Interfor Corporation

Thanks, Jody. Good morning everyone.

Thanks for joining us. We’re here this morning to discuss Interfor's 2018 financial results and to look specifically results for the fourth quarter of the year.

Joining me this morning, as usual, as Marty Juravsky our CFO; and Bart Bender who is responsible for our Sales & Marketing efforts and who will provide comments on the current state of the lumber market in a few minutes. I got to keep my remarks brief and I will turn the meeting over to you for questions as soon as I can.

From a bottom line standpoint, 2018 was the best year in Interfor's history. Net earnings were $112 million to $1.60 per share of sales $2.2 billion.

These results reflect the strength of the lumber market in the first half of the year as well as the gains made in the performance of our Southern operations over the course of the year. EBITDA during the year adjusted to exclude the effects of share based compensation total $280 million and cash from operations before changes in working capital now let to $275 million or $3.95 per share.

Net cash flow after changes in working capital was $255 million or $3.70 per share. Capital spending in 2018 was 139 million and $37 million was spent on share buybacks, leaving the Company with net debt of $64 million at year end, reflecting slightly more than 6% of invested capital.

Available liquidity was $506 million at the end of December. Turning now to the results for the fourth quarter.

It's clear that the pace of the first half of the year was not maintained in the second half. It’s a collapse on lumber prices that began in June had a direct and significant impact on our profitability.

In the fourth quarter, Interfor posted a loss of $13.2 million after-tax on sales of $469 million compared to net earnings of $28.1 on sales of 570 million in the third quarter. EBITDA was $6 million in the fourth quarter versus $69 million in period.

The results in the fourth quarter included an $8.2 million NRV adjustment on inventory values that will self correct these prices to recover this year. The drop in sales return in fourth quarter accounted for the full drop in EBITDA versus the third quarter.

Average sales value fell by more than $100 per thousand board feet quarter over quarter on 647 million board feet of sales. The series of factors including loaded lower duty expenses, favorable FX rates, and lower G&A expenses help to offset the impact of lower shipment volumes and higher log costs, which together had a small positive impact on results in the fourth quarter.

Correction in the quarter fell to 607 million board feet from 674 million board feet third quarter, reflecting a combination of market-related downtime primarily in the B.C. interior, project -related procurements in the U.S.

South and normal holiday downtime across the platform. Capacity utilization rates were 42% on the B.C.

coast, 75% in the Interior, 81% in the Northwest and 86% on the South, coming in at 78% overall compared to 87% in the third quarter. The decision to curtail operations in the B.C.

Interior in the fourth quarter was taken partly in response to the drop in sales returns and partly in response to the rapid increase in log cost in the region during the second half of the year. In contrast, net log costs in the Northwest and U.S.

South were either flat or down in the second half of the year. Cash from operations in the fourth quarter after changes in working capital was $80 million.

Capital spending in the quarter came in at $59 million as the Phase I projects in the U.S South gain momentum. The project at Monticello, Arkansas and Meldrim, Georgia are on track to completion in the second quarter this year.

With the gains we've seen today and productivity and great outturn in line or above expectations. The Phase II projects at Thomaston and Eatonton, Georgia Georgetown South Carolina are the detailed planning stage with construction scheduled to commence in all three projects midyear this year.

During the fourth quarter, we took advantage of our strong balance sheet to acquire 1.7 million of our common shares at a cost of $25 million, bringing the total for the year to 2.3 million shares at a cost of $37 million. The shares were cancelled on purchase.

We believe that share repurchases in this manner represented a very attractive use of capital and will create value for shareholders in the years ahead. Looking forward from here, we've seen a significant uptick in lumber prices in recent weeks.

They will have a positive impact on our results in the first quarter. At this point, I would like to call on Bart Bender, Our Senior Vice President of Sales and Marketing to provide some comments on the state of the market and outlook for the balance of the quarter.

Bart.

Thanks, Duncan. I will comment on the current status of the lumber market.

Year-to-date, we have seen a marked improvement on in the demand for lumber consequently pricing has started to improve. Inventories in the marketplace are at historical lows, putting us at levels below this time last year.

We don't believe any significant inventory to just at the producer level. There have been a number of curtailments announced in recent months, primarily from the B.C.

Interior into a lesser degree the Pacific Northwest. The produced lumber supply related to these curtailments as well known and significant.

On the demand side, we continue to be optimistic, market fundamentals such as employment, wage growth and pent-up housing demand remain positive. New home construction albeit in the process of addressing affordability concerns, forecast growth through 2019.

Repair and remodel, end-use sector, most significant consumer of lumber has shown continued strength as consumers increasingly are investing in their existing homes. We maintain the repair and remodel end-new sectors are benefiting in two distinct ways.

Firstly, in average home age of 40 years in the U.S. requires an increased level of updating.

And secondly, from consumers who opt out and move up market for new homes and invest in their existing homes instead. Our export markets remained relatively steady.

Our volumes to Japan and China remain consistent quarter over quarter. In other Asian countries, we've seen encouraging growth.

Our customers are reporting strong line lumber consumption so far this year with many citing better activity year-over-year. All of this considered, we believe the stage has been set for an active lumber market in early 2019.

We expect continued price volatility and remain optimistic for 2019. Thanks, Duncan.

I'll leave it at that and turn it back over to you.

Great, Bart. Thanks.

Well, the fourth quarter 2018 was nothing to write home about, we firmly believe that the pricing environment we experience was an anomaly, so I've described with the old reaction to the overreaction we experienced in the first five months of last year and will self-correct this 2019 moves ahead. As Bart said, we're seeing those signs now.

All of which will have a positive impact on our results as all the Phase I capital projects and other initiatives we have underway as they ramp up over the course of this year. At this point, Jody, I think what I'd prefer to do is turn the meeting over to a question -- over to our guests, so we can answer their specific questions.

Two questions. A number of your competitors have disclosed decisions to continue ahead with some temporary shuts in B.C.

in the in the first quarter. Are you guys extending any of your curtailments that you took in Q4 into the first quarter as well?

Yes, we’re in a pretty good position from a log standpoint, Sean, but we’re operating one of our big facilities in the B.C. Interior at a slightly lower rate than we would normally operate in response to the market.

And I think what we've seen, one is, a bit more discipline on the part of producers looking at aggregate levels of demand, but the biggest issues in the B.C. Interior is a low cost issue.

nd log availability and log prices, it is a combination of reductions and available harvest levels resulting from reductions in a lot of cuts associated with mountain pine beetle, but also exacerbated by the fires that we saw in 2017 and 2018, limiting some of the standing timber inventory that people had planned for harvest. All of which in term has been resulting in some rapidly escalating a log cost due to whether its train issues or haul distances or other factors increasing log cost combined with higher stumpage rates.

And the equation between log cost and lumber prices that continue even we starting to recover at levels that we think are little low for what our expectations would be given the strength of the market. We’re seeing lower -- more discipline in lower production levels as a result of those factors.

And so, we're as well as others moderating our production levels.

And following on that Duncan, I'm guessing, we'll see some significant cost relief in B.C. in the first quarter with sounds like more rational bedding for the market logs.

Any guidance you can give us on putting qualifying or quantifying the release that you would expect on log cost in the first quarter?

Yes, that’s a bit of a smug scheme, Sean. I think we are seeing some, the way that stumpage system works, you get some quarterly adjustments based on your current lumber prices, but there is also annual adjustment that takes place that could counterbalance that.

So our expectation for 2019 will be, there's some moderation early in the year, but by and large, we’re not going to see any significant release until there's more rationalization of the capacity and the rebalancing of the equation between available demand and supply.

And then just a quick one for Bard. Southern pine pricing in particular, we've seen I guess varying degrees of momentum in that region.

It looks like some of the wider dimensions last few weeks, prices starting to move, lack of traction for two by fours. Can you give us some context on the dynamic between dimensions in the South?

And what's feeding into some of that relative performance gap?

Well, there's a couple of factors. First of all, the weather that we're seeing down there can play with the dimension of logs that are getting pulled into the mills and that can have an impact of whether it's narrows or lives.

But I would say in general, we're seeing a fairly typical seasonality that trader are now starting to step back into the market. They're generally purchasing the wider dimension.

So, we're seeing an uptick in demand as they prepare for their spring needs. The trust side, albeit that's been very active, and it was fairly consistent through fourth quarter as well.

I think it has remained so, I think it's just mostly the trader side of the marketplace that has kind of stepped in, in the most recent past.

Duncan, I wonder if you could just talk about sort of plans over the next couple of years in terms of capital allocation especially given sort of this uneven pattern that we've seen and kind a both the housing and the lumber markets?

Yes, sure. We've announced over the course of, I guess, the last year and a bit, the investments in the Phase I and Phase II strategic projects in the South, there's a third phase which includes some additional high return projects in the South, but also some high return projects in other reasons as well.

So, everything that we see, tells us that the returns available to us on those projects are by far in a way the best uses of capital for us. But we also saw an opportunity in the last half of 2018 with the dislocation in our share price, relative, we think the inherent value of the Company as and what our long-term prospects are, to be able to step into the market to acquire shares at what we thought was a pretty attractive price, certainly an attractive price growth and some of the other alternative uses a capital, that might be available.

We continue to look for tuck-in acquisitions or other types of acquisition opportunities, but our view is that price expectations are still out of whack with reality. So, we're not widely motivated to buy stuff at high prices just, so we can be bigger.

It really needs to be a value creating exercise for us and needs to fit strategically with what we're doing. So while we continue to look, we just haven't seen been able to find anything that fits our criteria and meets our price requirements.

And I guess lastly, Mark, the question of greenfields. It's still one of the things we're looking at, but it's still in deferral as we look at, as we focus on our own internal projects and at the potential for share buybacks.

Just one last thing on that. Just to put it into context.

I know everybody runs their models. Our expectation is that, your capital spending in 2019 will be in the $200 million a year range on a Canadian.

Okay, all right. That's helpful.

Duncan, I appreciate that. I wonder if you can just give us some sense of what you're expecting in terms of kind of log costs into Northwest and down in the South?

And then if you might just kind of compare given where a log costs are now, just the competitiveness and the returns across your three producing regions?

Yes, sure. What we've made the comment in my remarks that, we've seen some fairly significant inflation in log costs in the B.C.

Interior. Our log costs in the Pacific Northwest, if anything moderated a little bit and then in the U.S.

South as well, and I don't see anything in the South in the near-term that suggests that you're going to see any kind of significant inflation in log costs in that region. Timber supply relative to demand even with some of the capacity additions is still significant and I think we'll create a moderating effect on log pricing.

In the Pacific Northwest, it's a relative balance between available supply and available demand and then it's some of the pressure on export volumes given some of the trade issues that exist. What we found is pricing has been pretty responsive to what happened in the lumber market.

So right now looking at it, we see conditions in those two regions are being more favorable than they are in B.C. which is working its way through a significant reduction in harvest levels and we haven't had capacity rationalize as quickly as timber place rationalize.

And until that happens, I think you are going to see pressure on log prices and probably some pretty erratic behavior that's going to take place in this some erratic pricing that's going to take place on log cost. And that's one of the things that's receiving lots of our attention, and we're probably the first out of the gate saying, in the lumber market that’s weak, there is not an awful lot of sense stretching lumber prices, and we felt that we need more sense at least for us to back away on production and try to bring some rationality to the log market.

Last one I had is maybe one for Bard. Over the last few years, you guys have talked about trying to develop more of a lumber export business out of the Southern U.S., and I'm just curious about.

How that effort is going right now and particularly how that effort might be going in China versus other locations given that the tariffs?

Right. Well, the tariffs for lumber heading to China certainly had their impact and the net result is that, we sold less to that market out of the South this year than we did last year.

That said, the other Asian markets have been encouraging. We have increased our sales to those areas, places like India or the Philippines, Taiwan.

Those of all have seen a marked uptick in the volumes that were selling. Are we on pace too or where we on pace to equal our 2017 results?

No, the China tariffs definitely had an impact and we're working those. Now and hopefully, hopefully, we land ourselves in a spot where we were not encumbered by a tariff like that.

Duncan, the Phase I projects coming on in Q2; imagine, there might be some production disruption as that comes on. So how do we think about annual volumes for 2019?

So, that's a good question and there will be a few disruptions in the South as those projects do come on board. There will be some downtime as we’re tying in new pieces of equipment and things like that.

Our expectations and I think we've produced a little over 1.2 billion board feet in the South last year. Our expectation is, all things considered downtime plus the wrap up in productivity post-project implementation.

We think our volumes will be up slightly in the South next year and our volumes for the Company overall -- sorry, Marty's pointing at me and saying this year. We think the 2019 volumes will be up slightly compared with 2018 volumes and we expect the total volume for the Company will be up compared to what it is, this last year which was like 2.635.

And just one for Bart. Can you tell you the length that you order files at today?

And how does that compare for SPF and Yellow Pine?

So order files today are in the range of 2 to 3 weeks, pretty much across the network. When you see a marked turn in the marketplace on the pricing or demand, you tend not to run out your order file rate away.

So, our strategy has been to keep fairly tight and we will continue to keep fairly tight in that range of 2 to 3 weeks.

It's been a while since we've talked about Canada-U.S. trade, so I know there's a couple of NAFTA and a couple of WTO challenges working their way through the system, suspect, they'll be up at the end of this year early 2020.

Is that your expectation? And do you think that, that recalculation of the duties will get both sides together, any hope on a longer-term deal?

Well, I'm always hopeful that the parties to this industry are going to take a more professional, rational approach to these kinds of matters. I remain ever hopeful but history tells us it takes time.

We are moving forward with the legal cases. We think our cases are very strong.

You will have heard my comments earlier, but what's happened was, log costs in the various regions I think a fact based or objective assessment of the situation would support the view that there's no subsidy provided to Canadian producers and I fully expect that the Canadian producers are going to be successful with their legal challenges. And that'll take some time but so be at.

And at the end of the day, there will be some kind of a discussion, but I'm not expecting it to happen anytime soon.

And just on I guess lumber exports. Given the tariffs in place on U.S.

shipments into China, are you able to make up that volume from Canada?

We've seen a marked increase in volume from Canada, but we're still -- just to be clear, we're still active on some products in the South. To China, we've tried to keep our shipments fairly consistent to that market.

So, the combination of the two, we think Candida is net benefactor of those tariffs and our volumes have shown so.

It's a big difference in shipping costs out of the U.S. South over to China versus I guess, Vancouver to China?

Yes, fairly significant slower costs to ship out of the South to China. I'd say 50%.

50%.

That's correct.

Less from the South, Paul.

Yes, right. No, got that.

That's all I had. Thanks.

Thanks Paul.

Thank you. Good morning gentlemen.

Duncan just curious, based on what you know from Phase II at this point? Will you be able to give us the preliminary number for capital in 2020?

Probably pretty close to what 2019 will be as the Phase II projects ramp up, Benoit.

And just curious, have you been active on your NCIB so far [indiscernible]

I think in the early stages, yes. So, we're currently blacked out, but we put in place an automatic share purchase program prior to the blackout and on this specific criteria, and we've been buying some of that some stock during that period of time.

Thanks, Jody. Thanks everybody.

Obviously, the fourth quarter of the year wasn't what we hoped it would be. But I think, we certainly take a longer term view.

And if you look at 2018, in total, it was a pretty good year for us, a year of two distinct parts. And I think as we recover through this early part of 2019 and move back to a more normalized type of market environment, a number of the things that we've had other way both in terms of management initiatives and our CapEx programs are going to deliver the kind of results that we expect.

So, we continue to be very optimistic about our company's position. We're very optimistic about the marketplace, and I think our programs are on track to build significant value as we move our business forward.

So, we very much appreciate your interest in our company. Appreciate you are coming on the call, this morning.

Marty and I are both available, if you have follow-up calls; and in the meantime, if we don't chat with you, we look forward to talking to you at the end of the first quarter. Thanks everybody and have a good day.