Stella-Jones Inc.

Brian McManus - CEO Eric Vachon - CFO

Mark Neville - Scotiabank Mona Nazir - Laurentian Bank

Good afternoon ladies and gentlemen. I'm here with Eric Vachon, Chief Financial Officer of Stella-Jones.

Thank you for joining us for this discussion of the financial and operating results for the company's first quarter ended March 31, 2017. Our press release reporting Q1 results was published earlier this morning, it can also be found on our website www.stalla-jones.com and on SEDAR.

Let me remind you that all figures expressed on today's call are in Canadian dollars unless otherwise stated. I will begin with the brief overview of the quarter.

As anticipated we experienced the year-over-year sales decrease of the railway tie category and we began to see a modest improvement in the utility pole category. Overall revenue amounts to CAD396.9 million versus CAD421 million in the same period last year.

The contribution from acquired facilities was approximately CAD22.8 million while conversion effect from the fluctuations in the value of the Canadian dollar had a negative impact of CAD11.3 million on the value for U.S. dollar denominated sales.

Excluding these factors, sales decreased approximately CAD35.5 million or 8.4%. Net income for the quarter was CAD25.9 million or CAD0.37 per diluted share compared to CAD0.51 per diluted share a year ago.

In a moment, Eric will discuss the financial performance of the company in greater detail. Looking at the first quarter results by product category, railway tie sales excluding the conversion effect declined CAD35.9 million or 17.9% from last year.

This result was responded primarily to decreased industry demand and lower selling prices. It should also be noted that last year's first quarter railway tie sales have been strong due to the timing of deliveries by certain customer.

Turning to utility pool, sales amounted CAD151 million, a year-over-year increase of 14.5%. Excluding the contribution from acquisitions and the currency conversion effect, sales increased by approximately CAD1 million.

The improvement in reflected sales synergies gained from our greater presence in the South Eastern U.S. following acquisitions made in the last two years.

During the quarter, we also gained additional capacity to meet pole demand with the opening of our new plant in Cameron, Wisconsin. In the residential lumber category, sales were CAD38.6 million, a 7.8% decrease from the first quarter of last year.

The decline came from our U.S. activities where unfavorable weather condition, this year compared to last, in the North Western state effected demand for main U.S.

customer base. In the industrial product category sales reached 21.9 million versus 26.7 million in the first quarter of last year.

We attributed the decrease largely to the timing of order for rail related products in the United States. In our final category of logs and lumber revenue stood at $26.9 million, up from $20.2 million in the first quarter of 2016.

This variation reflects the timing of lumber purchase and resale activities as well as the timing of timber harvesting. Turning to ongoing improvements in our production network, our state of the art Wisconsin plant is rapidly proving to be an important asset in regard to more efficiently serving the utility poles market.

During the quarter as we continued with integration of our late 2016 acquisition in Cubic and Ontario, those acquired facilities also contributed additional network synergies. Taking together these three new facilities are further enhancing our position as a leading supplier of utility poles for the North America.

Eric will now provide further detail about our first quarter results. Eric?

Thank you, Brian. Gross profit amounted to CAD63.8 million or 16.1% of sales in the first quarter of 2017 compared with CAD78.8 million or 18.7% of sales in the first quarter of 2016.

The decrease as a percentage of sales reflects lower business activity, weaker selling pressures for railway tie and a less favorable geographical mix in this utility pole category. As a result of the reduction in gross profits, operating income stood at 40.8 million or 10.3% of sales down from 54.6 million or 13% of sales in the first quarter a year ago.

Net income for the first quarter of 2017 was 25.9 million or CAD0.37 per diluted share down from CAD35 million or CAD0.51 per diluted share in the first quarter of 2016. Reflecting the decrease in net income, cash flow from operating activities before changes in non-working capital components and interest and income taxes paid, where CAD60.4 million for the three months period ended March 31, 2017 compared with CAD62.9 million for the same period in 2016.

As of March 31, 2017, Stella-Jones' long-term debt including the current portion with CAD698.5 million versus CAD694.4 million three months earlier, this slight increase mainly reflects higher working capital requirements as per normal seasonal wind [ph] pattern, partially offset by the effect of local currency translation on U.S. dollar denominated long-term debt.

As of March 31, 2017, Stella-Jones' total debt to total capitalization ratio remains stable from the three months earlier to 0.40:1. Finally, the board of directors of Stella-Jones declared a quarterly dividend of CAD0.11 per common share payable on June 27, 2017 to shareholders on record at the close of business on June 5, 2017.

I return the call back to Brian for the outlook.

Thank you, Eric. Looking ahead we continue to expect overall sales for Stella-Jones to weaker in the first half of 2017 when compared to 2016.

We do expect however year-over-year sales increased in the second half of the year. Meanwhile operating margins will remain effected by product mix and softer pricing in certain areas.

In a railway tie category, we expect 2017 demand to remain below at the level of last year, while softer pricing will continue to reduce sales as well as operating margins. In utility pool category, our first quarter performance seems to confirm our view that demand will gradually return to normal patterns by the end of 2017.

We are encouraged by the synergies achieved from our enhanced region of South Eastern U.S. although it should be keep in mind that this shift in our geographical sales mix will yield a slight margin decrease.

Turning to residential lumber, the momentum in the North American economy, leads us to expect a healthy level of new construction and outdoor renovation projects. Stella-Jones is well positioned to benefit from greater demand for such projects, either in the residential or commercial markets.

The company's cash flow in the coming quarters should remain solid, it will be employed to reduce debt, invest in working capital and maintain optimal dividend payments for our shareholders. In regards to our outlook for network expansion nothing has changed.

We welcome opportunities for acquisition which we will study with the same discipline approach that has characterized Stella-Jones throughout the years. We believe this strategy offers a best mean for building additional value for our shareholders.

Eric and I’ll now be pleased to answer any questions you may have.

I guess just first on ties, just hoping maybe if you give us some maybe some ballpark numbers, of that 18% decline, how much was pricing versus volumes?

The two thirds volume and one third pricing.

Okay. And I guess, I think in last call you said March was looking sort of flattish year-over-year, just in terms of volume and I am just sort of curious how that played out maybe what you saw in April?

So far in April I would say we have seen volume similar, maybe even slightly above last year. I think more of that just to do with timing Mark.

Okay.

Last year, we kind of had a strong January to August, I think we are going to be more of our traditional seasonal sales mix for ties which will be something sort from March to September, October.

Okay, and I guess just the way to think about the pricing, call it 6% roughly, I guess would that be the similar type year-over-year headwinds through the remainder of the year, because again I believe the pricing impact was really towards very tailing of Q4?

At this point, it's probably going to be similar. We may see it depending on the mix, in terms of the region and point mix we may see up or down a bit from that number as the year progresses.

All right, okay. I guess just on poles, I think last call you talked about as we get to April, May, you might have some better visibility on whether utility customers could get some rate increases through, I am just curious if you had -- or give us maybe some color or an update on that if any?

No much update there except for the particular customers we referring to in the California market. It looks like it's going to be now more September or October.

Okay. And I guess just one housekeeping, the facility in Wisconsin, just curious when that was commercialized?

It's started -- its first couple of charges was mid-February I believe --.

End of February.

Yes, end of February.

Okay. So it was a little bit of an impacts in Q1 from that?

It would have been pretty small.

Okay. All right thank you very much.

Hi, good afternoon gentlemen, this is actually Charles [indiscernible] filling in for Benoit. Thanks for taking my question.

Hi Charles.

So my first question is on the consolidated EBITDA margin, I think you beat many allies and the street on Q1 with the 12.4% performance, I was just wondering if you still expect margins to close to 13% for the full, or if you think you could be above that given your relatively good start in Q1?

How about we say I'm a little more optimistic, we could be slightly above the 13%.

Okay, that’s good color. Also on the residential lumber revenue, they were down 8% in Q1 due to weakness in North Western U.S.

given the harsher weather I think, I was just wondering if you saw the same weakness in Canada as well given the tougher winter. And also coming in weather the rainy temperature that we had in Eastern Canada since the beginning of Q2 is also likely to impact the segment's revenue and results in the second quarter?

Little early to tell right now. Surprisingly, in the first quarter the East was pretty similar to last year.

Western Canada is though did experience softer sales than last year. But still a little early to -- certainly we hope that weather is going to change all that.

Okay. But is it still fair to expect a low-single digit organic growth rate for our residential lumber for 2017?

That might be a little early to say for sure right now. I think we've got to see how the balance of this quarter plays out and then we'll be able to give those in more color on that at the end of Q2.

Okay. And lastly from me, I just wanted to touch on leverage here, and I'm correct you ended the quarter with net debt-to-EBITDA ratio of 2.7 times.

And I think you mentioned in the past that you expect another drag in 2Q. But given the recent decline in the value of the Canadian dollar recently and obviously the significant amount of debt that you have in US dollar.

I was just wondering if you can provide an update on your leverage expectation at the end of the second quarter and also maybe at the end of 2017?

I think at the end of the second quarter we will probably expecting to be similar to where it was at the end of Q1. Our strong cash cycle I would say starts within Q2, but really picks us steam towards the end.

And for the balance of the year I would -- of course, it's depend if we have anything that happens in Q3, Q4 in terms of acquisition opportunities. But I would expect we should see below 2.5 by the end of the year for sure.

So firstly I just wanted to touch on the utility pole segment. I was pleased to see the very slight growth there.

I was expecting some softness. I was just wondering if you're able to quantify the contribution from the synergies that you're able to extract.

And if you could discuss a little bit more on what you did exactly. And is there are more acquisition integration to be done?

Little unclear on the first part of your question Mona, I'm sorry. In terms of the synergies as it relates, are you referring to as it relates to the sales or cost reductions?

Well, more on the sales, but also on cost. Because just in the commentary with utility pole sales if you strip out M&A sales increased by $1 million.

So it was reflecting sales synergies. So just commentary there and on the cost side if you have it.

Sure. I think the sales synergies, the general comment we made there is just as we'd expanded in the sales what we are seen is our ability to bid on contracts that historically we would not been in a position to do so.

That we just do not have the network of product facility. So we've seen some new gains there, and I think the second part or last part of your question refer to potential cost synergies or how the integrations going.

I would say it's still underway and we still have some definitely opportunities ahead within I would say even within the next 6-9 months to continue to perform an integration before I'd say we're at a level that we're comfortable with, at least look for the low hanging fruit of the integration part.

Okay. And just going back to the sales synergies, is it you providing more to existing customers, or is it some new customers as well?

A mix of both. But I would say more weighted towards the new customers that we're starting to develop.

Okay. And then just secondly, in the press release you mentioned you're studying kind of expansion opportunities in your main product areas.

Could you just give more color on what you're thinking about here?

It's hard to provide too much more color, except to say that we have the number of potential opportunities that are slowly developing. And I think we'll see how that plays out between now and the end of the year.

Okay. So expanding production to cater to more clients or M&A or?

Sorry M&A, that's you're looking no sorry, that's if you're looking drive 30 under 30, I'm referring to M&A.

Okay. That helps.

And just since we're on M&A, you are at 2.7 now leverage, what kind of level would you be comfortable with, could you go to 3.5 or you want to stay below three and just stick with tuck-ins?

I think, historically we have seen we are comfortable getting right around that three, I do believe with our cash flow in the coming months that will get it further below where we are right now as at a little earlier. So I think we definitely have a room to do some -- pursue some opportunities in the back half for the year.

Well, thank you everyone for joining us on this call. We look forward to speaking with you again at next quarterly call.

Have a great day.