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Canfor profits from lumber despite higher costs

Canfor Corporation reported net income attributable to shareholders of $50.9 million, or $0.38 per share, for the third quarter of 2016, compared to shareholder net income of $36.0 million, or $0.27 per share, for the second quarter of 2016 and a net loss attributable to shareholders of $17.3 million, or $0.13 per share, for the third quarter of 2015. For the nine months ended September 30, 2016, the Company’s shareholder net income was $112.9 million, or $0.85 per share, compared to $23.1 million, or $0.17 per share, for the nine months ended September 30, 2015.

The Company’s adjusted shareholder net income for the third quarter of 2016 was $51.7 million, or $0.39 per share, compared to an adjusted shareholder net income of $26.5 million, or $0.20 per share, for the second quarter of 2016, and an adjusted shareholder net income of $6.4 million, or $0.05 per share for the third quarter of 2015. For the nine months ended September 30, 2016, the Company’s adjusted shareholder net income was $99.1 million, or $0.75 per share, compared to $50.9 million, or $0.38 per share, for the nine months ended September 30, 2015.

The Company reported operating income of $97.4 million for the third quarter of 2016, up $43.3 million from adjusted operating income of $54.1 million for the second quarter of 2016. Adjusted operating income in the second quarter of 2016 excluded a one-time pre-tax gain of $15.5 million related to the settlement of a legal claim with respect to logistics services for the Company’s pellet business. Higher earnings in the third quarter of 2016 reflected improved lumber segment results driven largely by higher Western Spruce/Pine/Fir (“SPF”) and Southern Yellow Pine (“SYP”) unit sales realizations and solid productivity gains in the US South, offset in part by higher market based stumpage and increased log hauling costs in Western Canada. Pulp and paper segment results primarily reflected significantly less scheduled maintenance downtime at the Company’s Northern Bleached Softwood Kraft (“NBSK”) pulp mills in the current quarter. Also contributing to the third quarter results were higher pulp shipment volumes, increased energy revenues as well as an improvement in pulp and paper unit sales realizations.

North American lumber demand was steady in the third quarter of 2016, with US housing starts broadly in line with the previous quarter, averaging 1,138,000 units on a seasonally adjusted basis. Canadian housing starts were in line with the previous quarter, at an average of 199,000 units on a seasonally adjusted basis. Offshore lumber demand was consistent with the previous quarter.

Lumber unit sales realizations showed a moderate improvement compared to the previous quarter largely reflecting higher average Western SPF lumber prices and a 1% weaker Canadian dollar, as well as a modest increase in average SYP lumber prices. The average benchmark North American Random Lengths Western SPF 2×4 #2&Btr price was up US$11 per Mfbm, or 4%, compared to the second quarter of 2016, with more pronounced price increases seen across most other dimensions. While the SYP East 2×4 #2 price declined US$23 per Mfbm, or 5%, compared to the prior quarter, with larger price decreases in 2×10 and 2×12 dimensions, this effect was more than offset by improved pricing for premium SYP products, which represent a significant portion of the Company’s product mix in the US South, and price increases in 2×6 and 2×8 dimensions.

Total lumber shipments and production were in line with the second quarter of 2016 with increased planer production at the Houston sawmill, following a kiln fire in the previous quarter, and improved productivity in the US South, offsetting planned capital related downtime at the Company’s Polar sawmill in British Columbia and Fulton sawmill in Alabama in the current quarter. Unit manufacturing costs in the third quarter of 2016 were slightly higher than the previous quarter as the per unit impact of gains in productivity were more than offset by moderate market based stumpage increases and higher diesel costs due in part to longer hauling distances in Western Canada.

Global softwood pulp markets were relatively stable through the third quarter of 2016 with the average North American US-dollar NBSK pulp list price, as published by RISI, up US$18 per tonne, or 2%, to US$998 per tonne, while the average list price to China was down US$22 per tonne, or 4%, to US$595 per tonne. NBSK pulp unit sales realizations were up slightly compared to the second quarter of 2016 as the benefit of the weaker Canadian dollar more than offset modestly lower NBSK pulp prices in China during the quarter. Bleached Chemi-Thermo Mechanical Pulp (“BCTMP”) markets improved in the third quarter of 2016, positively impacting BCTMP unit sales realizations at the Company’s Taylor pulp mill. Energy revenues were well up in the current quarter reflecting a return to more normalized power generation levels as well as higher energy prices.

Pulp shipment and production volumes were up 11% and 12%, respectively, from the previous quarter primarily reflecting the quarter-over-quarter impact of scheduled maintenance downtime. In the current quarter, the Company completed scheduled maintenance outages at the Prince George pulp mill and at the Taylor BCTMP mill which reduced pulp production by approximately 3,700 tonnes and 3,100 tonnes, respectively, while in the second quarter of 2016 scheduled maintenance outages and, to a lesser extent, isolated operational disruptions, reduced NBSK pulp production by approximately 40,000 tonnes. NBSK unit manufacturing costs were substantially lower in the current quarter principally as a result of lower maintenance costs.

On July 29, 2016, Canfor completed the final phase of the acquisition of Scotch & Gulf Lumber located in Alabama, for US$47.3 million, increasing the Company’s ownership interest from 50% to 100%.

Commenting on the Company’s third quarter results, Canfor’s President and Chief Executive Officer, Don Kayne, said, “We had another solid quarter in our lumber business, benefitting from both increased prices across most grades and productivity improvements, particularly for our recently acquired mills where the performances continue to exceed our expectations.” Kayne added, “Similarly, our pulp business delivered solid financial results for the third quarter, following a return to more normal operating levels after the scheduled maintenance outages taken in the previous quarter.”

Discussions between the Canadian and US Governments regarding the Softwood Lumber Agreement continue following the expiry of the one-year stand-still period on October 12, 2016. In the event no agreement is reached, there is a material risk of US trade action being initiated against Canadian lumber producers which could result in the imposition of duties on lumber shipments to the US.

Looking ahead, the US housing market is forecast to continue its gradual recovery through the balance of 2016. North American lumber consumption is forecast to improve reflecting steady demand in the residential construction market and continued strength from the repair and remodelling sector. There remains a risk of market place volatility absent a new Softwood Lumber Agreement. For the Company’s key offshore lumber markets, demand is anticipated to show a modest improvement through the fourth quarter. In the pulp and paper segment, with new pulp capacity forecast to come on line, there is risk of downward pressure on pricing. For the month of October 2016, Canfor Pulp’s announced NBSK pulp list price is US$1,000 per tonne in North America.

Acquisition of Scotch & Gulf Lumber
On July 29, 2016, Canfor completed the final phase of the acquisition of Scotch Gulf for $61.6 million bringing Canfor’s interest in Scotch Gulf to 100%. Upon completion of the final phase of the acquisition, the forward purchase liability of $71.8 million and non-controlling interest of $39.7 million were derecognized, and $69.9 million was charged to other equity. In addition, $20.0 million was charged to retained earnings reflecting Canfor’s election to calculate the non-controlling interest related to Scotch Gulf as the non-controlling share of the fair value of the net identifiable assets at the acquisition date.

Outlook
Lumber
Looking ahead, the US housing market is forecast to continue its gradual recovery through the balance of 2016. North American lumber consumption is forecast to improve reflecting steady demand in the residential construction market and continued strength from the repair and remodelling sector. There remains a risk of market place volatility absent a new Softwood Lumber Agreement. For the Company’s key offshore lumber markets, demand is anticipated to show a modest improvement through the fourth quarter.

Pulp and Paper
NBSK pulp list prices have held up well to date in October; however, with new pulp capacity forecast to come on line there is risk of downward pressure on pricing. For the month of October 2016, Canfor Pulp’s announced NBSK pulp list price is US$1,000 per tonne in North America.

All of Canfor Pulp’s scheduled maintenance outages have now been completed for 2016.