in the second quarter support this point. We had solid volume take-away across all product lines. As we look forward, we continue to be encouraged by the opportunities we have in wood products. We're taking advantage of improving demand for our lumber, OSB, and engineered wood products. At the same time, we continue to focus on operational improvements that reduce costs and improve revenue opportunities.

Moving to WRECO, as Kathy noted and as you can see on our web slides, volume, price, and margin all increased during the quarter. Volume increased as a result of normal seasonality as well as continued recovery toward long-term trend levels. Our community count increased over 10% from the first quarter, leading to a strong increase in sales. We remain on pace to increase our net community count by 16% this year.

June sales were unseasonably strong. This is the first time that June sales exceeded May sales since 2005, a signal of continued recovery in our markets. Second-quarter sales activity was strongest for us in the California markets of LA, Ventura, and the Inland Empire, followed by Phoenix and Houston. Prices were up in all of our markets quarter-over-quarter. Last quarter, I expressed concerns about cost increases eroding margins of pre-sold homes. However, our experience in the second quarter is that prices are increasing faster than costs, allowing us to maintain and gradually grow margins.

Even with the increasing level of closings during the quarter, our improved sales raised our backlog by over 25% over the prior quarter at almost 40% year-over-year. In 2012, we closed over 2,300 homes. At our analyst meeting in May, we forecast that 2013 closings would increase to 2,800. Today, we estimate that we'll close nearly 3,000 homes this year. We expect a large percentage of our backlog will be delivered in the fourth quarter, historically our most active quarter for home closings.

My final business comments relate to our cellulose fibers segment. Overall market conditions for pulp and liquid packaging were again relatively stable in the quarter. Our earnings improved significantly, primarily as the result of reduced maintenance expense and higher productivity. Pulp sales volumes were essential flat while volumes increased modestly for liquid packaging.

When we talk about the strategy for our cellulose fibers segment, we focus on three elements. First, we strive for continuous improvement in our manufacturing through increased operating efficiency and reduced costs. Both of these contributed to our quarter-over-quarter improvement. Second, we need to continue to develop innovative products for new markets and improved margins. During the quarter, we added several new customers for our Pearl product which will lead to future increases in sales volume. We also moved closer to commercialization of our Thrive cellulose-based composite product. And third, we want to support our growing global customers. In June, we completed the qualification process and shipped our first commercial product from our new modified fiber facility in Gdansk, Poland.

Now, I will briefly recap the major announcements that we made on a very busy Father's Day, June 16. First, we announced the acquisition of Longview Timber, LLC, whose primary asset is 645,000 acres of unique, high-value timberlands strategically located in Washington and Oregon. This acquisition expands our timber holdings in the Pacific Northwest by 1/3 to approximately 2.6 million acres. It also increases the total amount of timberlands that we own or control to nearly 7 million acres. The total purchase price, including the assumption of debt, was $2.65 billion. I'm pleased to report that this acquisition closed earlier this week, and Tom Gideon and his Timberlands team are now on the ground working with the Longview Timber team.

This timberland enhances our leading position as the largest owner of timberland in the region. These lands are highly complimentary and contiguous with our existing ownership in the area. We intend to leverage our siliviculture, infrastructure, logistics, and marketing expertise to reap the full potential of this valuable asset.

Second, in conjunction with this acquisition, we announced that our Board intends to raise our quarterly dividend from $0.20 to 0.22 per share. This increase should begin with our third-quarter dividend which will be declared in August and payable in September. This will be our third dividend increase in the last four quarters, bringing our total dividend increase to 47% over that time.

Third, we announced that our Board has authorized a process to explore a range of strategic alternatives for WRECO. These alternatives could include continuing to hold and operate WRECO for a merger, sale, or spin-off of the business. Given the improving fundamentals of the housing market generally and of our own operations and the strategic growth markets, especially California, we want to explore strategic alternatives for the business to ensure that WRECO achieves its full potential.

There can be no assurances that the Board's evaluation process will result in any transaction, or that any transaction, if pursued, will be consummated. However, we are fully engaged in the process, and we are encouraged by the interest that we've received. We do not intend to comment further unless or until the evaluation process is completed or terminated.

Our final announcement on June 16 was to report that I will be stepping down as President and CEO of Weyerhaeuser on August 1. Doyle Simons, who was previously Chairman and CEO of Temple Inland and has been a member of the Weyerhaeuser Board since June 2012, has been appointed by the Board as my successor. On August 1, I will become Executive Vice Chair, in which capacity I will serve until my planned retirement in October when I turn age 65. After August 1, I will provide support to Doyle as we complete a transition of responsibilities.

It has been a privilege for me to have been able to serve as President and CEO of the Company for the past five-plus years, and I'm especially pleased to have Doyle follow me. Now, before turning the call over to Patty who will discuss our third-quarter outlook as well as provide a financial update, I would like to give Doyle an opportunity to say few words. Doyle?

Good morning, everybody, and thank you, Dan.

I am truly excited to take over as President and CEO on August 1, and Dan will be a very tough act to follow. As Kathy mentioned, the focus of today's call will be our second-quarter earnings. I look forward to speaking with each of you on the third-quarter call and beyond.

With that, let me turn it the over to Patty to discuss our third-quarter outlook.

Thanks, Doyle, and good morning, everybody.

The outlook for the third quarter is summarized on chart 13. I will begin the outlook discussion with Timberlands. In the west, export price realizations and volumes are expected to be lower for the quarter. The Japan market is normally seasonally softer during the summer months due to rainy weather, and Japan continues to experience carpenter and construction labor shortages as a result of the strong housing market. In addition, China has entered its typical July slowdown.

Domestic log markets in the west are anticipated to be weaker during the third quarter due to lower sawmill production in the west as a result of pressure on lumber pricing. In addition, we typically see more logs coming to market in the summer from the small, private non-industrial landowners who don't have adequate Road systems to harvest on a year-round basis. As a result, we traditionally plan a lower seed harvest volume in the west for the third quarter. We also accelerated some harvest into the first half of this year to take advantage of the strong export market. While we do anticipate a slower third quarter, we expect activity will again pick up later in the year. In the third quarter we will also see increased road costs in the west as we expect more seasonal Road maintenance and spur Road building as is typical this time of year.

In the south, overall price realizations are anticipated to be comparable to the second quarter. Although seed harvest volumes should be higher due to seasonally better weather, this increased volume will carry a heavier mix to first thinnings. We are also planning higher costs from seasonally increased silviculture treatments which again is typical of the quarter. We expect that earnings from non-strategic landfills will be somewhat higher in the third quarter compared to the second quarter.

As Dan mentioned, we closed on the acquisition of 645,000 acres of high-value timberlands in the west just a couple days ago. We're very excited about the opportunity that these lands provide going forward. However, the third-quarter results will only include about two months of activity. The positive effect of these incremental earnings will be more than offset by the seasonal slowdown in our existing operations. And, therefore, we expect that overall earnings in our Timberlands segment will be lower in the third quarter compared to the second quarter.

In wood products, as Kathy discussed, prices for both lumber and OSB declined throughout the second quarter, such that we began this quarter at significantly lower levels than the average of the second quarter. Current prices for lumber and OSB are improving. However, we expect third-quarter average realizations for OSB will be down substantially compared to the second quarter, and average realizations for lumber will also be lower.

Engineered wood product sales realizations are expected to improve modestly. Sales volumes for OSB and engineered wood are expected to increase while volumes for lumber should be comparable to the second quarter. Log prices in the west should be lower in the third quarter, comparable to the second quarter in the south and slightly higher in Canada.

OSB and engineered wood manufacturing costs should improve given higher production, and we expect lower OSB web costs for I-joists. The improvement in manufacturing costs will not be enough to offset this quarter's lower average sales realization in OSB and lumber, and as a result, we expect that earnings in our wood products segment will be significantly lower in the third quarter compared to the second. However, given the recent improvement in prices, a strengthening housing market, and our continued focus on operational improvement, we expect that earnings will be well above the third quarter of last year.

In cellulose fibers, we expect modest improvement in average sales realizations and volume for pulp and liquid packaging board. The effect of these increases will be offset by higher maintenance costs associated with increased planned annual outage days in the third quarter compared to the second, as well as the impact of the loss of productivity associated with the maintenance down time. We expect that third-quarter earnings in our cellulose fiber segment will be comparable to the second quarter.

In real estate, we expect continued improvement in our Single Family Home Building business as a result of a strengthening housing recovery, especially in southern California, as well as a seasonally stronger third quarter compared to the second quarter. Sales have continued at a brisk pace, and we expect to close over 700 homes in the third quarter compared to the 636 closed in the second quarter. Average closing prices are anticipated to be comparable to the second quarter at about $400,000 per closing. Price increases have been implemented in most of our communities which will result in margin expansion for future closings.

We expect margins of approximately 20% in the third quarter which is slightly lower than the second quarter due to mix. Selling costs will be higher as a result of the increased closing volumes. We anticipate a slight increase in our earnings from land sales compared to the $2 million in the second quarter. Overall, we expect that earnings in our real estate segment will be higher in the third quarter compared to the second.

Now, I will wrap up with some overall financial comments. I will refer you to chart 14 for this discussion. We ended the quarter with a cash balance of just over $900 million. This does not include the cash raised in our June equity offering of approximately $1.45 billion dollars. These funds are segregated on our balance sheet as they were designated for the acquisition of the Longview Timberlands. Excluding these funds, cash increased approximately $270 million compared to the end of the first quarter. Cash from operations increased from a negative $61 million in the first quarter to $374 million in the second quarter.

Year-to-date for the first half of the year, we had capital expenditures including reforestation of approximately $100 million. We still expect to spend up to $300 million for the full year so the activity will pick up in the second half of the year. Excluding the Longview acquisition, we have debt maturities for the remainder of the year of just over $230 million of which just over $160 million is due in the third quarter.

With the closing of the Longview acquisition earlier this week, we assumed debt of just under $1.1 billion. We expect that we will repay this debt in the fourth quarter and replace it with unsecured, longer-dated maturity debt. We expect that this will be a combination of bank and public market debt, the mix and timing of which is still to be finalized. Finally, chart 15 summarizes the changes in our share count as a result of the offering we initiated in June.

With that, I will turn the call back to Dan, and I look forward to your questions.

Thanks, Patty.

As I stated at the beginning of my remarks, we had a very busy quarter at Weyerhaeuser. We had solid financial results with all four of our businesses contributing to increased profitability. From a strategic perspective, we're excited about our acquisition of the 645,000-acre Longview Timber asset. This acquisition is consistent with our stated intent to play to our strength and grow our timberland space, taking full advantage of our timber reed structure. And, finally, the strategic review of our WRECO business evidences our commitment to ensure that WRECO achieves its full potential for the benefit of our shareholders.

And now, we welcome your questions and comments.

(Operator Instructions)

Your first question comes from the line of Gail Glazerman.

Dan, best of luck. You talked about in WRECO seeing strength in June, business busier than May. I'm wondering if you can give perspective on July? With interest rates rising, have you seen any sort of changes in consumer behavior in WRECO?

We have not seen any significant changes in behavior, Gail. The thing that was noteworthy about June was as we look at the pattern of sales, it was noteworthy because normally we see some summer slowdown. But, in fact, June being stronger than May -- it was the first time that's happened since. So, to me, that is evidence that we are on a path to this longer term recovery. If you think about where housing starts are today as compared to long-term trend levels, we've got a long way to go. So, we should expect to see steady improvement, and so we're breaking some of these seasonal patterns. And, that's a good thing.

Patty, the wood product guidance for the third quarter? Are you assuming that the recent price improvement in OSB and lumber continues? Or, is it kind of based on current levels of pricing?

It is that it will continue to improve for all the reasons that we talked about in terms of the underlying fundamentals, but it will still be well below what the average was for the second quarter. But, as I said, we do expect that while it will be less than what we earned in the second quarter, it will still be well above the third quarter of last year. So, I think that will give you a little bit in terms of the guideposts of what we're looking at out of the wood product segment.

Okay. Thank you.

Yes. Next question?

Your next question comes from the line of Mark Connelly with CLSA.

Thank you, and congratulations both Dan and Doyle. So, your pulp business is doing fine. What I was wondering is if could you tell us how well you think the market has absorbed the new capacity that other people have been bringing on. You haven't seen quite the impact that some others have, but I'm curious if you think competitive pressure there is still significant.

The second, more specific question with respect to logs in the south. I'm curious how much the wet weather has actually affected your production? Obviously, we're all talking about demand, but I'm curious whether we are going to see a production impact from all the rain that we've had?

Thanks, Mark. With respect to the pulp market, Patty commented thinking about third quarter guidance. We are seeing relative stabilization. There has been some change in supply, some going out of the market with Rainier completing their shift in their mill. Fundamentally, we rely on the relationships with our longer-term customers. And so, we feel relatively confident about demand levels going forward. We would certainly benefit from a pickup in global growth because there has been some softness, but at this point, I think that the reliance that we have on our longer-term relationships with large global customers has served us well.

I think the other thing, as we think about our sale of fibers business, relative to other commodities plus producers is that we do have a number of specialty products within that particular space. I think Dan referenced the Pearl product. And certainly, our cross-linked product that is -- commands a higher price. Also, probably underpins the fact that you haven't seen as much pressure on ours as probably some of our competitors.

And then, you had a question about logs in the south, Mark?

Yes, I'm just curious whether the weather that we've been seeing, mostly in the southeast, has had much impact and is going to have much impact on you down there?

We do not expect a significant impact in the third quarter.

I think that as we look at our Timberlands business, we do expect that we will harvest more fee volume in the third quarter, as I said, which is typical. We did -- probably one place where we'll see some additional impact is from earlier in the second quarter. We would have likely done a little more silvicultural treatment traditionally, but because of the wet weather some of that did get deferred into the third quarter. So, it's really more from a [copy] perspective that you'll see some impact for our particular operation.

That's super helpful.

One other element, Mark, is that we have generally a road system that's in better shape than perhaps some of the smaller owners.

Right, thank you.

Next question?

Your next question comes from the line of Chip Dillon with Vertical Research Partners.

Yes, good morning, and again congratulations to Dan and Doyle. Wanted to ask kind of an arcane question. You mentioned that we don't see improvement in the EBIT of the Timberlands segment. I was wondering if one reason could be accounting for the write-up of inventory of logs that you obviously have to do when you make an acquisition, and as you work down those inventories, if they've been written up that that could help raise earnings in future periods?

Chip, there really isn't a big impact from the write-up of log inventory in that we don't carry big log inventories in the Timberland business in the west. So, if you're thinking about large log decks that typically you would see in the west, those might be in competitor sawmills, but certainly not in the timberland business. We really won't have a big inventory as we make the acquisition, and Longview typically didn't carry big log inventories as well.

So, we really look at the activity in the third quarter from Longview being the fact that we will really only have that for about two months, and then also they have the same impact in terms of pricing for the third quarter that I talked about in the export market certainly that we are looking at as well. We do believe that as we go into the fourth quarter, we expect that pricing will be picking up, and that we will then also have had the two additional months on the ground to really start to work on some of the logistics and marketing synergies that we talked about during the call on the announcement of the acquisition.

Got you. Then, just a quick follow-up. As we go from the third to the fourth quarter, how will the maintenance expense in the cellulose segment change? More specifically, the impact of not taking as much down time? If we leave price neutral.

Well, we are really only talking about guidance for the third quarter on this particular call, Chip. So, in terms of giving fourth quarter guidance, we'll probably defer to the fourth quarter. But, most of our maintenance did happen to a great extent earlier in the year so I would expect that it will be somewhat lighter, but I don't have specific guidance for you.

Okay. That's helpful. Thank you.

Your next question comes from the line of Alex Ovshey with Goldman Sachs.

Thank you. Good morning, everyone.

Good morning, Alex.

Dan, best wishes for your retirement, and we appreciate the interactions that we've had over the last couple years with you. Thank you for that. Couple of quick questions for you. First, seems like you saw pretty good pricing momentum on the EWP side. Can you just talk about how you see your utilization rates in that business,and opportunities perhaps for a little bit more prices as we move through the balance of 2013?

Thanks, Alex. As we've talked about engineered Wood Products, it is the product line in Wood Products that is most closely tied to new home construction. Utilization rates have been relatively low in this business during the recession, and we've been talking about the fact that we would expect it to start to pick up with housing recovery. So, we've seen -- I would say early stages of that. And, as construction starts continue to pick up, that will affect that business pretty significantly because the products that are produced are going into new home construction. And, as we talk about our own experience in WRECO with an increase in sales, and we look at broad housing start numbers, we are starting to see the momentum of this recovery and it should translate into increased sales activity for the engineered products. With the facilities that we've got, that will be evidenced in our higher utilization rate. So, that's what we've been expecting to happen, and so we're starting to see early evidence of it.

Thanks, Dan. Just a question on [solid log] prices in the US. We continue to flat line even though we're in year two of a housing recovery. Do you think there's much visibility there in terms of just where the inventory levels actually are? And, how long it would take to be able to work through the deferred harvest levels in the US south and actually see some sort of uptick in prices in [solid log] the south?

We've discussed in the past the fact that there were more deferrals in the south than in the west because of the fact that the west has export potential. Additionally, there are more small landowners in the south, and what we are seeing is, as housing begins to pick up, there is an increase in volume. But, there's not that significant cost pressure that there is in the west. So, it will happen eventually, but I can't call the timing.

Got it. I'll turn it over. Thank you.

Next question.

Your next question comes from the line of Mark Wilde with Deutsche Bank.

Best wishes, Dan.

Thank you, Mark.

Just had two areas I wanted to ask about. First, Patty, can you give us any guidance going forward from kind of harvest volumes and mix at Longview? Both in the third quarter, and then on an annual basis thereafter?

I really don't have numbers to give you on that, Mark, but I would tell you that we will be looking at accelerating some harvest over what historically Longview has done. So, maybe pointing you toward the filings that we made of the Longview financial statements in the first quarter of this year. So, you can see 2013 first quarter, and then 2012 as well. We'll be accelerating that harvest because of the maturity of the forest as well as, as we enter again into the fourth quarter, we'll see export activity beginning to pick up. As well as, as we look at lumber pricing continue to improve domestically in the west, we expect that we'll be seeing a pickup in domestic log activity as well.

Okay. The other thing I want to ask about is the distribution business. I really appreciate the fact that you've segregated that out now. You had a $13 million EBITDA loss in the second quarter. We know that there were inventory issues with the falling prices. I'm just curious about how you would think of -- have us think about that business on a going-forward basis? And, also, if there's sort of a level of housing starts that you think will get you to EBITDA breakeven in that business? And, maybe even what like 1.5 million starts might mean for profitability in the business?

Thanks, Mark. In the second quarter, the operating losses that we had in our distribution business were in large part related to the significant drop that was experienced in prices for the commodity OSB and lumber. Some of that is a function of the level of inventory that we're carrying. Some of it a function of the challenges in that business with that kind of a price decline. Longer term, I can't put a number on housing starts as to what level it will take in order to return that business to profitability. I can tell you that our focus is on improving operations today as it has been with our other wood products businesses in order to be profitable at the level of starts that are available to us in today's market, rather than projecting into the future. So, as is the case with our other wood products businesses, we have a significant number of initiatives underway to improve operations. I'm confident that we will see some progress, but obviously, we're disappointed with what happened in the second quarter. And, we believe that as the market picks up, we will certainly benefit from the leverage of that business, but we also need to make operating improvements.

Okay. Very good. Thanks, Dan.

Next question.

Your next question comes from the line of Anthony Pettinari with Citigroup.

Congratulations to Dan and Doyle. Just following up on wood products, I was wondering if you could share your operating rates for the three businesses? And, during the quarter, we obviously saw a decline in lumber and OSB prices, and there were discussions of some mills out west take down time. And, I'm wondering if that lumber price weakness caused you to step back from adding shifts or any flex capacity? Or, if you could share with us what you saw in the quarter.

In the second quarter, Anthony, our operating rate for lumber was elevated slightly so we operated at about a 93% operating rate. OSB operating rates were flat to the second quarter at about 88%, and in our I-joist business, we were roughly 45%. In solids, a little bit north of 55% which is consistent with where we were in the prior quarter. In terms of our production rates, we do adjust based upon market demand. We had -- in each of our markets we focus on operating the right shifts at the right time with the right capacity, and we'll continue to adjust to market conditions.

Okay. That's helpful.

As we -- go ahead, Anthony.

Maybe switching to the log side, for 3Q in the west, you referenced potentially weaker export prices. And, I'm wondering, as you went from maybe the end of the quarter into July, if you have any -- if you could share any kind of view on log prices to Japan and China. And, in your comments, when you discussed sort of weakness in China, you seemed to reference it as being pretty seasonal or sort of typical seasonal weakness, and I was just wondering if you could give us a view on the Chinese market as well?

Sure, Anthony. It's Patty. As we think about the China market, it, as well as Japan was strong in the first half of the year. And as I said, typically in China when you get into the July time frame, very hot. The workers really go back to more of the rural areas, and so we always see somewhat of a seasonal slowdown in China. And, that really is our view on China as we go through the third quarter, which will be softer, but we expect it will pick up again in the fourth quarter. So, that really is seasonal from our perspective. And, your other question was --?

Just in terms of price movement from June to July, are you seeing a meaningful deterioration of export prices out west? Or, are they basically stable, or what are you seeing?

It's a little softer as we've talked about on the guidance. It's not a huge drop. Prices are still good. It's just that relative to the second quarter, they will not be as strong.

Okay. I'll turn it over.

Anthony, just to add a little bit of color, we had actually very strong sales in the second quarter to China. They picked up quite a bit from the first quarter. China is primarily a buyer of white wood rather than Douglas fir. As you know, our Weyerhaeuser lands are very heavy to Douglas fir as are the Longview Timberlands. But, the Longview timberlands have a little bit higher percentage of white wood, and we'll be able to take advantage of that in providing some additional supply to the China market.

Appreciate the detail. Thank you.

Next question.

Your next question comes from the line of George Staphos with Bank of America Merrill Lynch.

Hi, everyone. Good morning. Congrats again to both Dan and Doyle. My question, my first one, was on WRECO. You mentioned that sales levels have been brisk. June was an outlier relative to May versus the last seven years. You mentioned that pricing seems to be outpacing costs, if I heard you correctly. From the homebuilders as well, you've been seeing generally strong outlook since the third calendar quarter. And so, while I realize that you're seeing a modest improvement in WRECO profits thus far in the third quarter in your guidance relative to 2Q, I'm wondering why we aren't seeing a little bit more lift now, Dan, in terms of homebuilding profits. In the past, you've talked about mix. What factors are then limiting factors now, if any? And, when do you hope to surmount those? Thanks. And, I had a follow-on.

We talked about the increase in sales activity throughout the first and second quarter, and the impact on our backlog. So, at this point, when we talk about backlog, George, be aware that backlog includes -- so it's sales of homes that have not been closed yet, and they may be homes that are completed or under construction or still to be built. We have very low levels of standing inventory, and so for the most part, our backlog has a longer term delivery cycle which would shift more of those closings in backlog to the fourth quarter as compared to the third quarter. So, you'd see we've done so far in the first two quarters. Patty talked about the deliveries that we expect in the third quarter. As I mentioned in my remarks, we've now increased our expectations for closings for the entire year. We expect to have a very strong fourth quarter, likely a higher percentage of fourth quarter closings than we have seen in quite a number of years. Even though fourth quarter is generally stronger, this fourth quarter I think will be stronger than most.

There is a mix shift that takes place quarter to quarter. It's impacted by where those houses are. So, we had a higher percentage in the second quarter in San Diego, including some homes that we thought would close in the third quarter that actually closed at the very end of the second quarter. And, at the same time, we had a shift of some homes that we thought were going to close in the second quarter that moved into the first couple weeks of the third quarter. So, that mix shift does matter. The most significant factor in what you highlighted is that in our remarks we said that we are starting to see some margin improvement as we're able to pass through price increases. So, on a same-store basis, we are seeing margin improvement, but in some quarters, that's clouded by mix. Our view is that over the longer term, we should expect to see those higher margins show up in the closings that we would see coming in the fourth quarter and perhaps even into the first quarter of next year.

I understand. Dan, the relative question I had, in the last few quarters you talked about mix being dampened by, I think, some level of more affordable housing being built into your communities. Will that factor be lessened to any great degree over the next few quarters? Or, is that always going to be something you have to contend with? Should we see a better margin from here on out as that mix factor lessens hopefully? Thanks.

So, what you're referring to is the issue of margins on affordable homes that we are required to build in some master planned communities as part of the overall master plan entitlement. It has affected us most significantly in the Maryland and Virginia suburbs of Washington, DC where we build affordable townhomes as part of larger master plans. That will still be a factor, and it's a factor because when we deliver those affordable homes, we generally do it with a block of homes at one time. And so, there's a larger percentage, perhaps, in any given quarter, but as our volume picks up generally, that would be a smaller and smaller percentage of our overall closings, and so we should expect that the impact of that will be diminished as we go forward.

Very helpful. Thank you, Dan.

Next question.

Your next question comes from the line of Steve Chercover with DA Davidson.

Good morning, everyone. I guess, like Mark Wilde, I was trying to get some help modeling Longview. I'll try a different approach. If we look at the purchase price and assumed a 6% discount rate, that would imply annual sales of $160 million. Would that be a good way to add to your legacy land base? And then, maybe give a little extra bump for the synergies and increased harvesting that you plan?

I think the way to think about it, Steve, is really to look at what Longview has been harvesting, and I think that's around the 475,000 to 500,000 board feet. And, I think also to think about your outlook for pricing in terms of how you think about what pricing will do on a go-forward basis, considering that there is a rich mix in terms of a mature log. But also, logs that can go into the Japan market. And, that as we look at what will happen with their cost structure, we do believe that the synergies that we talked about of about $20 million we will get certainly over time. But, we'll get a significant percentage of that even yet this year in terms of on a run rate perspective. And, that we will also access the marketing expertise that we have as well.

On the flip side, as you think about the historical amount for Longview, we will take out the purchase price, most of which will be timberland, and we will pool that with our western lands in terms of a single rate for depletion. I think I would refer you to the pro formas that were in the prospectus that we filed for the equity offering, and you can see how that will roll through the financial statements. For the third quarter, that pooling didn't have a significant impact on the results, but it could in the future as we go forward, given the mix of what we would harvest from Longview and what we would harvest from our existing western lands.

Great. Thank you for that. Just as a follow-on, having done such a large transaction, should we consider you to be still in the market? We know you want to grow your land base. Or, are you out of the market for timberlands for a little while?

We're always in the market, trying to improve -- what I would call improve our hand in our land position. A lot of that activity happens on a quarter-over-quarter basis with 1031 exchanges where we can improve the return on -- to hold on all the lands that we have. And, the way we do that is we have to maintain an active position in the market. So, we're exposed to opportunities that emerge. We'll take a look at them, and as we talk -- when we announced the Longview acquisition, we've looked at a lot of property over the last several years. And, this was really one that had an extraordinary fit to us for a lot of reasons. So, we will be cautious, but for the right property, we will be certainly taking a look. But, we've got a lot to absorb with the Longview acquisition, and our focus right now is to integrate that into our operations and to capture all the opportunities that it brings to us.

Great. Thank you. And, thanks for all your help over these years, Dan.

Thank you.

We have time for one more question.

Your final question comes from the line of Mark Weintraub with Buckingham Research.

Thank you. Two quick ones. One on the pulp business. You had some initiatives underway with the intent of reducing maintenance costs? Or, spreading that out over 18 months instead of 12 months. Can you give us an update on how that is proceeding? And, whether that will have any impact on 2014?

We've made a lot of progress in shifting to an 18-months scheduled maintenance schedule, Mark. We've talked about this over the last couple of years. It takes some time to implement this on a mill by mill basis because in some cases we have had to invest in some operating equipment to allow us to do that. In other cases -- in every case, we have to have an approval from a regulatory body at the state, or if it's not state controlled, even our own insurance carriers. So, we've been working through that process, and it fits. All of our mills, with the exception of Grand Prairie, have received an approval to go to an 18-month outage schedule. Grand Prairie is still being evaluated.

In some cases where we receive an approval, it will be subject to further review after that first 18-month cycle to be sure that we are operating safely. Our focus is to be sure that we're doing it safely. We've made great progress. You should expect to see some of the benefits begin to play out in 2014, but really 2015 probably would be the most significant impact.

I believe at one point you had said about $40 million would be a potential benefit from that. Is that still a good number?

I don't remember what the exact number was that we had before, Mark, but there's no reason that we would see a change from what the number was that we had before. But, I don't have the prior one in front of me. I think just as we think about the mill -- we have underway now with, as we're completing the annual outages for some of the mills in 2013. They are on their 18-month outage so you don't see it in '13, because their outage did take place. But, their next outage will be 18 months from now. So, some will not have an outage in '14. We do have one mill that didn't have an -- won't have an outage in '13. So, what we're trying to do is stagger those because it is a function of not only the maintenance between timing between, but also the staging of customer orders as well. So, it is underway as we speak, and as Dan said, we would expect, with the exception of Grand Prairie, which is still -- we're looking at it. We expect to try to move that one as well, but we would expect all of them during 2014 to be on an 18-month schedule. That doesn't necessarily mean they won't all have an outage in '14 though, but they will be on a staggered basis.

Great. Then, if I'm doing my math right, it seems like you're hoping -- anticipating to have north of 1,000 closings in WRECO in the fourth quarter. And, I'm trying to get a sense as to what type of gross margin you think is embedded in the backlog. I understand that in the third quarter there's some mix which is going to bring the gross margin down a little bit perhaps from the third quarter levels. I think in the past, you have talked about low 20% gross margins. Are we at a point where you're able to achieve those types of gross margins on the backlog that you see? Or, do we have to get to higher run rates for that?

We have identified low 20% gross margins as a long-term number that you should be able to count on. And, over a couple of quarters, we've had some mix issues. I don't want to provide guidance for fourth-quarter margins at this point. You are correct. As you look at the estimated number of closings, and I would fall back to my comments that we've been through a period where we had cost increases that were keeping pace with price increases. And, in the second quarter our price increases outpaced cost increases, and so we are encouraged about the longer-term direction of our margins. As we look at the homes that are in that backlog, we would expect some continuing strength and pickup in margins, but we can't provide at this point a fourth quarter guidance number.

Okay. Appreciate it. Thank you, Dan, for all your help over the last few years.

Thank you, Mark.

Okay. That concludes our call. I'll turn it back to Dan.

So, just some brief closing comments from me. First of all, as always, appreciate your attendance today and your interest in Weyerhaeuser Company. I want to thank all of you on the call for your support during my tenure as the Weyerhaeuser CEO. The past five years have tested us, but through the hard work and dedication of Weyerhaeuser employees, we've adjusted to changing market conditions, and I believe that we're well positioned to continue to improve our performance in order to maximize the value of all of our assets.

And, as I wrap up my final earnings call with you, I look forward to the experience and the energy and the commitment that Doyle brings to his new role, and then I would like to add one final comment, and that is that throughout my entire tenure as CEO, and the many times that we've been together with you in our analyst and investor meetings and on the many calls that we've had for quarterly earnings and other special events, I've been joined throughout that process by Patty Bedient and Kathy McCauley. I just want to say that I've been incredibly blessed to have had their support along our path together, and I want to thank them in front of all of you. I want to direct anybody that has further questions to follow up with Kathy, but we appreciate you joining the call. I am really looking forward to the next phase of Company performance and what Doyle will bring it to. So, thanks very much, everybody, this morning. Appreciate it.

Thank you. This concludes today's conference call. You may now disconnect.