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Edited Transcript of ADN.TO earnings conference call or presentation 1-Nov-18 5:00pm GMT

Q3 2018 Acadian Timber Corp Earnings Call

Vancouver Nov 7, 2018 (Thomson StreetEvents) -- Edited Transcript of Acadian Timber Corp earnings conference call or presentation Thursday, November 1, 2018 at 5:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Mabel Wong

Acadian Timber Corp. - Senior VP & CFO

* Mark Bishop

Acadian Timber Corp. - President & CEO

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Conference Call Participants

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* Andrew M. Kuske

Crédit Suisse AG, Research Division - MD, Head of Canadian Equity Research, and Global Co-ordinator for Infrastructure Research

* Michael Roxland

* Paul C. Quinn

RBC Capital Markets, LLC, Research Division - Analyst

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Presentation

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Operator [1]

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Good afternoon. Thank you for standing by. This is the conference operator. I would like to welcome everyone to Acadian Timber Corp's Third Quarter 2018 Conference Call and Webcast for Investors and Analysts. As a reminder, all participants are in listen-only mode and the conference is being recorded. After the presentation, there will be a question-and-answer session.

(Operator Instructions)

I would now like to turn the conference over to Ms. Mabel Wong, Chief Financial Officer.

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Mabel Wong, Acadian Timber Corp. - Senior VP & CFO [2]

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Thank you, operator, and good afternoon, everyone. Welcome to Acadian's third quarter conference call.

Before we get started, just a quick reminder that in discussing our third quarter financial and operating performance, our outlook for the remainder of 2018 and responding to questions, we may make forward-looking statements. These statements are subject to known and unknown risks and future results may differ materially. And for further information on our known risk factors, I encourage you to review Acadian's Annual Information Form, dated March 28, 2018 and other filings of Acadian, which are available on SEDAR and on our website.

Moving into our presentation for today, I'll start by outlining the financial highlights for the quarter and then Mark Bishop, Acadian's President and CEO, will comment on our operations, market conditions and our outlook for 2018.

You may recall that from our first quarter conference call, this year, starting January 1, 2018, as a result of the new accounting standard relating to revenue contracts, there's been a change in net presentation to gross presentation relating to our timber services. This change results in an increased net sales and has a corresponding and offsetting increase to operating costs and expenses. So prior-year net sales and therefore adjusted EBITDA margin have been revised to conform with this new presentation, but note however that adjusted EBITDA and net income are unaffected by the change. And you can find more on this in our third quarter interim report.

So for the third quarter overall, Acadian continued to perform well with results reflecting continued strong demand and favorable operating conditions. We generated adjusted EBITDA of $6.1 million in the 3-month period, this compares to $6.7 million in the prior year, as log sales volumes decreased 11% over the prior year due to the timing of our harvest activities. Partially offsetting the lower log sales volumes was a 6% increase in our weighted average log selling price, as prices for most of our products benefited from improved demand.

Net income was $5.9 million during the quarter, and this was $3.8 million lower than the prior year period, which was at $9.7 million. And this was primarily due to the impact of changes in foreign exchange revaluation of Acadian's U.S. dollar denominated long-term debt, as well as the impact of the lower log sales volumes that I mentioned previously.

For the 3 months period, our payout ratio was 92%, and this compares to 87% in the same period of 2017. And on a year-to-date basis, our payout ratio was 98%, slightly above but relatively in line with our long-term annual target of 95%.

For the third quarter, Acadian generated net sales of $26.6 million compared to $27.2 million in the prior year period. And as I mentioned, it's driven by 11% decline in total log sales volumes, partially [offset] 6% improvement in Acadian's weighted average log selling price. Also in the quarter, Acadian benefited from a meaningful improvement in biomass revenues due to the stronger export markets.

Adjusted EBITDA margin was 23% for the quarter, a slight decrease from 25% in the prior year period, as the aforementioned increase in weighted average log selling prices was more than offset by the lower sales volumes as well as higher variable harvest cost per cubic meter.

Moving into the results of each of our New Brunswick and Maine operations. Net sales for our New Brunswick Timberlands during the third quarter were $20.1 million compared to $20.6 million during the prior year period. Despite continued favorable harvest and demand conditions, year-over-year third quarter log sales volumes declined to 195,000 cubic meters due to timing. As you may recall, markets were very strong in the first half of 2018, and therefore, our commitment to manage annual harvest volumes at sustainable levels resulted in a decreased harvest level -- decreased level of activities in the third quarter. In addition, timber services and other sales decreased 5% compared to the prior year period, again, primarily due to the timing of harvesting activities.

Our results reflect the positive impact of higher pricing with New Brunswick's weighted average log selling price during the quarter increasing to $64 per cubic meter from $63 per cubic meter in the prior year. Demand in New Brunswick remained strong, which supported increased softwood sawlog prices that were higher by 5% and hardwood pulpwood prices that were higher by 3%. These increases were partially offset by changes in the sales mix during the period due to higher relative sales volumes of lower value hardwood pulpwood. Pricing for this product, however, was favorable compared to the prior year period.

In addition, contributions from biomass products for New Brunswick increased meaningfully by [6%] reflecting strong export markets. So as a result of these factors as well as higher variable harvest cost per cubic meter, New Brunswick's adjusted EBITDA was $4.5 million during the quarter, compared to $5.5 million in 2017, and adjusted EBITDA margin was 22% during the quarter, slightly lower than the 26% margin in the prior year.

Moving onto our Maine Timberlands. Net sales during the quarter totaled $6.5 million compared to $6.6 million for the same period last year, as the benefit of a 14% increase in the weighted average log selling price fully offset the 13% decrease in log sales volumes. And as noted previously, while harvest and market conditions continue to be favorable, harvest activities were adjusted to manage volumes at sustainable levels.

Maine's weighted average log selling price in Canadian dollar terms increased $86 per cubic meter during the third quarter from $75 per cubic meter during the prior year period. In US dollar terms, pricing improved 9% year-over-year to $66 per cubic meter, reflecting meaningfully stronger demand and prices for softwood sawlog and hardwood pulpwood. As a result of the improved pricing we achieved in the quarter, Maine's adjusted EBITDA was $1.9 million compared to $1.6 million in the prior year period, while adjusted EBITDA margin increased to 29% from 23% in 2017.

Turning now to our balance sheet. Acadian's cash position continues to be strong with approximately $22 million of cash at the end of the quarter. Our cash balance has decreased by $2 million since the beginning of the year, primarily driven by the timing of working capital. Acadian has ample cash resources, which is further supported by funds available under our revolving credit facility and a standby equity commitment from Brookfield, overall making up a net liquidity position of $97 million.

And that concludes my remarks on this quarter's financial results. I'll now turn the call over to Mark Bishop.

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Mark Bishop, Acadian Timber Corp. - President & CEO [3]

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Thanks, Mabel, and good afternoon. During the quarter, Acadian's operations had no recordable safety incidents among employees and one minor incident among contractors. We remain very committed to maintaining a culture across the organization that emphasizes the importance of strong safety performance. Acadian's operations performed well during the quarter, driven by continued strong and stable market dynamics in New Brunswick, improved log markets in Maine compared to the prior year and favorable operating conditions, as Mabel had mentioned.

Excluding biomass, log sales volumes of 269,000 cubic meters for the quarter were down 11% year-over-year as harvest and sales activities were stronger than anticipated during the first half of 2018 due to favorable harvesting conditions and strong seasonal demand. As a result, the third quarter harvest activity was adjusted to reflect Acadian's commitment to manage annual harvest volume at sustainable level.

Acadian's weighted average log selling price increased 6% over the prior year period, benefiting from a 16% increase in softwood sawlog prices and a 4% increase in prices for hardwood pulpwood. These increases were partially offset by the impact of changes in sales mix.

Demand for softwood sawlogs and hardwood pulpwood in New Brunswick remained strong with prices increasing by 5% and 3% respectively. Markets in Maine continued to strengthen with prices in U.S. dollar terms for softwood sawlogs increasing 15% and hardwood pulpwood prices improving 5% compared to the prior year period.

Export markets for Acadian's biomass products strengthened year-over-year, resulting in a meaningful 47% increase in gross margin earned compared to the prior quarter -- the third quarter of 2017. Acadian's key markets include softwood sawtimber, hardwood sawtimber and hardwood pulpwood. Northeast North American softwood dimension sawmills represent over one-third of Acadian's end-use market and are the primary market for our softwood sawtimber.

As you're all aware, despite the current very strong U.S. economic performance, key indicators suggest momentum in the U.S. housing market has slowed over the past couple of months. Tight construction labor markets and restricted building regulations have continued to weigh on residential construction growth expectations. However, the primary catalyst to a more conservative recent consensus housing forecasts compared to prior quarter had been persistent weak wage growth, combined with rising interest rates and the escalating negative sentiment on the impact of U.S. trade policy.

The most recent forecast anticipates year-over-year growth in starts ranging from flat to up to 5% for 2019. But importantly, single-family starts, which are, as you know, the largest lumber consuming segment of the U.S. housing starts, are forecast to continue to slowly recover from recently historically low levels. As a result, North American sawtimber demand is still expected to post modest year-over-year growth, even under the more conservative forecast. The backdrop for housing demand over the medium term does remain very positive, reflecting continued pent-up demand for housing and improved demographics.

Average third quarter 2018 quarterly benchmark Western SPF and Southern Yellow Pine lumber prices have declined 20% and 18% respectively from the prior quarter, with prices sliding towards cash cost -- average cost cash levels recently during the month of October. The significant swing in pricing, which had been well beyond seasonal norms, has been exacerbated by severe weather in the U.S. South that has reduced market demand.

Forecasters anticipate that extensive announced downtime, principally in the high log cost regions of British Columbia and the U.S. Pacific Northwest, coupled with ongoing demand growth, will support continued historically strong lumber pricing through 2019 albeit with more volatility. But in extension, Acadian anticipates continued strong support in end-use markets for softwood sawtimber pricing through this period.

Hardwood sawtimber markets, typically oriented toward millwork and higher-value specialty markets, remained well balanced and continue to have a positive outlook for the foreseeable future. The outlook for global pulp markets remain strong, supported by encouraging demand and pricing dynamics, in particular for containerboard and tissue segments. Hardwood pulpwood demand in Acadian's operating region remains stable with well-balanced supply conditions supporting continued historically strong pricing.

Several quarters ago, we emphasized the historical resilience of the region's forest industry, and in particular, 2019 has been an important year for Maine with a revitalization of its industry, as we have seen significant investments and commitments, including Verso's upgrade to the Androscoggin mill; [Sappi's] recently completed project in Skowhegan; Nine Dragons' acquisition and slated investment in Rumford, Maine; and also recently, Nine Dragons' announced acquisition and restart of the Old Town mill on unbleached kraft pulp. While softwood market -- pulpwood markets, which are Acadian's smallest markets by product segment and margin, still remain under pressure, this plant's restart in 2019 should be a catalyst for recovery of the softwood pulpwood demand and pricing.

And finally, New Brunswick biomass markets continue to be supported by strong export demand. As we've mentioned, biomass markets in Maine remain weak, although early initiatives in wood-based liquid biofuels and pellets are progressing as an effort to tap into biomass export markets from Maine.

In closing, I'd like to highlight that with a strong balance sheet, highly capable operating team and a positive market outlook, Acadian continues to be well positioned to meet our quarterly distributable cash commitment over the coming year. While no shares were repurchased under our normal course issuer bid established during the first quarter of this year, we will continue to seek opportunities to do so at the appropriate share valuation.

On behalf of the Board and Management of Acadian, I'd like to thank you for your ongoing support.

So that concludes our formal remarks, and we're available to take any questions. So I'll pass it back to the operator.

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Questions and Answers

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Operator [1]

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(Operator Instructions) And our first question comes from Mike Roxland, BTG.

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Michael Roxland, [2]

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Just wanted to get some more color on what you're seeing in terms of your end-markets, in particular Maine. Why do you think sawlog demand continues to improve in Maine, particularly given the softness that we've seen in lumber demand for the last couple of months?

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Mabel Wong, Acadian Timber Corp. - Senior VP & CFO [3]

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As you know, we were just [sticking up] our third quarter and our third quarter continued to be very strong. And certainly through what we've seen in the fourth quarter so far, we have not seen any downtime or any change in our demand profile, and clearly there has been an inventory build. But so far, we are not seeing any announced downtime or any significant shifts in expected demand over the coming quarters. The last couple of months that you're referring to, in terms of the slowdown in demand, obviously, we've seen a significant drop in pricing that happened post this quarter, and yet, we don't expect to see anywhere near the same volatility in sawtimber pricing in Maine or in New Brunswick, for that matter, over the next quarter as anywhere near the volatility we've seen in lumber. Demand does continue to remain strong as we look into the next couple of quarters, but clearly, there has been an inventory build and a slowdown that is more than seasonal. But we think the other factors that have occurred during the last couple of months, including the U.S. Southern weather patterns, have certainly played a role in it.

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Michael Roxland, [4]

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Is there anything unique to Maine itself such that you're seeing the sawlog demand continue to improve? Is there something that -- I mean, what are your customers telling you? What are you seeing from their perspective? And is there anything unique to the Maine environment?

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Mark Bishop, Acadian Timber Corp. - President & CEO [5]

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I'm not clear, I think you seem to be referring to a continued improvement quarter-over-quarter, and I'm certainly not suggesting that's the case. Our references have been our year-over-year change in demand and an improvement in Maine's overall supply-demand balance over the last year. I think you can see, and we've seen a significant improvement in Maine pricing over the last year-over-year, but the third quarter was a significant improvement even over the first half. And that was a significant expression from our customers that they saw a meaningful improvement in their markets over the beginning of the year and continue to see promising demand through the next several quarters. So I'm not suggesting that we've seen an increase in demand since September 30th. So if that was -- what we were -- what I was implying, and that was certainly not the case.

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Michael Roxland, [6]

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Got it. Then one last question before I turn it over. You mentioned that about one-third of your Maine -- or end-market breakdown is affiliated with or connected with softwood lumber. Can you give us the rest of that breakdown with respect to Maine? So [if we want go] just to softwood lumber, how do you think about the rest of your end products where the -- where is tissue, where is hardwood lumber?

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Mark Bishop, Acadian Timber Corp. - President & CEO [7]

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I think you can see the mix probably in our AIF, but we obviously have a much more diversified market in most of the other regions. I can't give you the exact percentages off the top, but we have -- a significant component is obviously softwood sawtimber, but also hardwood pulpwood and hardwood sawtimber are in that mix as well. So the hardwood pulpwood would be the most -- second most significant sort of breakdown of our product mix. I'd refer you to sort of our annual data that we show in our AIF for our product mix.

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Michael Roxland, [8]

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Got it. And I know I said this before, but one last question, and then I will turn it over. The demand -- the continued strong demand that you've seen in New Brunswick, what do you think is driving the stability in the market or the continued stability there or there may be the slight improvement in that particular region?

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Mark Bishop, Acadian Timber Corp. - President & CEO [9]

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Again, New Brunswick tends to be very, very stable. And I think you're aware that a significant amount of our volume goes to our supply agreement with Plaster Rock. Plaster Rock does support its pulp operations elsewhere in New Brunswick. So a significant amount of the stable operating rate is related to the operations on the pulp paper side for Twin Rivers. But that mill has also continued as -- other customers in New Brunswick have continued to see relatively strong demand. And clearly, we see an erosion of margin in this past quarter, given the impact of the 20% duties. But again, we're not seeing the same kind of downtime announced or overall concern as we have seen in the Pacific Northwest and D.C. So that clearly is where we've seen the bulk of the market downtime in the next months in the shipment pricing. As we look forward over the next couple of quarters, obviously, the change that we've seen over the last couple of months -- we're all waiting to see what happens and whether demand picks up, but we're not seeing or hearing any significant distress from our customers with respect to market downtime.

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Operator [10]

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Our next question comes from Paul Quinn, RBC Capital Markets.

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Paul C. Quinn, RBC Capital Markets, LLC, Research Division - Analyst [11]

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Just a question on -- I think in your release, you mentioned Acadian management believes that there is continued strong support in end-use markets for softwood sawtimber. I'm just wondering, what do you see out there specifically give you that level of confidence given the drop in lumber demand? Is there something regionally that makes you a little bit more confident than what we see other people express?

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Mark Bishop, Acadian Timber Corp. - President & CEO [12]

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Yes, Paul, I guess, I'm struggling with the response I'm seeing in general out there. If we see a housing start forecast, it's flat year-over-year, with an increase, slight increase even in single-family starts, that would suggest that we have a similar demand profile that we had last year. So I'm not going to speak to what we think demand conditions are over the next couple of weeks or the next couple of months. Over the year, we see demand very similar to last year, if not slightly better. And so far, I haven't seen a lot of forecasts -- clearly we've seen consensus forecasts for housing slowdown, but I haven't seen any forecasting a decline in housing starts year-over-year or a dramatic shift in overall demand as a result of construction slowing down. We don't see any alarming signs on the -- in our market side and in industrial construction. So I'm not -- our view is, yes, we've got significant volatility and obviously, we have significant price sticker shock with lumber prices in the past couple of months. But so far, there is nothing on the horizon that would suggest that we are seeing a significant slowdown in demand that makes us concerned.

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Paul C. Quinn, RBC Capital Markets, LLC, Research Division - Analyst [13]

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Okay, that's great. And then just on timberland markets, if you could give us an update has there been any transactions in your region that are noteworthy that you can sort of reference for us?

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Mark Bishop, Acadian Timber Corp. - President & CEO [14]

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Paul, as you are probably aware that the transaction profile for 2018 overall has been significantly slower than last year. There's been very few transactions completed and only a few that -- of scale that have actually been active that are still working through a second round process. So there are very small transactions going on, probably not that noteworthy. But it really has been a much slower year. I don't think you attended the Portland Conference, which obviously a lot of these issues get spoken to, but there certainly appears to be an ongoing shift to, I guess, expectations around the next year anyway in terms of sizable transactions that we see coming to the market.

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Paul C. Quinn, RBC Capital Markets, LLC, Research Division - Analyst [15]

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So if you were to gauge price momentum right now in the marketplace, where would you gauge that, positive or negative?

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Mark Bishop, Acadian Timber Corp. - President & CEO [16]

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Timberland price momentum?

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Paul C. Quinn, RBC Capital Markets, LLC, Research Division - Analyst [17]

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Yes.

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Mark Bishop, Acadian Timber Corp. - President & CEO [18]

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Well, I think it's probably fair to say that it would be unbalanced, slightly negative, particularly if you were to just simply overlay -- and interest rates are sticky in terms of their impact on discount rates. But if you were to overlay the interest rate expectations over the next year and a half, you would also expect to see some pressure. Clearly, most of that pressure is likely to be in the U.S. South, given the overhang of inventory. And I think we've started to see that actually now with valuations on transactions, a few that we've seen. Again, I guess, I would emphasize that the Northeast does appear to be better positioned in our view, given the much more diversified markets and I have seen the diversified resource between hardwood and softwood. And again, the strength that we're seeing now in pulp and paper continues to help support that -- particularly, the residual end of the market that we were having trouble with, that will help solidify even the base price for softwood sawtimber as lumber producers will see or should see somewhat of a renewed value to residual chips in that region.

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Operator [19]

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(Operator Instructions)

Our next question comes from Andrew Kuske from Credit Suisse.

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Andrew M. Kuske, Crédit Suisse AG, Research Division - MD, Head of Canadian Equity Research, and Global Co-ordinator for Infrastructure Research [20]

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I guess, the first question is for Mark and it's just along the lines of -- if I look at your harvest numbers, I think, give or take, you're down about 40,000 cubes from a year ago. If you could maybe just give a bit of color around just the decline in the harvest levels, is it really weather-driven or is it more tactical?

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Mark Bishop, Acadian Timber Corp. - President & CEO [21]

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No, you're referring to year-to-date, Andrew, or simply to quarter-over-quarter?

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Andrew M. Kuske, Crédit Suisse AG, Research Division - MD, Head of Canadian Equity Research, and Global Co-ordinator for Infrastructure Research [22]

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I think, quarter-over-quarter.

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Mark Bishop, Acadian Timber Corp. - President & CEO [23]

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Yes. So I think as we outlined last quarter, we had particularly strong conditions, both demand but also operating conditions, and we knew we were hitting the market hard, if you will, and taking advantage of those conditions. So we were ahead and I think we are ahead of everybody's estimates last quarter as a result. But as you know, we are always managing towards our long-term sustainable yield or what we, within that, believe are our annual cut targets. So we specifically have targeted and continue to target cutting [or losing] for this year. So that meant to ultimately slowing down in the third quarter from what you would have seen last year, which was a little bit different in terms of how it played out. You've also seen our mix, particularly in Maine, or in Maine, much heavier to softwood. And last year, I think you realized that we were quite heavy to hardwood, and we are now back to A, taking advantage of a little bit under-harvest in softwood in Maine, but you'll start to see the Maine profile between softwood and hardwood look a whole lot more like it has historically rather than the last 2 years prior. So, I think, you'll see it -- our volumes this year in total should end up looking very much like they did to last year in terms of total volume, a different profile. And again just to emphasize it, we're always targeting harvesting and keeping within our sustainable limits on our long-term yield.

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Andrew M. Kuske, Crédit Suisse AG, Research Division - MD, Head of Canadian Equity Research, and Global Co-ordinator for Infrastructure Research [24]

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Okay, that's helpful. And then I think in your comments, you mentioned a bit of the biomass export market. Are you seeing an opportunity or greater opportunity in biomass export market, just given some of the fiber supply issues that are happening in Europe?

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Mark Bishop, Acadian Timber Corp. - President & CEO [25]

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Yes. I mean, we're, I would say, more or less doing as much as we can right now in terms of volume. We'd like to do more, but physically, it's difficult to do much more than we are from our New Brunswick location. And we are looking at -- with others investigating whether there is an opportunity to start to ship from a Maine locations in addition to that so that we can ship to some of that or take advantage of some of that volume from our Maine resource in addition to New Brunswick. So those markets do continue to look quite positive for us. There is pretty steady demand.

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Operator [26]

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And there are no further questions at this time. Mr. Bishop, I will turn the call back over to you.

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Mark Bishop, Acadian Timber Corp. - President & CEO [27]

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Okay. Well, again, thanks everybody for joining us. I know it's a busy -- always a busy quarter with your various other competing priorities. But again, I appreciate you participating and look forward to talking to you next quarter.

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Operator [28]

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And this concludes today's conference call. Thank you for participating. You may now disconnect.