West Fraser Timber Co. Ltd Common stock

Good morning, ladies and gentlemen. Welcome to West Frayser Q1 2024 Results Conference Call. Please note that all lines have been placed on mute to prevent any background noise. After the speaker's remarks, there will be a question and answer session. If you would like to ask a question during this time, simply press star then the number one on your telephone keypad. If you would like to withdraw your question, please press star followed by the number two. During this conference call, West Fraser's representatives will be making certain statements about West Fraser's future financial and operational performance, business outlook, and capital plans. These statements may constitute forward-looking information or forward-looking statements within the meaning of Canadian and United States securities laws. Such statements involve certain risks, uncertainties, and assumptions which may cause West Fraser's actual or future results and performance to be materially different from from those expressed or implied in these statements. Additional information about these risk factors and assumptions is included both in the accompanying webcast presentation and in our 2023 annual MD&A and annual information form, which can be accessed on Wes Frazier's website or through CEDAR Plus for Canadian investors and EDGAR for United States investors. Please note that today's call is being recorded. I would now like to turn the call over to Mr. Sean McLaren, President and Chief Executive Officer. Please go ahead.

Thank you, Lara. Good morning, everyone, and thank you for joining our first quarter 2024 earnings call. I am Sean McLaren, President and CEO of West Fraser, and joining me today in our Quesnel office on the day of our annual general meeting are Chris Vrostek, our Senior Vice President and Chief Financial Officer, Matt Tobin, our Senior Vice President of Sales and Marketing, and other members of our leadership team. As just mentioned, later today we will be holding our AGM, where among other things we plan to discuss our progress with sustainability initiatives, some of the broader challenge that the North American lumber industry continues to face adding meaningful supply, our recent track record allocating capital, including capital returns through buybacks and dividends, and the attractive long-term total returns realized by West Fraser stockholders. On the earnings call this morning, I will begin with a brief overview of West Fraser's Q1 2024 financial results and then pass the call to Chris for additional comments before I share some thoughts on our outlook and offer concluding remarks. West Fraser generated $200 million of adjusted EBITDA in the first quarter of 2024. representing a 12% margin. We experienced mixed results across our business again in Q1, with strength in our North American engineered wood product segment as well as SPF lumber markets partially offset by continued soft demand for SYP lumber products and in our European business. While new home construction in the U.S. remained resilient through the quarter, supporting demand for OSB and to a large extent SPF lumber, continued elevated mortgage rates appear to be constraining existing home sales activity and tempering repair and remodeling spending, which had a greater impact on SYP lumber demand. On a trailing four-quarter basis, adjusted EBITDA was $703 million, up from the $561 million we reported for fiscal 2023. On a pro forma basis, With the inclusion of Norboard, this level of trailing four-quarter adjusted EBITDA is approximately $460 million higher than that of the down cycle in 2019, reflecting synergies from the Norboard transaction, the benefits of our capital investment program, as well as the acquisitions and strategic initiatives we've undertaken in recent years. Finally, our resilient balance sheet and $1.8 billion of total liquidity at quarter end remain strong, offering the financial flexibility with which to support our capital allocation strategy. With that overview, I'll now turn the call to Chris for additional detail and comments.

Thank you, Sean, and good morning, everyone. And a reminder that we report in U.S. dollars, and all my references are to U.S. dollar amounts, unless otherwise indicated. The lumber segment posted $10 million of adjusted EBITDA in the first quarter, improving from negative 51 million in the fourth quarter. Our North American EWP segment generated 188 million of adjusted EBITDA in the first quarter, up from 143 million in the fourth quarter. The pulp and paper segment generated 3 million of adjusted EBITDA in the first quarter, similar to the 2 million reported in the fourth quarter, while in Europe, Adjusted EBITDA was a negative $1 million in the first quarter versus $3 million in the fourth quarter. Higher prices were the largest driver for the sequential EBITDA increase across our North American lumber and engineered wood products businesses, while increased shipments of SPF products also contributed meaningfully to the sequential improvement. Further, our lumber business benefited from the actions we took in January to curtail production at two higher-cost mills. In effect, we replaced that volume with production from other lower-cost mills. Cash flow from operations was negative 41 million in the first quarter, with our cash balance net of debt still at a healthy 174 million versus 361 million last quarter. The relative decrease in our cash balance reflects a combination of the typical seasonal build in working capital, 122 million of capital expenditures, plus the approximate $31 million of cash deployed towards share buybacks and dividends. With that brief financial overview, I will pass the call back to Sean.

Thank you, Chris. We are proud of the company we have built, with the geographic and product diversification that has allowed us to weather what has been a period of challenging markets, particularly in our lumber business. As seen in the right side figure on slide six, our North American EWP segment has generated nearly $750 million of adjusted EBITDA over the last four quarters, which has been a period of tougher cyclical conditions for our other segments. It is this diversity in our wood building products offering that has allowed us to generate more than $700 million of adjusted EBITDA on a consolidated basis over the last four quarters representing a meaningful improvement from the down cycle of 2019. As an update to our ongoing portfolio optimization strategy, we recently completed two important transactions, namely the disposition of our Hinton pulp mill in February, and more recently, the disposition of our two BCTMP mills, which we disclosed earlier this week. We also announced in April the dissolution of our 50-50 joint venture at Caribou Pulp and Paper, where we are now the sole owner and operator of the mill, which better positions us to support the mill's needs as well as its talented workforce. On balance, we believe the sale of the three pulp mills, along with many other recent adjustments to high-grade our mill portfolio, will allow us to reduce the variability of our earning stream while also improving a higher EBITDA floor through the cycle. Shifting to our outlook and concluding remarks. We expect to continue to face a number of market uncertainties over the near term. Having said that, we remain encouraged that inflation expectation and mortgage rates in the US are below the highs of last year. Inflationary cost pressures have largely stabilized across much of our supply chain, and we do not expect to see any meaningful upward cost pressures over the near term. Further, constraints to new supply are very real, particularly for the North American lumber industry, where net new supply growth has been essentially nil over the last several years, despite a number of strong up cycles. Of modest concern, as we are suggested on our Q4 2023 earnings call in February, unusually warm weather in Western Canada hampered our winter logging activities limiting the accumulation of log inventories at some of our mills, which required us to take downtime at select SPF mills in the first quarter. The impact of weather on our log decks remains a risk factor to our near-term ability to manufacture and ship SPF lumber in Western Canada, and we continue to monitor the situation closely. For our lumber operations in the U.S. South, persistently weak market conditions are a challenge and have increased the downside risks to our near-term production and shipments of SYP in the region. In conclusion, while demand markets remain mixed early in 2024 and there are near-term challenges across our business, we continue to be pleased how our teams are performing all across West Fraser. We remain confident that we have the right people processes and foundation to execute on challenges and opportunities as they unfold. As always, we remain optimistic about the continued growth in future demand for the types of sustainable and renewable wood products that West Fraser manufactures and for which the company is known. With that, we'll turn the call back to the operator for questions.

Thank you, sir. Ladies and gentlemen, we will now begin the question and answer session. Should you have a question, please press star, followed by the number one on your touchtone phone. You will hear a three-tone prompt acknowledging your request. Should you wish to decline from the polling process, please press star, followed by the number two. If you are using a speakerphone, please flip your handset before pressing any keys. Our first question comes from the line of Ben Isakson from Scotiabank. Please go ahead.

Good morning. This is Aparva on for Ben. Congrats on the quarter, folks. My first question is whether you can give us a sense of how customer buying patterns have evolved over the quarter. I think last quarter you'd mentioned that things looked stable, so wondering if there's been any evolution there.

Yeah, good morning, Apruva. Sean here. I'll make a couple of comments then ask Matt Tobin to fill in what I missed. I guess from our perspective, you know, we started the year stable, you know, and expected some more activity out of our R&R segment and our treaters in particular, which really has been slower than I would say we would typically expect for the spring kind of season. And as a result, we've seen price pressure in particular in Southern Yellow Pine. Maybe I'll just stop there and ask Matt to weigh in with anything I missed, sir.

Thanks, Sean. No, I think that's correct. I mean, as the R&R markets have slowed down, demand has slowed a little bit down from our customers, particularly in SYP. But, you know, we think long-term R&R is going to be – we're in a strong position with – with the age of housing stock and will bounce back with affordability.

Perfect. Thank you. And a quick follow-up to that. So when we consider R&R, and I know long-term you expect that the R&R segment will continue to push strong demand. So when we do see some weakness in that segment, do you view that as demand deferral or demand destruction? So is it just we're pushing out, someone is pushing out a remodel a couple of quarters, or is it they're no longer pursuing that? Any thoughts there?

I think we would, you know, consider that demand deferral. I think, you know, like say with the age of housing stock, you know, we believe that R&R is well positioned for the long term. And right now it's just around the affordability and market dynamics.

Thank you.

Our next question comes from the line of Hamir Patel from CIBC Capital Markets. Please go ahead.

Hi, good morning. Sean, given how low prices have fallen in the South, are you surprised we haven't seen more curtailments in the region from some of your peers that are perhaps higher cost? And what do you think has been holding producers back from announcing shuts?

Yeah, good morning. Good morning, Hamir. You know, um, uh, again, not a lot of visibility to what everybody is doing in the South. I can only speak to what we're doing. Of course, as we announced, uh, early in the year, we took a pretty strong action with, uh, curtailment of, uh, of indefinite curtailment of Huddig and the closure of Maxville, you know, and we continue to run, uh, you know, to first our economics, secondly, our customer needs. And when those things line up, we operate and when they don't fit, we take action. I think in the South, I can't speak to what others are doing, but you don't really have the ability to build big inventories in the South. I think probably people would behave like we are, which is reacting to what your inventories are doing and what you can move into the market.

Fair enough. Sean, I wanted to ask about on the pulp and paper side, you've taken full ownership now of the Caribou Mill, how big a capex investment in coming years would you expect to need to commit there to keep that mill viable over the long term?

Well, what I would say there, Hamir, is Caribou Pulp is, as we've talked about multiple times on these calls, the capital that needs that were required at Hinton. Caribou Pulp's in a very different place. I mean, the asset's approximately 20 years newer. It's been well-maintained over the years. You know, saying that craft mills require, you know, a meaningful shutdown every couple of years and every year some level of shutdown. But we don't, and things can always happen, but we don't foresee any major capital needs outside of what I would call ongoing regular maintenance at a craft mill.

Great. Thanks, Sean. That's what I had on the line. Just a final question for Matt. It looks like your lumber realizations fared quite a bit better than the benchmarks and at least what one of your peers had been pointing to. Any thoughts on what kind of drove the relative strength?

I guess I'll probably just maybe get down to mix or You know, can't really comment on what our peers are doing, but it might just do with mixing the quarter that, you know, we'll average out over time.

If we're enough, let's go ahead. I'll turn it over. Thanks. Thank you.

Our next question comes from the line of Keetan Mamtoora from GMO Capital Markets. Go ahead, please.

Thank you, and good morning, everyone. First question, maybe on to your earlier comments, Sean, around SPF inventories being below normal levels on the log side, to be clear. Is there any way to sort of quantify where your log inventories are versus, you know, sort of typical levels for this time of the year? Just sort of rough order of magnitude.

Yeah, good morning, Keaton. You know, I guess the way I would quantify it is we've got a couple of places where we came in below what our targets would have been. And what really that means, we've just flagged it as a risk. It means we need to have a little earlier start to our delivery season. We typically wouldn't be expecting to bring logs in in Western Canada till the second half of June or late June. You know, we've got a few sites where we're going to need to start hauling wood earlier than that. You know, and I think, you know, our team's done an excellent job of staging product roadside and having us in position to be able to haul that. But we are going to need some support from, you know, the conditions are very dry. There's fire risk in both provinces. So we're going to need things to kind of align for us to be able to do that. I wouldn't view it, though, as we're talking a couple of mils in our portfolio of a dozen mils here.

Understood. No, that's helpful. And just one follow-up on that. Have those production disruptions of those two mils still continued into Q2 or into April at this point, or you guys have been able to manage it?

No, we've been able to manage it. We took some forward action in Q1 to ensure that we had log inventories to at least get us to the early part of June. And we have plans in place, you know, weather permitting to be able to operate normal through the period. We flagged it as a risk if weather conditions change or we have disruption in the forest, you know, it's going to impact a couple of our plants.

Got it. Now that's helpful. And then switching to OSP, can you just update us as to kind of where Allendale is with the ramp up and where you expect that mill to be by the end of this year in terms of rate of production? I know you flagged kind of a pretty extended ramp up period in your release, but I'm just curious kind of what you're seeing or what you're expecting for 24.

Yeah, no, the first thing I would say there, Keaton is, uh, you know, uh, very pleased with the progress that we're making at Allendale and the team we have in place there that mill started in, uh, in July of last year. And so we're, we're, we're 10 months later, uh, um, the mill is going to take two to three years to ramp up. And I would say, uh, when you, when you look at the capacity of the mill and, and sort of look out three years from when we started. If you drew a line, a startup line, you'd probably end up pretty close in terms of where we'd expect to be by the end of this year. Saying that, we're happy with the progress. It's going to lower our cost footprint in our OSB business, which is the reason we bought Allendale, and we're well on track to deliver that.

Understood. And just one final question from my side before I turn it over. To an earlier question around R&R demand, Have you seen outside of seasonality, obviously, as we move through April and May and June activity picks up, but outside of seasonality, have you seen any change in the demand pattern, whether sort of, you know, any slowdown or, you know, has it kind of largely been stable with this recent uptick in interest rates? Just curious about that.

I think we've seen a slowdown in R&R demand across our different products. Like I said, I don't think we think it's a long-term issue. We think that we're well positioned for R&R on the long term, but certainly this quarter we've seen across our segments just weakened customer demand around R&R.

Okay, that's helpful.

I'll jump back in the queue. Good luck. Thank you. Thank you.

Our next question comes from the line of Sean Seward from TD Callen.

Go ahead, please.

Thank you. Good morning, everyone. Matt, I just want to follow up on that last point. When you talk about a slowdown in R&R volumes, can we put some percentage numbers around that quarter over quarter? Are we talking mid-single digit volume declines? Just trying to get better granularity on what's happening across various demand channels.

I would say, you know, we don't have perfect visibility to the end markets around that. But, you know, there are customer segments, anecdotally, that's what we're reporting, and that's what we're seeing through the typical channels that we see those products move for R&R. So I can't give you an exact percentage because we don't have that visibility, but we certainly feel that slowness through the channels that we typically move our products through to support R&R.

Okay. And on lumber, with respect to finished goods, inventories through the distribution channel. You guys in comps the last few quarters have pretty routinely positioned it as lean, but I'm hoping you can reconcile that characterization with prices sort of spinning their wheels here, looking for traction. Any updated thoughts on finished product inventories? It feels like it's pretty low at the mill level, but what you guys are seeing through the supply chain and at end markets.

Good morning, Sean here. I'll make a comment on that and then ask Matt to pitch in. I think I missed. Really tough for us to speak to what's happening. It is difficult to see what it is across the supply chain. We can only speak to our inventories and our customer buying patterns. Our inventories are normal and our customers appear to want to buy when they need it. Nobody seems to be under a lot of pressure to buy. So there's not, at least we're not feeling anybody building inventory because they're concerned about supply. So anyways, I would just leave it at that, but hard for us to really give you a sense on what it is across the whole system.

Okay, thanks for that, Sean. Just one last question, maybe for Chris. The $11 million quarter over quarter decline in operating costs that was referenced in the waterfall slide in the deck, How much of that is tied to the US South optimization initiatives? And can we expect follow on progress on that front in the coming quarters? Or is that a step function change and a new level and we should just expect that same level going forward?

Well, I'd say here's kind of how we're thinking about it as we look at the next several quarters. We've seen a little bit of, with the lower prices, we've seen a little bit of stumpage relief in Canada that's been a tailwind for us that's benefited us on the cost side there. As you know, we said the Fraser Lake, the impact of that won't really be felt until the third or fourth quarter as that mill winds down through the balance of this quarter and the inventory gets liquidated there and we wind up operations there. The closure of the two mills in the U.S. South was a much more expeditious process given how lean the inventories are typically in the South, and those mills wound down operations quite quickly. But what we did there was, as you can tell from the shipments, is we effectively replaced that volume at our other newer, lower-cost mills. And so we had effectively internal cost arbitrage by moving that production and keeping our shipping pace where it was, but with an overall lower cost platform. So, you know, those are the things I would say that we're laser focused on doing every day. We've spent a lot of capital in the last several years and continue on our capital program. And I think that's one of our differentiators is we're spending the capital and trying to improve the quality of the assets and the businesses and how they run even through the bottom of the cycle. So we're going to keep pushing on that cost lever as much as we can to keep driving costs down across the platform in lumber and, in fact, in all the businesses. And we saw some great results on that in the first quarter, and certainly the teams are working on that every day.

Okay. Thanks for that, Chris. Appreciate it, guys.

Thank you, ladies and gentlemen. Just a reminder, should you have a question, please press star followed by the number one on your touchstone phone. We have our next question coming from the line of Matthew McCullough from RBC Capital Markets. Go ahead, please.

Hi, good morning. Thanks for taking my questions. First, I'd like to ask, I think you talked about having a few more organic projects in the queue for your U.S. lumber platform. Is the softness we're seeing in Southern Yellow Pine today changing your view at all on whether those projects pencil out over the longer term or potentially changing the timing of when you may move forward with some of those new investments in the U.S. South?

Good morning, Matthew. Sean here. You know, I think when we refer to that, it's projects we have in motion, which the largest is our Henderson project. And that project, we're not slowing down there. It's on schedule, on budget. It is a strategic investment that we think will be well positioned, whatever the market cycle is, once we get it up to rate and integrate it in our full East Texas platform. I think for future projects, we are very focused on ramping up what we have in motion and executing on the capital we've spent and finishing the capital we have underway. So even though we are doing planning for the future, I think new projects, we're going to pick our time when we do that. Focused job one today in West Fraser is delivering on projects we already have in motion and in startup.

Great. Thanks very much for that. The next question, you've been pretty clear on outlining what factors you consider when pursuing M&A. And with that as a background, can you describe what the pipeline of opportunities you see in the market looks like today?

Maybe I'll make a comment or two and ask Chris to just weigh in here. But I would say, you know, Our view in West Fraser is and has been for an M&A opportunity, it needs to be high quality, immediately make us stronger, support our existing business. It needs to tick all of the boxes like Angelina did, like Allendale did, like Spray Lakes or Cochrane did. I would say those opportunities are pretty few and far between today. And people with high quality assets, the odd one might come to market, but tough to find them. So that would be my perspective. And who knows? But I think we're well positioned to react to anything that we're interested in that comes on the market. But the bar is pretty high in West Fraser.

Great. Thanks very much.

One last kind of cleanup from me. On Hinson, I know you have a long-term contract with Monty to supply residuals into that facility. My question is whether you expect any significant downside of that mill between now and 2027 as they work through their paper machine investments. It would mean you have to find a home for those residuals on an interim basis. And if so, how should we think about the financial significance of that?

You know, I think... You know, how they're going to execute their capital is really a question for them. But we feel very good about our ability to dispose of our residuals in Alberta. You know, that's a low-cost region for us that we want to make sure operates. And, you know, we think we've definitely taken all the right steps with that transaction to provide us the comfort that we can continue to do that over, you know, a very long extended period of time.

Great. Thanks a lot for the color. I'll turn it back. Thank you.

We have a follow-up question coming from the line of Sean Stewart from TD Cowen.

Go ahead, please.

Thanks. Just one follow-up, guys. OSB in North America, it looks like prices are starting to crack after a really surprising run over the last several months. Can I get your perspective on downside risk to that market? How far do you expect prices could fall before downtime kicks in? And I appreciate you taking a slow and steady approach with Allendale, but broader thoughts on managing supply as prices potentially correct here over the next little bit.

You know, I'll make maybe a comment or two here, Sean, and then get Matt to fill in here. You know, I guess from my perspective, our OSB sales team and entire team has done a very good job. I think we've strengthened relationships with key customers, built programs that both are supported by OSB and lumber. And I think that's given us an ability to ramp up Allendale into those programs. In terms of what is going to happen, really tough for us. We know supply is coming on. Saying that, you know, the business has consistently held up, you know, better than our expectations, which we've been pleased by. And our team's done an excellent job of strengthening relationships with our key customers for both products. Matt, anything to add?

No, I think that's perfect. You know, we're really... focused on supporting our key customers to meet their demands and supply them through all markets.

Okay. That's it for me.

Thanks, guys.

We have a follow-up question coming from the line of Kevin Mumtora from BMO Capital Markets. Go ahead, Steve.

Thanks for taking my follow-up question. Question on what you're seeing in Europe in terms of activity level. Are you still seeing activity under pressure or are you seeing things stabilize?

Hi, Keaton. Europe is slow, has been slow for a number of quarters now. What I would say as we come into Q2, is that we've seen, you know, even though prices really haven't materially improved, you know, we have seen some volume improvement. You know, rate inflation seems to be coming down a little quicker over there. Saying that, still really slow in Europe. We have really good assets, a strong team. You know, we'll see when things improve, but we're pretty, we feel pretty good about operating even in this environment and keeping, you know, moving our resources all of our operational excellence and business goals forward, even though pricing is tough.

Got it. And then just one related question to that. If Europe remains weak and it sounds like it is fairly weak, what is the risk that we start to see an uptick again in imports of lumber into the U.S. from Europe? I mean, it's been coming down here in the last little bit. But just curious how you see that potentially shaping out as we move through Q2 and into Q3.

Again, we don't have lumber assets in Europe, so our visibility is not as good as maybe some others. But I guess our view is that there's been a lot of investment by European producers opening up those supply chains. you know, they're unlikely to let those supply chains close. So we likely will continue to see volume flowing. Saying that, you know, as things improve in other markets that they normally go to, we'll see that volume go to those markets. So we view it could be up and down, but we view it long term, likely volumes going to stay in their more traditional markets.

Got it. That's helpful. I'll turn it over. Thank you.

Thank you. There are no further questions at this time. I'd now like to turn the call back over to Mr. McLaren for final closing comments.

Thanks, Lara. As always, Chris and I are available to respond to further questions, as is Robert Winslow, our Director of Investor Relations and Corporate Development. Thank you for your participation today. Stay well, and we look forward to reporting on our progress next quarter. Thank you.

Thank you, sir. Ladies and gentlemen, this concludes your conference call for today. We thank you for participating and ask that you please disconnect your lines. Have a lovely day.