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Edited Transcript of CFF.TO earnings conference call or presentation 15-Nov-19 3:00pm GMT

Q3 2019 Conifex Timber Inc Earnings Call

Dec 6, 2019 (Thomson StreetEvents) -- Edited Transcript of Conifex Timber Inc earnings conference call or presentation Friday, November 15, 2019 at 3:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Hans Thur

Conifex Timber Inc. - EVP

* Kenneth A. Shields

Conifex Timber Inc. - Chairman, CEO & President

* Yuri Lewis

Conifex Timber Inc. - CFO & Corporate Secretary

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Conference Call Participants

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* Hamir Patel

CIBC Capital Markets, Research Division - Director of Institutional Equity Research and Paper & Forest Products Analyst

* Paul C. Quinn

RBC Capital Markets, Research Division - Director of Paper and Forest Products

* Sean Steuart

TD Securities Equity Research - Research Analyst

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Presentation

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Operator [1]

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Good morning, ladies and gentlemen. Welcome to the Conifex Q3 Conference Call. I would now like to turn the meeting over to Mr. Ken Shields, CEO. Please go ahead, Mr. Shields.

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Kenneth A. Shields, Conifex Timber Inc. - Chairman, CEO & President [2]

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Well, thank you, Melanie, and good morning, everyone, and welcome to our call covering our Q3 results. As is our custom, CFO, Yuri Lewis; and Executive VP, Hans Thur, are with me and available to respond to questions you may have at the end of this call.

Let's quickly cover our 4 points about the financial information we're about to refer to. First, we will be making forward-looking statements and references to non-IFRS measures, and therefore, call your attention to the disclaimer in our shareholder materials. Second, we will be making references to adjusted EBITDA, and this is the EBITDA adjusted for the noncash impact of foreign exchange translation gains or losses on U.S. dollar-denominated long-term debt. Most of our borrowings are in U.S. dollars because most of our debt was incurred to fund the build-out of our lumber business in the U.S. South. A more accurate depiction of our operating performance in any reporting period is provided if we factor out these translation gains and losses. Third, adjusted EBITDA excludes gains from the sale of rights to potential future lumber export duty deposit refunds, and those amounted to $12.6 million in Q2 and $2.6 million in Q3 of 2019. And lastly, our Q3 results and results of proceeding and comparative quarters have been reclassified to give effect to the sale of Lignum Forest Products, which we completed back in April.

So responding to the feedback we recently received from several of you who are on the line this morning, it makes sense for us to use our time to focus on our financial position and to talk about our path forward.

On November 1, we successfully met an important bank milestone when we concluded the sale of our Fort St. James business for approximately $38.6 million in gross proceeds. Although we already have a good handle on the direct costs we incurred to complete the transaction and to curtail operations in the Fort St. James, we're still a week or so away from completing our tally of other onetime costs we are likely to incur as a consequence of reducing our lumber segment footprint in B.C. The net proceeds from the sale were used to augment working capital and to fund an approximate $17 million reduction in the term loan we have with our banking syndicate.

Back on October 1 of this year, we reported that we are required to deliver an asset divestment and debt restructuring plan acceptable to our lenders on or before November 25. Back when we issued this press release, lumber prices and net working capital were both lower than they are today. It was, therefore, appropriate to disclose that we could not provide assurances that our lenders will find our plan acceptable and that we may have to consider other financial remediation options. When commodity prices collapsed, (inaudible) for lumber producers with above-normal leverage that we had at the time. We've worked collaboratively and constructively with our lenders. We've completed amendments in the third quarter of 2019 and in subsequent periods, and these amendments typically waived covenants and milestones and provided us additional liquidity.

Based on the most up-to-date information available to us, we continue to believe that our asset base is capable of delivering us a combination of cash flow generation and divestiture proceeds that is sufficient to pay all interest and repay all the principle on our entire indebtedness.

Let's take some time now to review 3 internal accomplishments and 2 industry factors that support our belief we will settle a mutually acceptable asset divestiture and restructuring plan in the next 10 days. Point one, we have dramatically reduced our cash burn. Our MD&A indicates that we incurred negative adjusted EBITDA from continuing operations of $9.2 million in Q3 and $25.1 million year to date. Approximately 90% of the year-to-date adjusted EBITDA loss was sourced from 3 sites. Here's what we've done to mitigate EBITDA losses at the 3 sites. At Fort St. James, selling the site means there will be no further EBITDA losses after November 1. At Glenwood, we recalibrated shifting configurations and our saw timber procurement protocols. The site is now generating positive EBITDA. And at El Dorado, the majority of the final costs of winding down activity at this site were incurred in October. And from November 1 onwards, monthly losses at this site will both be much lower and much more affordable.

So the second major internal accomplishment is that our EBITDA is recovering at a rapid clip. Successfully completing the aforementioned initiatives means that we have locked in sequential quarterly EBITDA gains at the 3 sites for Q4 of 2019 and a gain for Q1 of 2020.

Looking at other parts of our business, we continue to have the benefit of the steady cash flows generated across city and at the power plant. At our Mackenzie sawmill, we expect EBITDA losses will be reduced as we move forward over the next several months because we're capturing the dual benefits of lower delivered log costs and modestly improved lumber mill net sales realizations. We believe we are now positioned to deliver very material sequential and year-over-year gains in adjusted EBITDA. Our target is to deliver adjusted EBITDA this year and next year that is materially better than the present consensus estimates of analysts.

The third internal development is that our debt reduction is well underway. As you all know, our net debt is comprised mainly of our limited recourse power plant borrowings and a senior secured term loan facility provided by a bank syndicate. Even though we incurred adjusted EBITDA losses of $25.1 million in the year-to-date period, net debt at September 30, 2019, and I need to mention that this is before factoring in the proceeds from the sale of Fort St. James, net debt at December 30 decreased by $39.7 million to $267 million from $307 million at December 31, 2018.

In common with other lumber producers, we reduced the amount we owe banks by actively managing controllable expenses and working capital levels and by scaling back capital expenditures in the face of market uncertainty. But at Conifex, we went a step further, and we proactively monetized investments in the parts of our company that are not central to our mid- and long-term development as a leading North American lumber producer. And here, I'm referring to our sale of Lignum Forest Products and our rights to export duty-deposit refunds.

So having reviewed the progress we've made reducing cash burn and repaying debt, let's now review 2 other industry developments that are shaping our debt service capabilities. First, we are transitioning to an investor lender-friendly economics in the interior B.C. Forest sector. We believe we've entered a new phase in the lumber industry cash flow cycle in the B.C. interior. In Q1 of this year, we observed how the interior B.C. lumber supply region reached the point where too little sawtimber supply was available to keep all sawmill complexes operating on their existing shifting configurations. We observed how mills had also been bidding up timber prices as competition for our shrinking sawtimber supply intensified.

In Q2 and Q3 of this year, it became clear to us that operators have too little liquidity and/or fortitude to continue funding cash operating losses equivalent to double or triple shutdown costs in many cases. And this is why the resulting series of mill closure and shift-curtailment announcement -- announcements came as no surprise to us. Now in Q4, we have solid evidence that B.C. operators are managing their business in a more financially responsible manner, lumber supply has contracted, purchased sawtimber prices are retreating, and lumber prices are recovering.

In terms of EBITDA generation, as further reductions in log costs take effect, we believe the interior B.C. lumber industry, in general, and our Mackenzie lumber operation, in particular, are now crossing the valley bottom and will soon start climbing back the other side.

The second external factor impacting our debt service capability is that we've had market feedback, which confirms our high underlying asset value in our company.

Dealing first with Mackenzie. On our last call, we indicated we were going to test the market for potential interest in our bioenergy segment. The feedback we received from the market test was to the effect that we were at too early a stage in the profit recovery cycle in the interior B.C. lumber sector to attract the price that properly reflected our assessment of the present value of cash flows expected to be generated over the remaining life of the contract we have with BC Hydro. We continued to explore opportunities with the Ministry of Forest here in B.C., the district of Mackenzie and all forest industry stakeholders in the region to achieve lower delivered log costs at our Mackenzie complex. These lower costs are a prerequisite to sustaining production and positive EBITDA at the Mackenzie sawmill, and thereby, ensuring that the sawmill meets its fuel delivery obligations to the power front.

While we're on the subject of Mackenzie, we wish to point out that the price we've received for Fort St. James supports our view that if we choose to pursue a private market transaction for our Mackenzie sawmills in tenure at some time in the future, any transaction would likely take place at a premium over the balance sheet carrying values of the mill and timber.

Turning to the U.S. We are in the early stages of testing the market for indications of value for each of our U.S. sawmill complexes. Preliminary feedback indicates that the sum of the price syndications we have been receiving for the 3 mills is considerably greater than the amount we owe our banks syndicate. It is too early in the testing process to determine if we will be able to realize the value that we think is inherent in each mill. Over the next few weeks, our Board will assess whether a sale is more financially rewarding for shareholders than the alternative of retaining one or more mills and opportunistically investing in high cash flow accretion projects that are available to us at any retained site or sites.

Summing up, we believe Conifex has turned the corner for 5 great reasons. One, we've eliminated EBITDA losses at 2 money-losing sites and dramatically reduced losses at the third site. Two, our EBITDA is rebounding rapidly. Number three, we've clearly demonstrated our commitment and ability to reduce debt even facing challenging lumber market conditions. Number four, the sawmill industry cash flow cycle in B.C. is now moving in our favor. And number five, feedback from the market suggests that the prices likely available to us if we chose to dispose of our 3 U.S. mills exceeds the amount we owe our bank syndicate.

We thank you for taking the time today to learn more about Conifex. We trust you'd share our belief that our facilities are capable of providing us a combination of cash flow generation and divestiture proceeds sufficient to pay interest and repay principal on all our debt. As soon as we receive more wholesome information from the market tests underway for our U.S. mills, our Board of Directors and our leadership team look forward to sampling and implementing a business plan where we emerge as a stronger company of greater interest and value to investors.

We are now pleased to respond to any questions analysts or shareholders may have, and we'll turn the session back to Melanie. Thank you.

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Questions and Answers

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Operator [1]

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(Operator Instructions) The first question is from Sean Steuart of TD Securities.

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Sean Steuart, TD Securities Equity Research - Research Analyst [2]

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Two questions, Ken. What is the Mackenzie sawmill book value for you guys right now?

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Kenneth A. Shields, Conifex Timber Inc. - Chairman, CEO & President [3]

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Yuri will be looking that up, and she'll be up on the line once she's got the answer to that. But I think -- so I'm not going to speculate on it. We bought the site for $33 million initially. $10 million of the $33 million was according to the power plant. So we had a net book value of $23 million. We spent probably $20 million of capital on it over the piece and during the time we'd owned it and we probably had amortization of $3 million a year. So it -- and we've had 800,000 cubic meters of net tenure, which at $100 a cubic meter is for something like $80 million. So Sean, that's why I made the statement that we think that the underlying value contained there is materially above the net book value.

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Yuri Lewis, Conifex Timber Inc. - CFO & Corporate Secretary [4]

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Sean, it's just under -- about $30 million.

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Sean Steuart, TD Securities Equity Research - Research Analyst [5]

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$30 million. Okay. So I just want to make sure I'm understanding some of the previous comments correctly. You're not envisioning selling the bioenergy as a part of any restructuring plan that you guys provide in the next week and a bit. Is that correct?

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Kenneth A. Shields, Conifex Timber Inc. - Chairman, CEO & President [6]

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Yes, that is correct. And the reason is that the feedback we had from the market test is that the institutional buyers who are logical owners of assets with the characteristics of that plant, they wanted further confirmation that the fundamental economics in the interior B.C. harvesting and lumber manufacturing business were solid and that there was certainty that we sustain lumber production at the site and, thereby, deliver the co-products for lumber manufacturing that are necessary to provide the bottom line feedstock for the power plant.

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Sean Steuart, TD Securities Equity Research - Research Analyst [7]

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Okay. So any restructuring plan you provide in the next week, is it possible that you don't announce asset divestiture plans formally but you give your creditors assurances that you're considering further options? And is that a potential outcome of what happens before November 25?

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Kenneth A. Shields, Conifex Timber Inc. - Chairman, CEO & President [8]

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Well, it certainly is a potential outcome, and there are other potential outcomes. But the part of the process that we control is that -- similar to what I've mentioned is that we're testing the market. We're evaluating the feedback from the market against our assessments and beliefs in the fundamental value. And we'll be meeting with our Board, and we'll be looking at the portfolio of mills versus cash available and making some decisions.

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Operator [9]

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The following question is from Paul Quinn of RBC Capital Markets.

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Paul C. Quinn, RBC Capital Markets, Research Division - Director of Paper and Forest Products [10]

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You made some comments in your MD&A that suggested lumber prices rising in the balance at the end of the year and into 2020. What gives you the confidence of that projection?

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Hans Thur, Conifex Timber Inc. - EVP [11]

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Yes, Paul, it's Hans. What we're looking at there, we've seen, obviously, a decent run here in the third quarter, specifically on SPF. And as we all know, we're in a little bit of a pullback right now. I think Random printed $377 this morning. Our feeling is that the market may bottom maybe a little bit under the $370 as we traditionally have a slow period here going into the U.S. Thanksgiving. And we think with the indications of potential further curtailments around the holiday period, I think we've seen evidence of that. There was an announcement this morning on that, that lumber prices will, after the Thanksgiving, start to get a bit of traction again. And then going into quarter 1 of 2020, I think there'll be a more of a seasonal pattern versus what we were last year. And just with the fact that there's just less production overall that will be coming out of British Columbia, I think it will give us some confidence to set a good baseline for pricing going forward.

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Paul C. Quinn, RBC Capital Markets, Research Division - Director of Paper and Forest Products [12]

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Okay. That's a great recap on domestic market. Are you seeing anything different in export markets?

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Hans Thur, Conifex Timber Inc. - EVP [13]

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Well, on that one, I mean, that's interesting. I think we're all following the China market fairly closely, and I believe -- I know there's a mission going on there currently, the B.C. trade mission. The difference from a year ago is that, and we've all been reading about the beetle infestation in Europe, and what's happened, Paul, is that a lot of the material coming out of the European mills now is low grade or much more than they had before, which they've targeted China. And the other one that they're also targeting China on is their log volumes are up extremely high specifically out of Germany into China. So it's put a lot of pressure on the pricing there. And we're seeing that ripple effect right back to Canada and the U.S. that there has been an impact on the pricing of low grade at this point in time. So we haven't backed out of that market, we're doing it in a 2-step phase. But we're not holding out that there's -- the returns there will be very favorable compared to where they have been in the past.

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Paul C. Quinn, RBC Capital Markets, Research Division - Director of Paper and Forest Products [14]

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Okay. And then maybe, Ken, back to you, just on the asset sale restructuring plan. It -- to Sean's point, it sounds like bioenergy is off the table but every other sawmill is on the table. Is that the way I can read that?

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Kenneth A. Shields, Conifex Timber Inc. - Chairman, CEO & President [15]

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Every other U.S. sawmill.

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Paul C. Quinn, RBC Capital Markets, Research Division - Director of Paper and Forest Products [16]

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Okay. So Mackenzie is not on the table then?

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Kenneth A. Shields, Conifex Timber Inc. - Chairman, CEO & President [17]

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Correct.

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Operator [18]

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The following question is from Hamir Patel of CIBC Capital Markets.

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Hamir Patel, CIBC Capital Markets, Research Division - Director of Institutional Equity Research and Paper & Forest Products Analyst [19]

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Ken, you've previously spoken about El Dorado and what sort of capital might be needed to get that mill in a competitive position. I'm just curious as that as a potential asset sale, have you -- what's your best estimate as to -- if you were to do it, how much capital would you need to spend at El Dorado?

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Kenneth A. Shields, Conifex Timber Inc. - Chairman, CEO & President [20]

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I can only tell you what our latest estimate is at Conifex, and it's approximately USD 15 million. And we have an engineering review on-site scheduled for the first week in December to further discuss those figures.

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Hamir Patel, CIBC Capital Markets, Research Division - Director of Institutional Equity Research and Paper & Forest Products Analyst [21]

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Okay. That's helpful. And just turning to B.C., can you give us a sense as to how -- where you'd expect stumpage, your fiber costs to be in Q4 versus Q3? And then on an annual basis, 2020 versus 2019?

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Kenneth A. Shields, Conifex Timber Inc. - Chairman, CEO & President [22]

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Okay. We haven't really settled on our delivered log cost estimates at Mackenzie for 2020 yet. We think that Q4 log prices, delivered log cost at Mackenzie will be about 7% to 10% lower than they were in the year-to-date period, and we think that we'll get a similar reduction from the Q4 level in 2020. We're certainly targeting something like that. So putting it together, delivered log costs in 2020, a target we would set, it would be perhaps as much as a 15% reduction.

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Operator [23]

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(Operator Instructions) The following question is from Sean Steuart of TD Securities.

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Sean Steuart, TD Securities Equity Research - Research Analyst [24]

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Just one follow-up at -- on a going-concern basis, assuming you're in a hypothetical world where you don't sell anything, what would your -- I guess the question is, how low and how long can you take CapEx before asset quality starts to deteriorate for your current fleet? How -- what 2020 CapEx could be feasible for you guys holding it at a really low level to preserve liquidity?

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Kenneth A. Shields, Conifex Timber Inc. - Chairman, CEO & President [25]

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Well, Sean, I can just share with you a general rule of thumb that I have. So in any quarter, we can get by with a little bend in CapEx. But for the year as a whole, probably about CAD 2 million per mill would be a low level just in terms of repairs and capitalized maintenance. And you always have some mobile equipment that's coming on lease, and you're buying the equipment out for its residual value. So at the 3 sawmill sites we're running, it would be probably USD 5 million or CAD 6 million as a minimum.

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Operator [26]

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(Operator Instructions) There are no further questions registered.

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Kenneth A. Shields, Conifex Timber Inc. - Chairman, CEO & President [27]

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Okay. Well, listen, thanks for coordinating our activity today. And from all of us at Conifex, thanks to all of you for your interest in our company. Have a great rest of the day.

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Operator [28]

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The conference has now ended. Please disconnect your lines at this time. We thank you for your participation.