Western Forest Products Inc. (WEF) Earnings Call Transcript

Good morning, ladies and gentlemen. Welcome to Western Forest Products Second Quarter 2026 Results Conference Call. [Operator Instructions] The conference is being recorded. [Operator Instructions] During this conference call, Western's representatives may make forward-looking statements within the meaning of applicable securities laws. These statements can be identified by words like anticipate, plan, estimate, will and other references to future periods. Although these forward-looking statements reflect management's reasonable beliefs, expectations and assumptions, they are subject to inherent uncertainties, and actual results may differ materially. There are many factors that could cause actual outcomes to be different, including those factors described under Risks and Uncertainties in the company's annual MD&A, which can be accessed on SEDAR and is supplemented by the company's quarterly MD&A. Forward-looking statements are based only on information currently available to Western and speak only as of the date on which they are made. Except as required by law, Western undertakes no obligation to update forward-looking statements. Accordingly, listeners should exercise caution in relying upon forward-looking statements. I would now like to turn the meeting over to Mr. Steven Hofer, President and CEO of Western Forest Products. Mr. Hofer, please go ahead.

Thank you, Gary, and good morning, everyone. I would like to welcome you to Western Forest Products 2026 Second Quarter Conference Call. Joining me on the call today is Glen Nontell, our Chief Financial Officer; and Bruce Alexander, our Senior Vice President of Sales, Marketing and Manufacturing. We issued our 2026 second quarter results yesterday. I will provide you with some introductory comments and then ask Glen to take you through our financial results. Bruce will follow with our market outlook section before we open the call to your questions. We saw modest improvements in lumber pricing and seasonal demand in the second quarter. We continue to demonstrate clear progress in advancing our strategic priorities while also solidifying a strong balance sheet to manage through near-term volatility. Since our last call, this has included completing our strategic kiln drying investments at our value-added division with the commissioning of the second continuous dry kiln and our thermal kiln. With 3 highly modern, low-cost continuous dry kilns operating on the BC Coast with a capacity of 206 million board feet, Western's investment will support higher-margin value-added kiln dried lumber production and enable the expansion of our global customer base. In addition, we are also upgrading our autograder technology at our Duke Point planer facility. The new autograder uses AI technology to grade each piece of lumber, resulting in more precision grading than manual grading, leading to higher margin potential. The $4.1 million investment is anticipated to be commissioned in early 2027. This will complement the autograder technology previously deployed in the Duke Point sawmill facility. From an operational perspective, our Timberlands group continued to focus on managing costs and log margin opportunities. Harvest volume increased by 35% compared to the same quarter last year due to improved permit approvals and more favorable weather conditions. In manufacturing, we improved our operational uptime to 88% in the second quarter of 2026 compared to 87% in both the first quarter of 2026 and the second quarter of 2025. This is an all-time high for Western Forest Products manufacturing sector. In sales and marketing, we continued our customer focus, developing value-added products and programs targeted with the end user in mind. Specialty products comprised 57% of sales in the second quarter of 2026 compared to 52% in the same quarter last year. From a cash flow and balance sheet perspective, we collected the Columbia Vista property insurance proceeds of USD 22.8 million in the second quarter and completed the sale of the sawmill site for USD 14.7 million in July. We look to finalize the Columbia Vista business interruption insurance process in the third quarter, and we continue to advance the $80 million sale of our Stillwater Forest Operations, which is anticipated to close in the second half of 2026. Assuming the completion of all these items, we expect to end the year with a pristine balance sheet, which will be in a net cash position. Looking ahead, we remain focused on executing our strategy and maintaining a strong balance sheet. We see gradual improvements to lumber markets over the midterm. However, in the near term, due to persistently weak market conditions, high softwood lumber duties and tariffs and factors relating to the BC operating environment, we plan to curtail our collagen-based sawmill for the remainder of 2026. I will now turn it over to Glen to review our key financial results.

Thanks, Steven. Second quarter adjusted EBITDA was $0.4 million as compared to $0.5 million in the same period last year. Second quarter EBITDA in 2026 included $2.3 million in share-based compensation due to a 20% increase in our share price. As compared to the prior year, results in the second quarter benefited from improved lumber pricing across many product lines, a strong specialty lumber sales mix, more favorable harvesting conditions and a strong external log sale mix. This was primarily offset by a 25% reduction in lumber shipment due to softer demand and loss of sales from our Columbia Vista division and higher softwood lumber duties and tariffs with a combined duty and tariff rate of 45% compared to 14% in the same period last year. We closed the second quarter with approximately 67 million board feet of lumber inventory and 622,000 cubic meters of log inventory. Turning to CapEx. Our 2026 total CapEx spending is expected to be between $45 million to $50 million, which includes approximately $20 million related to 2 previously announced continuous kilns and one thermal kiln at our value-add division and the autograder at Duke Point. From a balance sheet perspective, our Q2 ending net debt declined by $14.4 million and liquidity improved compared to the end of the first quarter. We ended the second quarter with a net debt to capitalization ratio of 6% compared to 9% at the end of the first quarter. After the end of the second quarter, we completed the sale of the Columbia Vista sawmill site for USD 14.7 million. With the planned sale of our Stillwater Forest Operations, which is anticipated to close in the second half of 2026, we expect to be in a net cash position at the end of the year. Turning to third quarter seasonality. Typical third quarters can be challenging operationally as hot, dry weather can restrict logging activity, reducing harvest volumes and impacting costs. While we have yet to experience any significant forest fires in our areas of operation, hot and dry conditions may impact harvest levels through the summer. I will now turn it over to Bruce to go through the market outlook.

Thanks, Glen. Turning to our market outlook. North American lumber markets are expected to be relatively stable through most of the third quarter of 2026. Housing affordability continues to be the most significant issue leading to reduced housing demand. Elevated interest rates, higher fuel costs and broader economic uncertainty are contributing to subdued consumer confidence and the reduced housing demand. Despite these headwinds, reduced lumber supply across North America has helped to offset weaker demand and support price stability across key product categories and market segments. Lumber demand in Japan has improved as housing starts gained momentum through the second quarter of 2026, while lumber inventories at the ports decreased. The Japanese lumber market is expected to be stable through the third quarter of 2026. Demand for softwood lumber in China is anticipated to soften in the third quarter of 2026 as seasonal weather and high temperatures reduced construction activities. Overall, we currently have a third quarter order file of approximately 118 million board feet. Steven, that concludes my remarks.

Thanks, Bruce. With that, Gary, we can open the call up to questions.

[Operator Instructions] The first question today comes from Sean Steuart with TD Cowen.

Steven, I want to start with the log harvest volume gain you saw this quarter. You referenced better weather, but also improved permit approvals. And I'm wondering if you can give some more context on the latter point and the sustainability of that change going forward.

Thanks, Sean. We've had a pretty good start overall in our Timberlands operation starting in Q1, where early on in January and February, we were able to get into higher elevation areas and more old growth. And that's just continued through Q2. Weather has been very favorable to our operating environment on the BC Coast. We've only lost a couple of days related to temperatures that put us in a safety watch zone. From a permitting standpoint, I'm really pleased at where we're at. It just speaks to our team's engagement and the investment we've made in developing long-term partnerships and long-term relations related to the First Nations in the traditional territories that we operate. So it's taken us some time, but I'm really pleased that the forward look that we now have on permitting, lots of work left to do. But through our planning group, through our First Nations relations group, through our Timberlands operating group, all the work we've been doing around integrated resource management plans, the first forest landscape planning plan that was completed here in British Columbia. We're starting to reap the rewards of that investment. So it really speaks to the work that's been going on for the last couple of years, and now we're starting to see the benefits of that.

That's great to hear. And you gave some context around your order file headed into the third quarter on the lumber side. Given all the puts and takes you've talked about here, can you give us perspective on the lumber production profile through the second half of the year and how that might translate into the shipment trend in Q3 and Q4?

Yes. So we've had the Chemainus sawmill curtailed since the beginning of the year. That started actually in 2025. We've had Cow Bay curtailed for the majority of Q2. So I think the lumber shipments are going to be fairly similar for Q3, Q4 as what we had here for the first 2 quarters. What we're doing is that if we see opportunities to increase our volumes, we have the opportunity to restart quickly or to add some incremental hours at our existing facilities that are running. So directionally, I would say they'll be fairly consistent here for the next couple of quarters.

Okay. One last one for me, Steven. We asked the same question last quarter, but you've got really good visibility on balance sheet transitioning to net cash and lots of flexibility. Has management team and the Board given updated thoughts to bigger picture growth ambitions, whether it's specific discretionary CapEx projects or acquisition opportunities? Any evolution in the thinking on your appetite on that front?

Yes. I would say today that we've worked incredibly hard to put our balance sheet in this position. We're going to continue to be very disciplined as we assess opportunities, whether they're here in British Columbia or in different geographic jurisdictions. We have a very clear strategic plan with strategic priorities. We know that our cost structure inside of our manufacturing facilities is too high. And everything that we're doing is focused on reducing that. So when I think about kind of the next phase of strategic capital that we would look to deploy, it would really be around addressing some of these inherent cost structure challenges that we have on the manufacturing side. So we have a modest investment plan that we've previously talked about inside of our engineered wood facilities in Washington State. We continue to be encouraged by the results we're seeing on the mass timber side in North America and the adoption of that building system, and we plan to move forward with that investment as we go into 2027. So I would say directionally, we continue to look at opportunities as they present themselves, but we're very much aware of some of the internal challenges that we have and that will need to get addressed. So I would view that as our initial priority, Sean.

The next question is from Ben Isaacson with Scotiabank.

Just 2 questions from me. The first one is on Cowichan Bay. So you've curtailed for the balance of '26. What exactly do you need to see to restart that mill? And can you talk about risk of permanent closure?

Yes. I won't comment on the second question. I will comment, though, on the first question. So the Cowichan Bay sawmill is primarily focused on Western Red Cedar. And the log profile that we consume there is a combination of both small diameter chip and saw and then kind of medium diameter gang cedar. And clearly, the key and largest market for knotty cedar that, that mill produces is in the United States. And so what would we need to see? We've run into, I would call a ceiling in our ability to increase prices to compensate for the current 45% tariffs. So what we would need to see is a meaningful reduction in duty and tariff that allows us to be competitive in that key market to sell knotty finished product for Western Red Cedar, decking and soffit and sidings and those type of product lines. So I guess the short answer is a negotiated settlement to the current softwood lumber agreement and the Section 232 tariffs that we currently face.

That's super helpful. I appreciate that. Next question is on these kiln investments, these value-added investments. Can you just talk about the EBITDA uplift or margin improvement or IRR? Like how should we think about what you're seeking to earn on the capital deployment?

Sure. Maybe I'll just -- I'll ask -- I'll speak to it at a very high level, and then I'll turn it over to Glen and Bruce. Directionally, what we're doing here is we're increasing our overall kiln capacity, and then we're lowering the cost structure of the go-forward cost to kiln dry lumber. And so these new continuous dry kilns are much more efficient from a natural gas utilization standpoint. They dry lumber faster. And so at a high level, that's what we're doing. And then we're shutting -- we essentially have shut down all of our high-cost batch kilns that were currently being used. But Glen and Bruce, maybe some additional color from you, gentlemen.