Acadian Timber Corp

TSX:ADN

Earnings Call Transcript

[Operator]

Ladies and gentlemen, thank you for standing by, and welcome to the Acadian Timber Corp. Q2 2020 Conference Call and Webcast. [Operator Instructions] Please be advised that today's conference is being recorded. [Operator Instructions]I would now like to hand the conference over to your speaker today, Adam Sheparski. Thank you. Please go ahead, sir.

[Adam Sheparski, Chief Financial Officer]

Thank you, Jiji. Good afternoon, everyone, and welcome to Acadian Timber's Second Quarter Conference Call. With me on the call today is Erika Reilly, Acadian's President and Chief Executive Officer.Before discussing Acadian's results, I will first remind everyone that in discussing our second quarter financial and operating performance, the outlook for the remainder of 2020 and responding to your questions, we may make forward-looking statements.These statements are subject to known and unknown risks, and future results may differ materially. For further information on our known risk factors, I encourage you to review our news release and MD&A, which are available on SEDAR and on our website at acadiantimber.com.I'll begin with some comments on our financial results for the quarter ended June 27, 2020. Then Erika will add some further remarks on the business, market conditions and our outlook for the remainder of the year.Sales for the quarter were $11.5 million compared to $17.9 million in the prior year period or a decrease of $6.4 million. The weighted average selling price, excluding biomass, remained relatively stable with a decrease of 1% year-over-year. However, challenging operating conditions during the quarter resulted in 4 less weeks of harvesting activity.To be more specific, operations last year were able to continue 2 weeks longer into the second quarter, and operations also started up 1 week earlier last year. In addition to these 3 weeks of lost operating time, operations had to be stopped for a week as weather in the Northeast was unusually hot and dry, leading to fire risk-related restrictions that have not been seen for decades.Fortunately, we are currently experiencing weather conditions that would be viewed as more normal, and there have been no further closures. Operating costs of $10.2 million in the quarter were 34% lower than $15.4 million in the prior year period, which is consistent with the decrease in sales volume.Variable costs per cubic meter decreased 1% year-over-year, mainly due to lower log processing costs as there were less handling in the log yard compared to last year. Adjusted EBITDA totaled $1.4 million during the quarter, down from $3 million in the prior year period. Adjusted EBITDA margin for the quarter was 12% compared to 17% in the second quarter of 2019. The decrease in EBITDA margin was mainly due to a gain on the sale of timberlands in the prior year, which, if removed, would have produced an EBITDA margin in 2019 of 14%.Our net income for the second quarter was $5.2 million compared to net income of $5.8 million in the prior year period. The variance from the prior year is primarily due to a positive unrealized foreign exchange gain on our U.S. dollar-denominated long-term debt and more favorable fair value adjustments associated with our timberland valuation, which was due to lower harvesting activity during the quarter.These gains were offset by a $0.7 million onetime tax expense related to new tax legislation enacted by the Internal Revenue Service on April 8 that impacted the U.S. tax treatment of certain hybrid arrangements.During the second quarter, we generated $0.2 million of negative free cash flow and declared dividends of $4.8 million to our shareholders. Free cash flow was impacted by limited operating activity and the onetime tax expense.The payout ratio for the second quarter is not considered meaningful, given the typical low level of activity during the quarter.I will now move into the results for each of our New Brunswick and Maine operations. During the quarter, sales for our New Brunswick timberlands were $9.5 million compared to $14.4 million in the same period of 2019. The weighted average selling price, excluding biomass, during the quarter was $66.26 per cubic meter or 5% lower than the price in the same period last year, reflecting a change in customer mix, and lower grade logs sold compared to the prior year period.Operating costs in the second quarter totaled $7.7 million compared to $11.8 million in the prior year period. As a result of a 30% decrease in volume and a 6% decrease in weighted average variable cost per cubic meter due to lower processing costs in the current period as noted previously.New Brunswick's adjusted EBITDA in the quarter was $1.8 million or $1 million less than the prior year period of $2.8 million. The decrease is due to lower sales volume in the current year and a gain on sale of timberlands recognized in the second quarter of 2019 of $0.3 million.Adjusted EBITDA margin remained relatively consistent at 19% compared to 20% in the prior year period. Switching over to our Maine timberlands. Sales during the second quarter totaled $2 million compared to $3.5 million in the same period last year. Sales volume, excluding biomass, decreased 54% year-over-year as customers were slow to take deliveries, having accumulated significant inventories during the winter harvest season.As well, pulpwood demand was negatively impacted by the explosion of 2 pulp digesters that occurred during the quarter at a mill in Jay, Maine. Weighted average selling price, excluding biomass, in U.S. dollar terms increased 15% compared to the prior year as a result of a greater proportion of sales being higher-value products and less softwood pulpwood in the product mix during the quarter compared to the prior year period.Operating costs totaled $1.9 million in the quarter compared to $3.2 million during the same period of 2019 with higher per cubic meter harvest costs. Variable harvest costs per cubic meter increased compared to the prior year period as a result of transportation costs associated with longer haul distances, combined with slightly higher harvesting costs.Adjusted EBITDA for the quarter was $0.1 million compared to $0.5 million during the same period last year, and the adjusted EBITDA margin fell to 6% from 16% in the prior year period. The prior year period included a gain on sale of timberlands, which, if excluded, would have resulted in an adjusted EBITDA margin of 8%. Acadian's financial position remained strong and in the second quarter with a liquidity position of $23 million, including a cash balance of $9.8 million.As we discussed last quarter, we refinanced our long-term credit facilities, and were successful in extending the maturity dates of these facilities for periods ranging from 5 to 10 years. These facilities will be drawn on in October when the remaining balance of the original long-term facility matures, providing a 20 basis point weighted average decrease in annual interest costs.The company's current USD 10 million revolving facility remains in place, and we added an additional CAD 2 million revolving facility with a major Canadian bank during the quarter in order to increase cash management flexibility.Both of these revolving facilities remain undrawn at the end of the quarter. With that, I will now turn the call over to Erika.

[Erika Nicole Reilly, Interim President & CEO]

Thank you, Adam. I'm pleased to report that Acadian's operations experienced no recordable safety incidents during the quarter amongst employees and contractors.I'm also pleased to report that none of our people have contracted the COVID-19 virus to date. The safety and well-being of our people continue to be our top priority. During the quarter, we implemented a comprehensive COVID-19 operating plan for field and office activities that meets or exceeds all provincial and state regulations and aims to protect the health of our people.With this in place, and the COVID-19 risk currently low in the regions in which we operate, we have gradually reopened our offices. The overall impact of the pandemic to our business has been limited given the timing of the initial impact and the resilience of our team and the industry.Operationally, we experienced a minor delay in our timber services activity as one contractor temporarily faced border crossing restrictions. A pandemic also resulted in slow wood deliveries during the second quarter as customers work through elevated inventory levels from the winter harvest season while assessing the market outlook for their products.Since end-use markets, such as softwood lumber, tissue and specialty paper products have proven to be resilient, many of our customers are cautiously optimistic about the remainder of the year and are taking deliveries.During the quarter, we faced challenging operating conditions, as Adam referred to in his remarks. While the second quarter of the year is traditionally our weakest due to seasonal operating conditions. Operating activity was impacted by an earlier end to winter operations this year compared to 2019, followed by highly unusual dry and hot weather that led to extreme fire risk and operating restrictions later in the quarter.In total, we operated 3 weeks as compared to 7 weeks in 2019. Also, as mentioned, several of our customers, particularly Maine, were slow to take deliveries having accumulated significant inventories over an active harvest winter -- winter harvest season.Demand for softwood pulpwood in Maine is particularly weak due to high inventories and market disruption caused by the impact of the explosion of 2 digesters at a mill in Jay, Maine. For all these reasons, sales volume, excluding biomass, was 33% lower year-over-year. However, Acadian's weighted average selling price, excluding biomass, was almost unchanged year-over-year, decreasing just 1%. Softwood sawlogs prices remained consistent year-over-year on a consolidated basis, with prices in New Brunswick experiencing a 4% decrease related to customer mix and lower quality logs. And Maine prices increasing 3% in U.S. dollar terms, reflecting higher quality logs compared to the prior year period.Hardwood sawlog prices remained consistent with the prior year period. Softwood pulpwood average selling price decreased 7%, representing stable pricing in New Brunswick, offset by a significant decrease in Maine due to the decreased demand. Hardwood pulpwood prices were up 2% on continued strong demand in both New Brunswick and Maine.The biomass market in New Brunswick remained resilient with margins improving relative to the same period in 2019, benefiting from lower average hauling distances compared to last year.I'll now make a few remarks on our market outlook. The North American economic outlook for the remainder of the year continues to be highly uncertain, but the end-use markets for our key products have proven to be relatively resilient. Softwood lumber demand driven by construction activity and home improvements is currently strong. New home sales activity has been relatively robust and consensus forecast is for 1.2 million U.S. housing starts in 2020 and then a return to 1.3 million starts in 2021.Lumber demand has outstripped supply, and we have seen lumber prices increase significantly since May. Meanwhile, demand for tissue and specialty paper products, such as food packaging and labels, is expected to remain stable for the remainder of the year. Regionally, and based on what we know today, we expect steady demand for our products in New Brunswick and some weakness in Maine as mills continue to work through higher-than-usual winter inventories. The softwood sawtimber market is expected to remain stable, with customers having a cautiously optimistic view based on current end-use market strength, offset by concerns about uncertain economic outlook for the remainder of the year.Hardwood sawtimber markets are relatively weak due to soft demand for high-end appearance grade lumber compared to relatively robust demand for low-end industrial-grade products. Meanwhile, pulpwood markets are expected to strengthen as winter inventories are depleted, particularly in Maine. Finally, biomass sales in New Brunswick are benefiting from strong demand. We have worked closely with our customers to develop a good understanding of the demand for our products for the remainder of the year. With contractor capacity in place, we are well positioned to operate in line with our original operating plan for the remainder of the year.Having said this, we continue to be prepared to adjust our operations to respond to changing market conditions and are focused on inventory management and cost containment to mitigate the impact of possible future market disruptions.That concludes my formal remarks. We are available to take any questions from participants on the line. Operator?

[Operator]

[Operator Instructions] Our first question comes from the line of Hamir Patel from CIBC Capital Markets.

[Hamir Patel]

Erika, I know we're seeing record softwood sawlog prices. Have you taken advantage of this market opportunity to raise sawlog prices in Maine and New Brunswick in the back half? And any idea of what sort of magnitude increases you might be seeing in the market?

[Erika Nicole Reilly, Interim President & CEO]

So in New Brunswick, the majority of our softwood sawtimber is sold to Twin Rivers, and we have a fiber supply agreement. The pricing is set on a backward-looking 6-month period. And so that's just a mechanism in a formula. So expect to -- as prices improve, we may get to benefit from that as we go forward.With respect to our Maine customers, we actually have been able to benefit from the strength of the market and achieve some price increases. And we are going back to market and continuing to ensure that we're participating in the strength of what we're seeing right now.

[Hamir Patel]

And Erika, when you spoke about still sort of planning on hitting your original plan, does that -- just to clarify that, that would be your annual plan, so suggests maybe producing or harvesting more in the back half than you originally expected given the harvesting issues in Q2?

[Erika Nicole Reilly, Interim President & CEO]

We're planning to harvest in line with what our original plan was. So we develop an annual plan each year, and that was developed late last year pre-COVID. But based on what we're seeing in our operations today, we expect to operate in line with that in Q3, Q4. Our ability to catch up a bit from what we produced in Q2, although Q2 is typically a slow quarter for us, and we actually performed relatively in line. It's just going to be dependent on market strength. We do have contractor capacity in place. So if there is an opportunity, prices are strong, and there's adequate demand, we are certainly geared up to be able to ramp up, but we're also making sure we are focused on, as I mentioned, inventory management, et cetera, that we're ready to respond to whatever the market serves us here in the second half of the year.

[Hamir Patel]

Okay. Fair enough. And can you speak to maybe what your softwood sawlog customer base in New Brunswick and Maine? Is there much potential for them to increase production over the near term, given the strong market environment? Or are they all running full already?

[Erika Nicole Reilly, Interim President & CEO]

Most of -- our key customers are in New Brunswick are running full. In Maine, there is opportunity for them to increase. Some are running full, some have some opportunity to ramp up, and we expect them to do over the coming months and take margin [ risks ].

[Operator]

[Operator Instructions] Our next question comes from the line of Paul Quinn from RBC Capital Markets.

[Paul C. Quinn]

You highlighted the delay in timber service revenues in the quarter, just wondering what the benefit will be in Q3?

[Erika Nicole Reilly, Interim President & CEO]

So it was a very minor delay. One contractor crew was delayed to start. They were from Québec, entering into New Brunswick. And we needed to work through some COVID-related protocols and issues to get them up and running. Again, not significantly material, but just speaks to how disruptive COVID has been to certain pieces of our business. But it hasn't had much of an impact, and it won't have an impact on our Q3 results.

[Paul C. Quinn]

Okay. And then just following up on the COVID issue. Border is still closed. What's the effect on your overall operations? And any contingency plans that you put in place to deal with it?

[Erika Nicole Reilly, Interim President & CEO]

So -- our -- any kind of commercial activity is able to cross the border. So ever since kind of the pandemic started, we haven't seen any disruptions from an ability to supply or move product other than that one instance where there was a challenge in getting a contractor up and running here in New Brunswick, but that's been sorted. We have, as I mentioned, a very comprehensive COVID-19 operating plan that has been very well accepted across our employees and contractor base. And so they're all operating to that protocol, and we think the risk is low given the COVID kind of cases in both New Brunswick and Maine. And then with respect to our customers, all of our key customers have very comprehensive operating plans themselves and are taking the pandemic very seriously and working to kind of reduce the risk of disruption associated with the pandemic. So we're all doing our kind of best efforts. And again, the forest products industry was deemed an essential service through the initial impact and we expect that, that classification or view wouldn't change through the remainder of the year, if there was to be a second wave.

[Paul C. Quinn]

Okay. And maybe something that Weyerhaeuser committed this week to developing a carbon offset market. Just wondering what you guys are thinking about that and what's the opportunity for Acadian?

[Erika Nicole Reilly, Interim President & CEO]

Yes. We have been thinking about that. We have been doing some preliminary work with the service provider that develops and sells credits. It's certainly something that we are looking at, and it's not an opportunity we're going to miss, but we are going to be very thoughtful as to how we approach that situation, ensuring that it makes sense to commit the business because the way those credits work, you're ultimately committing to a certain type of operating regime or plan for a very long period of time. And as long as that -- the cost benefit makes sense for Acadian, it's certainly something that we'll look at.

[Paul C. Quinn]

Okay. And just, I guess, last one to add, you had a tax expenses, so $100,000 in the quarter. Just wondering if you can give us some forward guidance on that.

[Adam Sheparski, Chief Financial Officer]

Some more guidance on that. I would call it onetime in nature. So I don't think you -- you won't see it going forward. Again, it was the legislative change by the IRS on April 8.

[Operator]

Our next question comes from the line of Andrew Kuske from Crédit Suisse.

[Andrew M. Kuske]

I guess the question relates to Erika, some of your earlier comments on your key customers in New Brunswick are essentially full, but there's room to run in Maine. So I guess, when we take that kind of commentary with the cautious optimism of some of your clients and just the general direction of pricing, is the implication from an Acadian standpoint, potential for rising prices on a realized basis for your stand and New Brunswick and then room to run on both price and volume in your Maine portfolio?

[Erika Nicole Reilly, Interim President & CEO]

I want to be careful of as to how much guidance because I mean this is a very uncertain time. The way we are looking at our markets is we're certainly seeing -- it's a positive -- a generally positive market in New Brunswick. And in Maine, there's definitely opportunities that we'll continue to work on to -- from a pricing perspective. And we expect conditions to continue to improve as mills work through their winter inventories and are able to start taking deliveries again.

[Andrew M. Kuske]

Okay. I appreciate that. And maybe just another question related then into Maine. If the digester issue didn't happen at the one facility, what -- where do you think things would be? I mean, directionally higher where, I guess, where would inventory? Where do you think inventories would be and where would prices be roughly?

[Erika Nicole Reilly, Interim President & CEO]

If that hadn't happened, I think inventories would still be, I would say, balanced to slightly elevated. Right now, they're quite elevated. And to the point where from a softwood pulpwood perspective, expect that they'll be elevated through the majority of the second half of the year as the other large consumers in the region continue to work through their inventories. Having said that, we expect the rest of our markets, the softwood sawtimber, hardwood sawtimber and pulpwood, those markets to be steady to improving. And with respect to sawmill softwood, sawmill residuals in the region, given where lumber prices are today, we expect that mills will find a solution for those residuals, even though demand is relatively weak for that product currently.

[Andrew M. Kuske]

Great. And then one final one for me, and it's just on the progress on internalizing the management structure. I guess, what are the key notable things that have happened since we talked on this issue, I think, the last quarter?

[Erika Nicole Reilly, Interim President & CEO]

I think I had mentioned in the last quarter, we'd essentially completed all the internalization activities that were necessary. We have -- we are no longer relying on Brookfield for any services. We're not sharing any services, Acadian's fully standalone. The only outstanding piece is myself. And nothing has changed there. I'm here pursuant to a 2-year kind of agreement and I started late last year.

[Operator]

At this time, I am showing no further questions. I would like to turn the call back over to Erika Reilly for closing remarks.

[Erika Nicole Reilly, Interim President & CEO]

Okay. Great. Just in conclusion, I wanted to thank all of our shareholder -- shareholders for all their ongoing support. And please, everyone, just stay safe.

[Operator]

Ladies and gentlemen, this concludes today's conference call. Thanks for participating. You may now disconnect.