Timberland Investment

Executives

Mark McHugh - SVP and CFO
Dave Nunes - President and CEO
Doug Long - SVP, U.S. Operations

Analysts
Collin Mings - Raymond James
Ketan Mamtora - BMO Capital Markets

Collin Mings

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Mark, you've spent a lot of time discussing Timberland markets and just return to the asset class over time, just kind of against that backdrop, just maybe talk a little bit about what you're seeing in terms of deal flow. It looks like you guys made a total of about $7 million to $8 million in Timberland acquisitions during the quarter.

Mark McHugh

I guess, it had a very high level and I'll invite Doug or Dave to comment as well. I'd say we continue to see a pretty robust Timberland M&A market.
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But overall I'd say we continue to see a pretty steady pace of activity and just to be clear, I'd say the Timberland market as a whole doesn't tend to overreact to the noise that we see in the market around kind of monthly housing stats and things of that nature.
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Keep in mind, this is an asset class, it's underwritten on a 25-year to 50-year DCF assuming making assumptions regarding long-term sustainable harvest flows and trendline prices and so you know, we tend to not see the private market correct meaningfully relative to these statistics that we see coming on a regular basis. I'd say the China situation is certainly creating some noise in the market.
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But I'd say overall, discount rates, maybe there's been a bias towards seeking higher IRRs in transactions given the rise in interest rates, but again, Timberland tends to be valued on a real DCF basis and so while the overall interest rate environment fluctuates, it is certainly up over time. I wouldn't say people's view of real long-term discount rates have changed significantly.

Ketan Mamtora

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And then just turning to sort of U.S. south on the domestic side, have you seen with this sharp drop in lumber prices, have you seen any signs of people pulling back on these sawmill projects that have really come up quite a bit over the last 12 months? Are you seeing any signs of people either postponing it or pulling back? Or even sort of any signs of kind of caution on bidding for stumpage?

Doug Long

Yes, it's Doug again. So we haven't heard of anybody pulling back on their projects. Again, I think a lot of people feel that this is a short term thing and not the long term. So, I think they are continuing moving forward. And delay that we have heard of so far on the sawmills have been more around resourcing and getting equipments and people to work on the projects. So we haven't heard of anyone who specifically said they are pulling back based on kind of what we believe is going to be a short-term correction. On the stumpage side, as probably we have talked about for the last couple of quarters, we didn't see our southern stumpage prices run up with the lumbar. And we also haven't seen them go down with the lumber. So they haven't been correlated to lumber prices at all. And so, I guess while it would have been nice to see them run up with the lumber, the other side of equation they have been very stable and we have just continued moving forward with what's been going on for the rest of the year.

Rayonier Inc., through Rayonier Atlantic Timber Co. and Rayonier Forest Resources L.P., sold up to 7,000 acres in St. Johns County last week for $25.24 million.

Rayonier, based in Yulee, sold the property to New York-based First Coast Land and Timber LLC, formed in November. The property is between Interstate 95 and U.S. 1 from St. Augustine to Hastings.

Alejandro Barbero, Rayonier director of strategic development and communications, said the property was 6,500 to 7,000 acres of timberland in southern St. Johns County.

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Barbero said the offer was unsolicited. “Sometimes we receive unsolicited offers. When it makes sense, we execute on transactions,” he said. He declined to comment on the buyer’s identity or plans for the property.

The deed shows that First Coast Timber’s New York City address is the same as Ruane, Cunniff & Goldfarb Inc., a privately owned hedge fund sponsor. It manages Sequoia Fund Inc., described by Bloomberg as an open-ended equity mutual fund begun and managed by the firm.

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Rayonier says in its corporate profile that its growth “is boosted by an excellent portfolio of properties suited for higher and better uses in the fast-growing US Southeast region, primarily in the coastal corridor between Northeast Florida and Southeast Georgia along Interstate Highway 95.”

Its Real Estate operation develops strategies to transition timberland “for higher and better uses” while its Forest Resources operation sells timber to markets that include pulp, paper, building products and energy production.

In September, Rayonier sold 1,311 acres at its Crawford Diamond Industrial Park in Nassau County to Florida Power & Light Co. for $13.1 million. The utility has not said what it intends to do with the property. Rayonier retains almost 500 acres there.

Rayonier also is developing the 2,900-acre Wildlight mixed-use development at northeast I-95 and Florida A1A in Yulee.

Rayonier Inc. (NYSE:RYN) today announced that the company has entered into three transactions with separate sellers to acquire approximately 95,100 acres of high-quality industrial timberlands located in Florida, Georgia and South Carolina for an aggregate purchase price of approximately $217 million, or $2,280 per acre (the “Acquisitions”). The Acquisitions are comprised of highly productive timberlands located in some of the strongest timber markets in the U.S. South, primarily along the I-95 coastal corridor near Savannah, GA.
Key attributes of the Acquisitions include the following:

• Strong timber markets – located in the top three U.S. South timber markets based on average composite stumpage price by region (1)
• Diverse customer base – very competitive wood market with multiple pulpwood, grade and export customers
• Highly productive timberlands – 78’ site index; 73% plantable; sustainable yield* of approximately 450,000 tons (or 4.7 tons per acre per year on the acquired lands)
• Well-stocked timber inventory – 4.3 million tons of merchantable timber inventory* (or 45 tons per acre); average plantation age of 14 years
• Complementary to existing Rayonier landholdings – increases Rayonier’s ownership in U.S. South Coastal Atlantic markets by approximately 15%
• Primarily fee simple ownership – 89% fee simple ownership and 11% leased lands
• Accretive to cash flow – targeting an annual increase in Adjusted EBITDA** and Cash Available for Distribution (CAD)** of approximately $13 million and $10 million, respectively, over the medium-term

Rayonier expects to finance the Acquisitions with cash on hand and the proceeds of a follow-on offering of Rayonier common shares, which the company also announced today. 

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(1) Based on Timber Mart-South weighted average composite stumpage price by region assuming product mix of 50% pulpwood, 30% chip-n-saw and 20% sawtimber.

Executives

Mark McHugh – Senior Vice President and Chief Financial Officer

Dave Nunes – President, Chief Executive Officer and Director

Doug Long – Senior Vice President-U.S. Operations

Chris Corr – Senior Vice President, Real Estate and Public Affairs

Analysts

Collin Mings – Raymond James & Associates, Inc.

Ketan Mamtora – BMO Capital Markets (United States)

Mark Weintraub – The Buckingham Research Group, Inc.

Mandeep – RBC Capital Markets

Mark Weintraub

Okay. And then lastly sort of shifting gears. A fair bit of timberland that might be coming to the market in the next year, year and a half via the TIMOs. How important – is what's going on in interest rates to how these lands are likely to – or how you would view, how you would value these properties?

Dave Nunes

Well, it’s dynamic. I mean, I think that in some level as you see a rising interest rate environment that rising interest rate environment is predicated on an inflationary environment, which is in turn predicated on higher production – product pricing. So as we see more inflation impacting the price of the products, we expect that that's going to play into the rise in interest rates. We certainly look at it more from – we factor that in as we think about hurdle rates, but we're also looking at it from the perspective our alternative uses of capital and we’re always - when we look at acquisitions understanding how our own timber is trading at the time on an imputed discount rate and we compare that to what we think the market clearing discount rate is on any particular transaction. I don’t know Mark if you want to add anything to that.

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Mark Weintraub

Well, and maybe just add one more. Would look that like particularly in the U.S. South that buyers already incorporate substantial appreciation in expected sawtimber pricing et cetera. Now do these same models in your judgment certainly can use your own thought process, do they incorporate meaningful increases in interest rates as well? Or is it that you've actually, the models are getting benefit to price appreciation and not necessarily so much for the interest rates. Of course prices could go up more than what’s imputed, but any thoughts on that?

Dave Nunes

Yeah, I mean, it probably depends on who you're talking to, I mean everybody – it’s a little bit differently and recognize too that you know a big impact. This really kind of boils down to how you think about discount rates and hurdle rate and it's not only you know, reflective of your cost of capital and alternative uses of capital, but it's also reflective of the flows of capital. What we've seen is that there's been continued interest in the timber asset class from a capital flow standpoint and that has tended to have a dampening effect on cap rates in the sector as people have pushed money into this sector from a flight to quality and just a general conservative investment perspective. So you’ve got some offsetting things at play there.

Rayonier Inc. (NYSE:RYN) today announced the company has completed two separate transactions to enhance its Pacific Northwest timberland portfolio. The transactions include the acquisition of approximately 61,000 acres of well-stocked, highly-productive timberlands in Oregon and Washington, and the disposition of approximately 55,000 acres comprised of predominantly pre-merchantable timber in Washington. On a combined basis, these transactions will smooth the age-class distribution and materially improve the sustainable yield, near-term harvest potential, species mix and market diversification of the company’s Pacific Northwest timberland portfolio.

Menasha Acquisition: The first transaction involves the purchase of Menasha Forest Products Corporation (“Menasha”) jointly with Forest Investment Associates (“FIA”), a leading timberland investment management organization (“TIMO”) based in Atlanta, Georgia. Menasha is a privately held timberland REIT with approximately 132,000 acres of timberland located in Oregon and Washington, which since 2007 has been managed by Campbell Global, a leading TIMO based in Portland, Oregon. Rayonier teamed with FIA to acquire all of the outstanding common stock of Menasha. In a subsequent transaction that is expected to close in the second quarter, Rayonier and FIA will distribute the timberlands to various entities, ultimately resulting in Rayonier owning an identified portfolio of 61,000 acres of the Menasha timberlands for a final purchase price of approximately $263 million.
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The Menasha acquisition (average plantation age of 22.4 years) complements the age-class profile of the company’s existing Pacific Northwest portfolio (average plantation age of 19.0 years). The property is comprised of approximately 85% operable lands and contains merchantable timber inventory of approximately 326 MMBF (2.6 million tons), of which an estimated 83% is Douglas-fir. The acquisition is expected to increase the company’s sustainable yield by approximately 38 MMBF (305,000 tons) per year and increase the company’s average annual harvest over the next five years by approximately 40 MMBF (320,000 tons).

Washington Disposition: The second transaction involves the sale of approximately 55,000 acres of timberland located in Washington to FIA for approximately $130 million. The Washington disposition (average plantation age of 12.6 years) evens out the age-class distribution of the company’s existing Pacific Northwest portfolio. The property is comprised of approximately 75% operable lands and contains merchantable timber inventory of approximately 44 MMBF (350,000 tons), of which an estimated 28% is Douglas-fir. Excluding the effect of the Menasha acquisition, the Washington disposition would decrease the company’s sustainable yield by approximately 25 MMBF (200,000 tons) per year; however, average annual harvest over the next five years is expected to decrease by only 9 MMBF (70,000 tons) from this disposition due to the younger age-class profile of the property.

Ketan Mamtora

And last question, there has been some press recently around reworking the Endangered Species Act. Do you think there was any possibility that the federal lands could be opened again on the Pacific Northwest for harvest I mean for most of us we haven't seen that at all in the last 25 to 30 years but do you think there is any possibility that could happen?

David Nunes

That would surprise us. I think that recognize that you have virtually no manufacturing capacity in place that could even handle that wood if it were to occur. And I think that we've just gone too far down that line you know from a policy standpoint. So I think that that's not something that we think is really on the horizon.
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Mark Weintraub

Two quick questions one on the Timberland sales that you're seeing out there. Is this primarily an auction type processes or are you talking about more situations where it's you and maybe a contiguous owner et cetera?

David Nunes

It's really both. We're always in discussions with neighbors whether it's on the buy side or the sell side. Those are obviously logical situations and then there's always a decent mix of negotiated sales versus auction situations and different sellers have different preferences around doing that and it's our job to sort of understand both the landscape there in terms of properties that may or may not be for sale as well as the preference of those owners in terms of how they take it to market.

Mark Weintraub

And in those situations where it is more auction process, is there any shift that you could describe as to what seems to be going on in the processes relative to what we've been seeing in the last couple of years? I know that's a tough question to answer but any color you could give?

David Nunes

I am sorry, what do you mean by that Mark in terms of what's going on in those processes. I mean they remain very competitive I mean we certainly haven't seen demand for timberland properties trailing off and in fact we haven't been very successful in auction processes in the last couple years.

Mark Weintraub

And that's really what is trying to get out is I mean you haven't been very successful because it's been so competitive. Is there any reason to think that you're that much more likely to be successful in the auction type processes or I assume if it still remains very competitive. It's more likely you're going to be in the more private type of negotiated transactions?

David Nunes

I'd say the bulk of the activity that we have acquired has been and negotiated transactions. No question, that doesn't mean that we don't still take a crack at auctions and we have a low batting average there that we're proud of. You don't want to have a high batting average in auctions frankly.

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Ketan Mamtora - BMO Capital Markets (United States)

All right. That's helpful. And then, just turning to U.S. South, my final question. Do you still think that 1.3 million, 1.4 million housing starts is about where the inflection point is for Southern log pricing? Or there has been any rethink around that or maybe in terms of just lumber consumption in the U.S. South? Any thoughts there will be helpful.

David L. Nunes - Rayonier, Inc.

I think the message that we have been trying to communicate with investors is it really depends on the market that you're in. And recognize that the U.S. South really consists of a series of smaller markets and we believe that there are subsets within the South, particularly today, in that Atlantic coastal region where we are essentially at a fairly tensioned market where we see price elasticity such that when we have changes in lumber prices we see that translate more rapidly into changes in log prices, whereas in other parts of the U.S. South, we're not seeing that as much. We believe that the inflection point in some of the softer markets in the U.S. South is probably above the 1.5 million housing start level. So there will be parts of the U.S. South where you probably won't see meaningful price increases for a couple of years.
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Steven Pierre Chercover - D.A. Davidson & Co.

Thanks. Good morning. So I too had a question on New Zealand. Only a couple years ago, the guidance for the region was less than $30 million at the high end and now the midpoint is triple that. So is that a function of increasing consolidation as you've increased your stake or is profitability changed that much?

David L. Nunes - Rayonier, Inc.

I think it's been a number of things, Steve. There has been modest increases in the footprint, but I'd say it's more driven by a combination of strong markets and favorable shipping, logistics costs. You had a period where we had an abundance of vessels that service the log trade, combined with low oil prices that translated in some of these periods record low shipping rates at a time when you had very strong demand across the spectrum. We saw as well increasing substitution within China, particularly on the plywood side, where we saw more radiata flowing into plywood, so that today roughly 30% of radiata goes into plywood.

We also saw the ban on the harvest of native forests in China, due to overharvesting over a period of time. So that translated into a restriction on domestic supply at the same time that you had a strong growth in demand. And so the China market for logs has grown, while the domestic supply has shrunk and New Zealand has just been very well situated to compete in that market, both in terms of where those logs compete both geographically and product wise and then to combine that with very favorable shipping rates. So across that spectrum, I'd say it's a much heavier mix from a margin standpoint.

Dave Nunes - President & CEO

Before discussing our results for the quarter, I'd like to briefly address our recent equity offering and portfolio moves in the U.S. south. On March 16, we announced that company had entered into three transactions to acquire approximately 95,100 acres of high quality industrial timberlands located in Coastal Florida, Georgia and South Carolina.

We recently closed on the transactions for a final aggregate purchase price of $214 million or roughly $2250 per acre. We're very excited about these acquisitions as they meaningfully increase our footprint in some of the strongest markets in the U.S. south. Further, these properties are highly productive with an average site index of 78 feet and average productivity of 4.7 tons per acre per year.

Over the next five years we expect that these properties will contribute on average roughly 13 million of incremental adjusted EBITDA per year to our Southern Timber segment. So while these properties transacted at a relatively high per acre value reflective of their high quality, we expect them to generate a strong cash yield and an attractive long-term return for our shareholders.
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Mark Wilde - BMO Capital Market

Okay. And then finally Dave if I could one of the trade papers recently had an article suggesting some cooling in the Southern timberland markets I assume you seen this and I wondered if you had any thoughts on that?

Dave Nunes - President & CEO

Our view is always been that it really is quality dependent and I think that you’re seeing a mix of quality assets there's plenty of deal flow right now but there's a mix of assets. Certainly at one end of the spectrum you have the transactions that we recently completed, that were very high quality assets in high quality markets. There are other assets that are going to be at lower quality and I think that depending on how you look at markets and which of those assets you're looking at, it’s going to color your view of markets.

But I think we still are seeing strong market dynamics in terms of capital trying to get into the asset class and I don't know that we espoused to the markets cooling as much as we do really been driven by the quality of the assets that are out there.
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Steve Chercover - Davidson

My last question again, forgive me if I might've missed it, but in southern sawtimber, the price is about as flat as a board. So when do you expect tension in that market that will help elevate prices?

Dave Nunes - President & CEO

I think it's quite variable. In our discussions with investors, we are focusing on the relative build in inventory across the U.S. south and we continue to believe and see that there is going to be very variable price elasticity going forward. And in some of our more tensioned wood baskets, we're experiencing that price elasticity now and in other wood baskets that are less tensioned, we're not.

And I think it it's been to some degree exacerbated by the weather factors and the demand reductions associated with these two pulp mill incidents that Doug referenced that I think have exaggerated perhaps some of the effects. The La Niña conditions that have currently translated to a lot of dry weather in abundance of supply, as well as the demand reduction, neither of those two things are going to be long-term in nature.
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Chip Dillon - Vertical Research

And then maybe lastly when you think about the 95,000 acres you bought they all seem to be relatively close to I95 and I know there is some very empty spaces still along the highway. But that doesn't mean that in five or 10 years whether it’s warehouses or other types of development could occur. Is there some optionality on these 95,000 acres in your mind, you might not have valued it as such when you made your deal, but do you think it's reasonable that if things progress that you could see some HBU potential among these acres?

Mark McHugh - SVP & CFO

I expect that we’re going to sell probably 20,000 to 30,000 acres a year into those HBU markets. And you kind of see the price premiums. I think the last couple years we've averaged 2500 to 2750 an acre, so that kind of gives you a sense as to our kind of run rate expectation for that business and I think it was generally kind of translate into a similar range to what we're forecasting for this year.

And so as it relates to the upside potential in the recent acquisition you know it’s absolutely something that we see is creating some upside over time. We didn’t underwrite it into our acquisition underwriting. We didn’t need to. This was a property from a timber standpoint really supported the valuation without that but clearly these markets are again in that sort of path of growth in the I95 corridor and so we do see some upside there over time keeping in mind that because the timber value here is so high it’s sort of hurdle rate to actually sell into that HBU market is going to be materially higher as well.

Dave Nunes - President & CEO

Chip another thing to think about it is that there's a portion of those assets that actually have HBU value from an agricultural conversion and that's not something that you see very often, but it speaks to when you have site index that’s that high and you see surrounding lands that are in active agriculture, it’s suggestive of that.

Chip Dillon - Vertical Research Partners

Yes. Hi. I just had a general question about you gave a great slide on your M&A acquisition strategy or timberland acquisition strategy. When you look at today's like interest rate environment, if you were to debt finance timberland sort of at some of the asking prices you're seeing in areas that might be of interest to you, would you say the spread looks good to you, or it's not very favorable? How do you sort of compare the cap rates and the returns you're seeing with the financing costs?

Mark McHugh - Senior Vice President and Chief Financial Officer

Yeah. I mean we continue to think that in the M&A market sort of the going rate from a DCF, a discount rate standpoint, is in probably the 5% to 5.5% range. And that could swing on – 5% to 5.5% real, which would be net of inflation. And the deals I'd say that we're more focused on tend to be deals that are delivering the majority of that or vast majority of that in cash flow. And so we're frequently looking at deals that have relatively strong cash yields relative to that discount rate. Certainly with where we're able to finance in the debt markets today, there is a pretty healthy spread, call it, 200 basis points to 300 basis points to our debt financing rates.
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Mark William Wilde - BMO Capital Markets (United States)

Yeah. I think you might have answered a big part of my question when you answered Chip's. I was just curious with these very low interest rates whether you're seeing any kind of downward pressure on discount rates?

David L. Nunes - President, Chief Executive Officer & Director

I'd say that they've held relatively firm in the last – probably in the last 18 months. Again, what we've seen is differential discount rates for different quality transactions. Again, I think on average, across the U.S. South we think the going rate is in that 5% to 5.5% real, but we've seen people pay up for very high quality properties. Likewise, we've seen some no sales and some transactions that certainly traded above that just relative to the risk of the particular portfolio or the inventory mix and the maturity of the age class.

Mark William Wilde - BMO Capital Markets (United States)

Okay. Mark, I know over time there have been points where a lot of the activity with the TIMOs has come from kind of offshore money and with rates so low over in Europe right now, are you getting a sense that the TIMOs are seeing more offshore money coming in?

David L. Nunes - President, Chief Executive Officer & Director

I think that's probably true, Mark in both the private equity as well as some of the public equity. I mean I think you're seeing more of it as well in the context of investors into the timber REIT space, but I think that we're continuing to see fairly healthy demand for timber from offshore capital for all of the reasons that you would expect, sort of flight to quality, the low interest rates in Europe as an example. You're seeing yield, people coming here for safe yield, and so I don't think we've seen any dissipation of that type of capital flow.

Mark William Wilde - BMO Capital Markets (United States)

Okay. And then last question, kind of along the same lines. Dave a while back you mentioned to me that you thought that actually discount rates were still wider down in New Zealand. Have you seen any tightening there?

David L. Nunes - President, Chief Executive Officer & Director

New Zealand has less deal flow certainly than the U.S. And so you don't have as many data points. I think that there have been some recent transactions in New Zealand where we've seen lower discount rates than what you typically see in a lot of appraisals. So I think one of the things to keep in mind with New Zealand though is that a lot of the land in New Zealand is tied up in long-term leases or in forestry rights. And so those leases, I think, tend to contribute to a higher blended discount rate in New Zealand, relative to say, to the U.S.