Western Forest Products Inc

TSX:WEF

Earnings Call Transcript 2023-Q2

[Operator]

Good morning, ladies and gentlemen. Welcome to the Western Forest Products Second Quarter 2023 Results Conference Call.

During this conference call, Western's representatives may make forward-looking statements within the meaning of applicable securities laws. These statements can be identified by words like anticipate, plan, estimate, will and other references to future periods.

Although these forward-looking statements reflect management's reasonable beliefs, expectations and assumptions, they are subject to inherent uncertainties, and actual results may differ materially. There are many factors that could cause actual outcomes to be different, including those factors described under risks and uncertainties in the company's annual MD&A, which can be accessed on SEDAR, and is supplemented by the company's quarterly MD&A.

Forward-looking statements are based only on information currently available to Western and speak only as of the date on which they are made. Except as required by law, Western undertakes no obligation to update forward-looking statements. Accordingly, listeners should exercise caution in relying upon forward-looking statements.

I would now like to turn the meeting over to Mr. Steven Hofer, President and CEO of Western Forest Products. Mr. Hofer, please go ahead.

[Steven Hofer, President and Chief Executive Officer]

Thank you, Patrick, and good morning, everyone. I'd like to welcome you to Western Forest Products' 2023 second quarter conference call.

Joining me on the call today is Stephen Williams, our Executive Vice President and Chief Financial Officer, and Glen Nontell, our Vice President of Corporate Development.

We issued our 2023 second quarter results yesterday. I will provide you with some introductory comments, and then ask Steve to take you through our financial results. I will follow Steve's review with our outlook section before we open the call to your questions.

In the second quarter of 2023, we continued to face a more challenging demand environment. Headwinds from rapid interest rate increases over the last year continued to work through the economy. This has resulted in weaker lumber demand and prices compared to the same time last year.

Our second quarter results also reflect an organizational structure which was not aligned to the current operating environment. As a result, we took steps during the quarter to realign and reorganize certain aspects of our timberlands, manufacturing, and sales and marketing groups. This included the optimization of certain operations and the streamlining of operational structures to drive a more lean and nimble organization moving forward. As part of our operational excellence strategic priority, we remain focused on driving improved profit margins going forward, and we'll continue to evaluate all opportunities to do so.

Despite the more challenging environment, we continue to advance opportunities to position our business for long-term success. This including advancing multiple sales, marketing and quality assurance initiatives, to support our customer excellence promise.

We also advanced our BC strategic capital investments to support value-added manufacturing. We completed installation of our MSR grader at our Duke Point facility and are in the process of testing and calibrating prior to commissioning.

We also continue to progress our continuous kiln project at our Saltair sawmill. These investments will support the production of more kiln dried lumber products and move our products further up the value chain to drive increased profitability over the long term. In addition, we remain focused on other strategic priorities, including advancing collaborative force planning activities and partnership opportunities with First Nations and growing our engineered wood products division.

Our balance sheet remains strong, and we remain focused on maintaining financial flexibility to support our strategic priorities and balanced approach to capital allocation.

I will now turn it over to Steve to review our key financial results.

[Stephen Williams]

Thanks, Steven.

Second quarter adjusted EBITDA was negative $12 million, which included an increase of $8.5 million in inventory provisions. Despite improvement in some lumber prices from the first quarter of 2023, weaker pricing in certain lumber segments impacted log and lumber values.

Compared to the same period last year, results in the second quarter of 2023 were impacted by lower lumber prices and shipments, lower log and byproduct revenues and sawmill curtailments as we continue to match production to market demand. These were partially offset by lower stumpage and freight expense, lower export taxes, a stronger U.S. dollar and specialty mix.

In our engineered products division, we continue to be pleased with the performance of our Calvert acquisition, delivering another quarter of EBITDA margins in excess of 20%. Since completing the acquisition in August of last year, we have generated EBITDA of $6.3 million on an annualized basis.

Turning to second quarter cash flow and capital management. We continue with our balanced approach to capital allocation, returning $3.9 million to shareholders via dividends. We also received our income tax refund of $15.2 million. For 2023, we expect total CapEx to be approximately $60 million, which includes a mix of maintenance of business, roads and strategic CapEx.

Our balance sheet remains strong, ending the quarter with $196 million in available liquidity and a net debt to capitalization ratio of 5%. We will continue to prioritize financial flexibility of our balance sheet to support our strategic initiatives and manage through current market conditions.

Subsequent to the end of the second quarter, the Department of Commerce released the final duty rates related to the fourth administrative review. The combined [to all others] (ph) duty rate applicable to Western was 7.99% as compared to the current rate of 8.59%. Softwood lumber duties will now accrue at 7.99% until the completion of the next administrative review, which is scheduled to be completed in 2024. We will record an export duty recovery of approximately $4.5 million in third quarter of 2023 related to the finalization of the fourth administrative review.

Turning to third quarter seasonality. Typical third quarter is going to be challenging operationally, as hot/dry weather can restrict logging activity, reducing harvest volumes and impacting costs. During the end of the second quarter and into the third quarter, we have taken some operational downtime in our timberland operations due to dry conditions. We will continue to manage our manufacturing operating schedules to match production to market demand.

Steven, that concludes my comments.

[Steven Hofer, President and Chief Executive Officer]

Thanks, Steve.

Turning to our market outlook. Near term, we expect lumber markets to remain challenging, as lumber supply and demand rebalances in certain markets. We have seen some positive signs in Japan as channel inventories have rebalanced, but we expect some downward pressure on prices in the near term. Long term, we expect to see growth opportunities for our engineered wood products and lumber business, supported by our strategic capital investments and increased demand for mass timber building in North America. We are highly focused on profit margin and our cost structure across our business. We will continue to deliver best-in-class service to our customers and ensure we create long-term shareholder value as we execute on our strategic priorities.

With that, Patrick, we can open up the call to questions.

[Operator]

Thank you. We'll now take questions from the telephone lines. [Operator Instructions] The first question is from Sean Steuart from TD Securities. Please go ahead.

[Sean Steuart, TD Securities]

Thanks. Good morning, everyone. Thanks for taking the questions. Steven, wondering if you can give us a little bit more detail on some of these realignment initiatives you've undertaken this most recent quarter, and I guess what could follow from that? And just trying to gauge, absent an eventual recovery for pricing for the grades you produce, what you guys can do to improve margins on your end? And if you're able to put any numbers on that, I'm thinking of initiatives you can take that are capital-light to start to turn the margins around?

[Steven Hofer, President and Chief Executive Officer]

Thanks, Sean. Appreciate the question. Normally, we wouldn't publicly comment on our restructuring activity that happens internally. Our focus really was around ensuring very strong alignment and integration between our timberland units, our manufacturing business and our sales and marketing organization. And we certainly saw some opportunities to participate in some shared service initiatives within the respective area of business, as well as between the business units. And so I would say, it's just about understanding the current business environment that we have looking forward for the next 12 to 24 months and ensuring that organizationally that we're structured in the manner that's going to give us the highest probability for success and execution.

[Sean Steuart, TD Securities]

Okay. And a follow-on question on markets. And I guess just excluding Japan and your commodity grade, we've seen sort of consistent pressure for various specialty niche grades you guys produce. And I guess in your sense of how close are we to rebalancing for some of those grades, perception of inventory through the channel. You guys have taken some downtime, I assume others are as well. [Whether] (ph) your sense are close getting towards a rebalance point for some of those niche and specialty grades?

[Steven Hofer, President and Chief Executive Officer]

Maybe I can just share a few comments with respect to a few of the categories. Certainly, when we look at Cedar, overall market demand continues to be slow. We have some categories inside the Cedar profile in timbers and clears that are certainly stronger than the one- and two-inch merch products.

There is some good news coming from our customers in North America that sales in the last few months have improved compared to where we started off at in Q1. The home center business is probably the bright spot of our Cedar business with very strong demand and takeaway for this time of year, and we're seeing it extend into August and September. Having said that, customers are managing inventories pretty carefully and buying within a kind of a one- to two-month window.

And then maybe just one last comment on the Cedar home center business, that's an area of a very strong focus for us. We continue to build out additional programs with the big retailers. We'll see most of that opportunity occur in Q4 and into 2024.

On the industrial side, on the Doug-Fir timber business that happens at Chemainus as well as our Custom Cut group. Overall, demand is stable and pricing is stable. One product category that's had a pretty significant impact on our business in industrials is the mat stock business. And that is primarily rough green, 2x8 mat stock out of Saltair and Ladysmith, and then the 12x12 crane mat material out of Duke Point. And all that product goes out as rough green, and we saw a very significant pullback in quarter two as a result of a few of the big major pipeline projects coming to a completion. So that's a challenging component for us because all that rough green now has to get put into a kiln-dried product, and we are faced with limited kiln drying capacity, and it's relatively high cost until we get the new continuous dry kiln built at Saltair.

Japan inventories are -- they're at a healthier level. That rebalancing that we talked about in the previous call, that largely occurred in the quarter. But the yen to the U.S. dollar is going to present a challenge for us to increase any of our pricing.

On the commodity side, just to finish off, some recent improvements in North America from June through July. One bright spot is the [indiscernible] sector and -- that's shown to be much stronger than expected, and that's allowed us to continue to run some of our cut programs, specifically targeting our 4-square premium 2-inch dimension into that market segment.

And lastly, I'll just wrap up by saying China is weak in both demand and pricing as they struggle through some, I would call, structural changes in transformation in overall real estate portfolio there.

[Sean Steuart, TD Securities]

That's great detail. I appreciate it. That's all I have guys.

[Steven Hofer, President and Chief Executive Officer]

Thanks, Sean.

[Operator]

Thank you. The next question is from Paul Quinn from RBC Capital Markets. Please go ahead.

[Paul Quinn, RBC Capital Markets]

Yeah, thanks, guys. Good morning. What's the update Port Alberni process right now?

[Steven Hofer, President and Chief Executive Officer]

Good morning, Paul. So, as we announced on April 27, we concluded the 90-day working group process and that we would not restart the facility. We've commenced negotiations, and related to the proposals that we've received, due diligence is underway. And we're working diligently to move forward as quickly as possible. And as soon as we have additional updates that we can share, we'll absolutely do that, Paul.

[Paul Quinn, RBC Capital Markets]

Any expected time line with that? Is that the end of the year or...?

[Steven Hofer, President and Chief Executive Officer]

We certainly would like to have a conclusion, I'm going to say, October and have it -- have something announced in that timeframe.

[Paul Quinn, RBC Capital Markets]

Okay. And then last year, you bought Calvert. I suspect that, that facility is doing quite well given the strength in mass timber right now. If you could confirm that? And is there other opportunities for you to acquire like assets to Calvert?

[Steven Hofer, President and Chief Executive Officer]

Yeah, we really like what we've seen so far with Calvert. We just had our Board of Directors visiting the Columbia Vista and the Calvert assets this week. We spent a lot of time on the vertical integration piece, really understanding where the value creation could be recognized between Calvert and our BC sawmills and right back to our Timberlands operation.

So demand continues to be quite strong with the industrial product line that we make there. We continue to build out our lam stock in both Doug-Fir and in Yellow Cedar from our coastal BC sawmills. We're very optimistic that we can continue to have that as a core piece of the overall supply that Calvert requires. And as far as additional opportunities, it's certainly an area of our focus as we look at additional tuck-in Calvert-sized opportunities in that market segment.

So, again, it's been a bright spot for us. We've learned a lot about the value of the vertical integration opportunity, and very optimistic that we can grow that business. I think we're -- compared to where they were in 2022 in terms of production volume -- sorry, production capacity, we will have increased that around 29% in 2023. So, we'll see if we can take that even further as we go into 2024.

[Paul Quinn, RBC Capital Markets]

Sounds good. Any update at all on what you're seeing, I mean, of the lumber companies that are impacted by the softwood lumber rates right now? Any -- you guys are, the way I look at it, fairly penalized, just given the higher sales price of the product. But any movement on that file at all? Do you see any way forward for you guys?

[Steven Hofer, President and Chief Executive Officer]

Well, there's certainly conversations occurring amongst the industry, but it is going to take the counterparty to want to have a settlement. And I think there's probably a gap there still, Paul, in terms of certain members of the coalition actually raising their hand and say, "Let's have a dialogue. Let's see what we can accomplish here." So, I would say there's not a -- there's very little momentum today. I think I shared in the last call when President Biden visited Prime Minister Trudeau, we worked every phone, every e-mail, every relationship that we had as an industry, a pan-Canadian approach from British Columbia to New Brunswick and Quebec to get softwood lumber on the discussion paper between the two executives and couldn't make it happen. So that was a real disappointment and really a lost opportunity.

[Paul Quinn, RBC Capital Markets]

Yes. Okay. And just lastly, I mean, Interfor is trying to monetize your BC coastal assets, any interest from Western standpoint to pick up additional capacity in BC?

[Steven Hofer, President and Chief Executive Officer]

Well, I think if I look at what Ian has left here on the BC coast, there might be some opportunities around log dumps and more infrastructure-related in areas where they're going to leave. And so in due course, we'll have some conversations with...

[Operator]

I'm sorry, the moderator line has disconnected. Please stay on the line. [Operator Instructions] Please go ahead, Mr. Hofer. I'm sorry, your line disconnected. You are back in the call now.

[Steven Hofer, President and Chief Executive Officer]

Sorry about that, Paul. We have to change telecom carriers here. Where did I leave off at, Paul? Where did I leave you at?

[Paul Quinn, RBC Capital Markets]

At the beginning, sorry.

[Steven Hofer, President and Chief Executive Officer]

Okay. And we were talking...

[Paul Quinn, RBC Capital Markets]

Interfor.

[Steven Hofer, President and Chief Executive Officer]

This was the Interfor question, right?

[Paul Quinn, RBC Capital Markets]

Yeah.

[Steven Hofer, President and Chief Executive Officer]

Yeah. So what I was sharing there was we'll certainly have a conversation with Ian and his team. I think any opportunities between the two companies would be mostly around, I would call, infrastructure related, so log sorting facilities, log dumps, things like that, that they'll no longer need and maybe we could benefit from. So, we'll have a conversation with Ian and the team as that opportunity unfolds.

[Paul Quinn, RBC Capital Markets]

All right. That's all I had. Best of luck.

[Steven Hofer, President and Chief Executive Officer]

Okay. Thanks, Paul. And sorry for the disconnect.

[Paul Quinn, RBC Capital Markets]

No worries.

[Operator]

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

[Steven Hofer, President and Chief Executive Officer]

Okay. Well, if there's no further questions, thanks, everyone, for joining our call today. We certainly appreciate your continued interest in our company, and we look forward to our call in November. Have a great long weekend, everyone.

[Operator]

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